Development of the structural deficit in Israel, 2000–12

16/02/2014 |  Mazar Yuval
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Fiscal Policy

 
Abstract:
This paper examines how the general government’s deficit developed over the years 2000–12, by disaggregating the path of the deficit into three different components—statutory, structural, and cyclical. The statutory deficit is calculated as the difference between statutory tax rates and the share of public expenditure in potential output. The structural deficit refers to structural changes which occurred in the economy during the period reviewed and which impacted on tax revenues. The statutory-structural deficit includes both these measures. The remainder of the deficit—the segment which statutory and structural changes do not explain—we ascribe to the business cycle.[1]

Our research indicates that although most of the variance in the deficit over the years derived from the business cycle, in 2002–04 the statutory-structural deficit declined sharply, primarily because the government adopted a policy of reducing the share of public expenditure in GDP. From 2005 through 2008, the statutory-structural deficit increased gradually, primarily because statutory tax rates declined by more than the decline in the share of public expenditure in GDP; however, it was also because the structural deficit increased as a result of a decline in salaries relative to per capita GDP. Beginning in 2008, the level of the statutory-structural deficit stabilized at around 4 percent of GDP, similar to its level in 2002, as a result of essentially maintaining the share of public expenditure and statutory tax rates. Based on the calculation in the paper, most of the increase in the general government’s deficit in 2012 derives from the business cycle.


[1] In actuality, the revenue component also includes inter-government transfers (grants). We don’t view those transfers as any of the three components listed above. However, since they make up part of revenues, we will subtract them each year from the residual deficit, and we will refer to the resulting figure as the cyclical component.