This study evaluates the efficiency of the cyclically-adjusted budget balance (CABB) as the central gauge in the reinforced European fiscal framework for evaluating fiscal discipline. We do this by means of a simulation experiment. We use an estimated DSGE model to simulate all the macroeconomic data needed to assess the CABB according to the official EC methodology. Additionally, the model contains an expenditure fiscal rule that accounts for non-automatic variation in the budget, which allows us to observe the true discretionary measures of fiscal policy. Our results indicate that the EC methodology frequently fails to identify the true fiscal policy stance and also frequently fails to correctly signal potential violations of the SGP limit on structural deficit. In the latter case triggering corrective fiscal contractions to comply with the SGP results in increased macroeconomic instability. In addition, we show that allowing for a bigger role for stability-oriented discretionary policy and thus relaxing the SGP limit on structural deficit could enhance the stabilization efficiency of fiscal policy without reducing the degree of compliance with the Maastricht Treaty. These conclusions apply to small countries in a monetary union as well as large countries with independent monetary policy.

Countries that joined the European Union in 2004 have to decide when to adopt the Euro. This decision depends on the evaluation of the relative costs and benefits associated with giving up the exchange rate instrument. Recent empirical work on several new EU members has questioned the role of the exchange rate as a shock absorber, thus downplaying the potential costs in terms of macroeconomic stabilization. In this paper, we address the issue from a different perspective, emphasizing the role of pass-through from exchange rate to domestic inflation in new EU members. The focus is on four countries (Czech Republic, Hungary, Poland and Slovenia – NM-4) that have adopted some form of floating or managed exchange rate regimes. The paper reports empirical results indicating high pass-through coefficients and links them to the degree of policy accommodation. High exchange rate pass-through in NM-4 indicates that stabilization of nominal exchange rates would lower inflationary pressures and help fulfill criteria to enter the EMU.

In this paper we propose a novel credit risk modelling approach where number of days past due is modeled instead of a binary indicator of default. In line with regulatory requirements, the number of days overdue on loan repayments are transformed to a binary variable by applying 90-days past due threshold, and use it as the dependent variable in default probability models. However, potentially useful information is lost with this transformation. Lower levels of days past due are expected to be good predictors of future incidence of default. We show that a dynamic Tobit model, where number of days overdue is used as a censored continuous dependent variable, significantly outperforms models based on binary indicators of default. It correctly identifies more than 70% of defaulters and issues less than 1% of false alarms. Its superiority is confirmed also by more accurate rating classification, higher rating stability over the business cycle and more timely identification of defaulted borrowers. The implications for banks are clear. By modelling number of days past due they can significantly improve risk identification and reduce procyclicality of IRB capital requirements. Moreover, we show how modelling of days past due can be used also for stage allocation for the purposes of IFRS9 reporting.