It should be a given that the euro area’s monetary and budgetary policies should be shaped by the underlying trends and political objectives in Europe. So it is on the basis of those trends and objectives that the policies should be judged. That does not mean that the economic policies adopted on either side of the Atlantic cannot be compared. But for such a comparison to be reliable, its control variable needs to be precisely the underlying trends and policy objectives in the two areas. In other words, there must be a symmetrical comparison conducted on an equal footing, capable of allowing us to explain any differences encountered, including on the basis of the distinct characteristics of the two economies. 1  My thanks to Roberto Motto and to Adina Popescu for their help in preparing this lecture. BIS Review 135/2008  1  Today I would like to present an analytical model that should help us to understand whether, and why, economic policies – with particular reference to monetary and budgetary policies – have been different in the euro area and in the United States. This may prove useful to those, especially in Europe, who wonder why certain decisions are made on our continent, and the reason why they sometimes differ from those reached in the United States. 2. Monetary policy  It does not take a huge number of graphs or tables to show that monetary policies in the euro area and in the United States have partly differed over the past ten years.
The discretionary component of budget policy, by contrast, can be measured by the variations in the primary balance adjusted to account for cyclical effects. According to the OECD’s figures, the budget balance in the United States, adjusted for the economic cycle, as a percentage of GDP shifted from a break-even situation in 1998, to a 0.9% surplus situation in 2000, and then to a 4.5% deficit in 2003 (and a 3.2% deficit in 2007; Figure 2). The aggregate deficit in the euro area adjusted for the cycle fluctuated between 2.7% in 2002 and 0.7% of GDP in 2007. The budget balance fluctuation range has thus been significantly 23 narrower than in the United States. To summarise, automatic budget stabilisers are more important in the euro area, while in the United States there is greater recourse to discretionary policies. 3.3  Shocks  As with monetary policy, the difference in the shocks hitting the two economies may explain the varying degrees of fiscal activism. In theory, an economy which is hit principally by demand shocks should make greater use of anti-cyclical budget policies than an economy hit mainly by supply shocks. This is a topic on which, as far as I know, no empirical studies have been conducted to date and it is thus a particularly interesting field of research. A hypothesis worth examining is the extent to which the greater frequency of demand shocks in the United States has justified greater fiscal activism in an anti-cyclical direction.