DP2 | Allocative and Stabilisation Aspects of Budgetary and Financial Policy


Publication Date


JEL Code(s)


Programme Area(s)


The Paper deals with the principles that should govern the design of budgetary and financial policy. The analytical divorce between stabilisation policy, which concerns deviations from full employment (or full information) equilibrium and allocative policy which concerns the full employment (or full information) equilibrium configuration itself is rejected. The detailed composition of a public spending programme on goods and services is as relevant as its overall size. Financial policy (the financing of a given spending programme on goods and services) matters because of capital market imperfections (including the non-existence of many contingent forward markets). There are no intellectually respectable models (Keynesian, monetariat or classical) that generate the conclusion that a continuously balanced budget is desirable, let alone optimal. The sustainability of a fiscal and financial programme can be evaluated by constructing the comprehensive balance sheet of the public sector or its permanent income. The United Kingdom government appears to be consuming less than its permanent income, generating an unsustainable 'permanent surplus.'