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Law, Focal Points, and Fiscal Discipline in the United States and the European Union

Published online by Cambridge University Press:  08 May 2014

R. DANIEL KELEMEN  and
TERENCE K. TEO
R. DANIEL KELEMEN*
Affiliation:
Rutgers University
TERENCE K. TEO*
Affiliation:
Rutgers University
*
R. Daniel Kelemen is Professor of Political Science, Rutgers University ([email protected]).
Terence K. Teo is Ph.D. candidate, Department of Political Science, Rutgers University ([email protected]).
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Abstract

Many studies suggest that strict balanced budget rules can restrain sovereign debt and lower sovereign borrowing costs, even if those rules are never enforced in court. Why might public officials adhere to a rule that is practically never enforced in court? Existing literature points to a legal deterrence logic in which the threat of judicial enforcement deters sovereigns from violating the rules in the first place. By contrast, we argue that balanced budget rules work by coordinating decentralized punishment of sovereigns by bond markets, rather than by posing a credible threat of judicial enforcement. Therefore, the clarity of the focal point provided by the rule, rather than the strength of its judicial enforcement mechanisms, determines its effectiveness. We develop a formal model that captures the logic of our argument, and we assess this model using data on U.S. states. We then consider implications of our argument for the impact of the balanced budget rules recently imposed on eurozone states in the Fiscal Compact Treaty.

Type
Research Article
Information
American Political Science Review , Volume 108 , Issue 2 , May 2014 , pp. 355 - 370
Copyright
Copyright © American Political Science Association 2014 

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