Multi-step analysis of public finances sustainability

•Original multi-step analysis to assess the sustainability of public finances.•1st, mean-reverting behaviour of government expenditures and revenues; 2nd, bootstrap panel cointegration.•3rd, coefficient of expenditure in cointegration relation; 4th, panel error correction models for short- and long-run fiscal developments.•Results imply that public finances were not unsustainable for the EU panel.•But, fiscal sustainability is an issue for most countries.

We use an original multi-step analysis to assess the sustainability of public finances. Firstly, we investigate the mean-reverting behaviour of government expenditures and revenues. Secondly, we apply bootstrap panel cointegration techniques to check for a long-run relationship between expenditures and revenues. Thirdly, we check the coefficient of expenditure in the cointegration relation. Fourthly, we estimate panel error correction models to identify short-run and long-run fiscal developments. While the results imply that public finances were not unsustainable for the EU panel, they highlight that fiscal sustainability is an issue for most countries, as evidenced by a below unit estimated coefficient of expenditure in the cointegration relation.