Net and total transition costs: the timing of economic reform

Abstract

Countries face an ongoing need for fiscal adjustment and economic reform - adjustment and reforms that involve short-term transition costs. Thus economic agents, depending on their time preference for present consumption or on the level of economic populism in a given society, will postpone the required measures. On the other hand, if the corrective measures are not adopted, after a certain lapse of time procrastination costs arise. The net transition costs of adjustment and reform are the difference between these two costs: they may explain the timing of reform. If adjustment and reform is undertaken soon after economic distortions appear, the net transition costs will be high, but, as a tradeoff, recovery will come sooner. As economic agents show a greater preference for present consumption, they will postpone adjustment and reform. Then, the procrastination costs will start to rise. This trend may reach a point where the cost curve of adjustment and reform cross the procrastination cost curve. At this point net transition costs turn negative, so that even for the more populist economic agents that give full preference for present consumption, it becomes rational to adjust and reform. (C) 1997 Elsevier Science Ltd.