What is the advantage and disadvantage of fiscal illusion policy for the financial market?

Fiscal illusion suggests that when government revenues are not completely transparent or are not fully perceived by taxpayers, then the cost of government is seen to be less expensive than it actually is.

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    $\begingroup$ It's one thing to fool the average citizen. But fooling the financial markets? Good luck. $\endgroup$
    – Steve S
    Nov 20 '14 at 9:31
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    $\begingroup$ Can you please provide references that define, model and examine the concept of "financial illusion"? $\endgroup$ Nov 20 '14 at 13:52

Too long, didn't read: the market does not care.

Colombia's Pension Reform: Fiscal and Macroeconomic Effects, by Klaus Schmidt-Hebbel, states black on white (p 22) that

issuing explicit domestic debt for paying off implicit government debt does not have first-round macroeconomic and financial effects

on the condition that the financial markets see through the debt swap. Fiscal illusion aimed at tax payers does not have any impact on tax payers, but the same Schmidt-Hebbel notes that the market could be fooled too.

Peek and Wilkox looked into it and conclude that there is no data showing that fiscal illusion ever had an impact on interest rates, which leads me to conclude that, despite KSH's prudence, there is no (first hand) effect of fiscal illusion on the financial market. Of course, it can have secondary advantages such as leading the market to assume more political stability by raising popularity, or leading the market to distrust you, but these are corollaries of the effects of fiscal illusion on the people rather than pros and cons of fiscal illusion to the market.


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