The Feldstein–Horioka model re-visited for African countries

We study the relationship between the saving and investment rates for 20 African countries using a long period of data. A high correlation between saving and investment is often taken as evidence of capital immobility. We use the new Ng–Perron unit root tests to examine the stationarity of saving and investment rates. Both Johansen cointegration tests and fractional cointegration tests are used. The results are mixed. The Johansen cointegration tests show that the saving and investment rates are cointegrated only for Rwanda and South Africa. This implies that for the other 18 countries, there is evidence of capital mobility. The fractional cointegration test results are different. The two rates are found to be fractionally cointegrated for the following 12 countries: Algeria, Burundi, Egypt, Morocco, Niger, Rwanda, Senegal, South Africa, Swaziland, Tunisia, Tanzania and Zimbabwe. For Cote d’Ivoire, Kenya, Lesotho and Sierra Leone there is some evidence of capital mobility while the results for Ethiopia, Malawi, Mauritius and Nigeria are mixed.     

The importance of composition of fiscal policy: evidence from different exchange rate regimes

We study the macroeconomic effects of fiscal policies in an open economy. We emphasize two transmission mechanisms: the cost channel, by which wage government spending and labor taxes raise the real wage firms must pay, and the exchange rate channel, by which the nominal exchange rate shifts induced by fiscal policy have real effects if (some) prices and wages are sticky. The latter channel implies that changes in wage government spending or in labor taxation should have different effects under flexible than under fixed exchange rates. In a 1964–93 panel of OECD countries we find significant evidence for both channels. Moreover, we find that the real product wage and profitability are more responsive than quantities (employment and output) to fiscal policy innovations.     

Automatic stabilizers, fiscal rules and macroeconomic stability

This paper analyzes the effect of the fiscal structure upon the trade-off between inflation and output stabilization induced by technological shocks in a DGE model with nominal and real rigidities that also integrates a rich menu of fiscal variables as well as a target on the debt to output ratio. The channels through which fiscal policy affects macroeconomic stability include supply-side effects of distortionary taxes, the procyclical behavior of public spending induced by fiscal rules and the conventional effect of automatic stabilizers operating through disposable (permanent) income. The paper investigates these channels and concludes that, contrary to what has been found in RBC models, distortionary taxes tend to reduce output volatility relative to lump-sum taxes when significant rigidities are present. We also study the stabilization effect of alternative (distortionary) tax structures and find that these are only relevant if substantial rigidities are present.     

Is there J-Curve effect in Africa?

The J-Curve is a term used to describe the post-devaluation behavior of the trade balance, i.e., initial deterioration followed by an improvement. Previous research has tested the phenomenon for many developed and developing countries. However, African nations have not received any attention on this regard. In this paper, we test the hypothesis for nine African countries of Burundi, Egypt, Kenya, Mauritius, Morocco, Nigeria, Sierra Leone, South Africa, and Tanzania for which quarterly trade data were available. After using the bounds testing approach to cointegration and error-correction modeling, we were unable to find any support for the J-Curve.     

Integrated water and economic modelling of the impacts of water market instruments on the South African economy

A static computable general equilibrium model of South Africa is adapted to compare new taxes on water demand by two industries, namely forestry, and irrigated field crops. Comparisons are made with respect to both the short and the long run, in terms of three target variables, namely (i) the environment; (ii) the economy; and (iii) equity. Since the taxes on the two industries do not raise the same amount of revenue, the target variables are calculated per unit of real government revenue raised by the new taxes (also referred to as the marginal excess burdens of the taxes). The model results are robust for moderate values of the water elasticity of demand in the two industries, in both the long and the short run. The tax on irrigated field crops performs better in terms of all three the target variables in the short run. In the long run the tax on irrigated filed crops is better in terms of water saving, but reduces real GDP and the consumption by poor households.     

Variation in the fiscal multiplier with the method of financing: evidence across industrial countries

Government spending has often varied with the business cycle to stimulate the economy and to revive economic conditions. However, the state of public finances has often necessitated higher borrowing to finance widening fiscal deficits. Indeed, recent austerity packages around the globe have crystalized the importance of fiscal consolidation against the backdrop of rising public debt. To shed light on recent debates regarding fiscal multipliers, the article estimates variation in these multipliers with the method of financing, using annual data for a sample of industrial countries. There is a large variation in the effects of expansionary and contractinary government spending shocks on economic variables within and across countries. The significant effects of negative government spending shocks (fiscal contraction) appear more prevalent than those of expansionary shocks on real output growth, price inflation and nominal wage inflation. Consistent with theory’s predictions, the fiscal multiplier is more likely to be negative when government spending is financed by issuing debt and less likely in the case of monetization. The evidence confirms concerns about the negative effect of higher debt and more expensive financing on private activity, countering the effectiveness of fiscal policy.     

Is Fiscal Policy Sustainable in Developing Economies?

This paper investigates fiscal policy sustainability in Peru, the Philippines, South Africa, Thailand, and Venezuela using competing methodologies. Standard unit roots and cointegration analyses do not endorse the validity of the intertemporal budget constraint. In contrast, to varying degrees across countries, alternative testing employing a fiscal policy reaction function indicates sustainability defined as surplus adjustments in response to higher debt‐to‐income ratios. Corresponding debt‐dynamics analyses show that corrective measures were put in place to revert non‐sustainable trends in government debt. However, ancillary variables in the debt modeling produce statistically weak evidence of procyclical fiscal behavior in the Latin American countries.     

Macroeconomic impacts of fiscal policy shocks in the UK: A DSGE analysis

This paper develops and estimates a new-Keynesian dynamic stochastic general equilibrium (DSGE) model for the analysis of fiscal policy in the UK. We find that government consumption and investment yield the highest GDP multipliers in the short-run, whereas capital income tax and public investment have dominating effect on GDP in the long-run. When nominal interest rate is at the zero lower bound, consumption taxes and public consumption and investment are found to be the most effective fiscal instruments throughout the analysed horizon, and capital and labour income taxes are established to be the least effective. The paper also shows that the effectiveness of fiscal policy decreases in a small open-economy scenario and that nominal rigidities improve effectiveness of public spending and consumption taxes, whereas decrease that of income taxes.     

Analysing the effects of fiscal policy shocks in the South African economy

This paper is the first one to analyse the effect of aggregate government spending and taxes on output for South Africa using three types of a calibrated DSGE model and more data driven models such as a structural vector error correction model (SVECM) and a time-varying parameter VAR (TVP-VAR) to capture possible asymmetries and time variation of fiscal impulses. The impulse responses indicate first, that increases in government expenditure have a positive impact, albeit (at times) less than unity, on GDP in the short run; second, over the long run, the impact of government expenditure on GDP is insignificant; and third, increases in taxes decrease GDP over the short run, while having negligible effects over longer horizons.     

The government spending and private consumption: a panel cointegration analysis

In this article, whether an increase in government spending will crowd out the private consumption is re-examined. This article augments the empirical literature by extending this issue to panel data. The empirical framework applies the panel cointegration model, dynamic OLS (DOLS), proposed by Kao and Chiang [On the estimation and inference of a cointegrated regression in panel data. Working Paper, Economics Department, Syracuse University, 1999.]. Evidence from 24 OECD countries indicates a significant degree of substitutability between government spending and private consumption when the real disposable income is included, which rejects the permanent income hypothesis. The existence of crowding out renders the Keynesian plea for expansionary fiscal policy unconvincing.     

Does right or left matter? Cabinets, credibility and fiscal adjustments

This paper tests the widely held assumption that left-wing cabinets favor higher public spending and examines whether cabinet ideology affects the persistence of major fiscal adjustments. In a panel of large fiscal adjustments in OECD countries during the last 40 years, we find evidence that left-wing and right-wing cabinets are partisan: the left tends to reduce the deficit by raising tax revenues while the right relies mostly on spending cuts. Our testable hypothesis is that cabinets can signal commitment by undertaking fiscal adjustments in ways that are not favored by their constituencies. In other words, the left gains credibility when it cuts spending while the right becomes more credible when it increases tax revenues. Probit estimates of the determinants of persistence in fiscal adjustments confirm that spending cuts by the left and tax increases by the right are associated with persistent adjustments. The effect is significant for cuts in public spending, public consumption (wage or nonwage), increases in total revenues, direct taxes on businesses and other taxes. We test for the role of several other determinants of persistence, confirming that coalition and majority cabinets are associated with less persistence while periods of high or rising levels of indebtedness favor persistence. The estimates of the impact of ideology and other variables on GDP and its components show that it is the size of the spending cut rather than cabinet ideology that is most important.     

Structural fiscal balances of the UK: a state-space DSGE approach

This article proposes a new framework to estimate and analyse structural fiscal balances of the UK, by combining the state-space modelling with the Bayesian DSGE modelling. In this way, trends and cycles of aggregate variables can be extracted from data consistently with the macroeconomic theory. A setting of an integrated random walk for the underlying stochastic trends fits the data best. An expansion in government spending can increase nominal fiscal revenue to a certain degree, but the effect is not persistent due to two kinds of crowd-out effects: it crowds out domestic investment; and it pushes up the price of domestic goods and simultaneously crowds out the foreign demand. The shocks to the nominal interest rate, foreign output and the government spending are the three major contributors to the variation of the fiscal revenue cycle.     

The effectiveness of fiscal spending in Croatia,Slovenia and Serbia: the role of trade openness and public debt level

Various structural characteristics of economies, directly or indirectly, affect the transmission from government stimuli to economic activity and determine the size of fiscal multipliers. In this article, we expand the standard Blanchard–Perotti fiscal SVAR model by incorporating the public debt and trade openness variables to assess the influence of these structural determinants on the effectiveness of fiscal spending in three selected former Yugoslav countries – Slovenia, Croatia and Serbia. The results confirmed the main hypotheses, which state that public debt level and trade openness significantly affect the effectiveness of fiscal spending through the means of reduction in size of fiscal effects in all countries analysed. When comparing internationally, this reduction tends to be more evident in countries with a higher degree of average public debt level and trade openness.     

Regime changes and the sustainability of fiscal imbalance in East Asian countries

The main purpose of this paper is to assess empirically the fiscal policy regimes in five Asian countries using a formal framework based on the government's intertemporal budget constraints (GIBC). To this end, we relied on an array of time-series methods and quarterly data of nearly three decades. Our conclusions are; first, the evidence indicates that the fiscal stance in Thailand and South Korea are on their sustainable path while the Philippines and Malaysia demonstrate only ‘weak sustainability’. Second, revenues are growing at a rate faster than government spending for Singapore, a country that has recorded large surpluses for most of the sample period. Third, the results show a one-way causation from expenditure to revenue for Korea, Singapore and Thailand. This finding indicates that reducing the size of government spending may improve fiscal budget deficits without having to undergo changes in the overall strategy. Fourth, we observed a long-run feedback causality in the revenue–expenditure nexus for the case of Malaysia and the Philippines, which may require fiscal synchronization instrument policies to moderate the post-crisis fiscal imbalances. Together, the results demonstrate diverse fiscal patterns but they should be useful to understand the complexities of economic integration in the region.     

Why has Europe Become Environmentally Cleaner? Decomposing the Roles of Fiscal,Trade and Environmental Policies

This paper examines the role of fiscal policy, trade and energy taxes on environmental quality in Europe using disaggregated data at the monitoring station level for the 12 richest European countries spanning the period from 1995 to 2008. Our estimations show that fiscal policies and energy taxes are important determinants of pollution through various mechanisms. We find that increasing the share of fiscal spending in GDP and shifting the emphasis towards spending in public goods and against non-social subsidies significantly lower the concentrations of sulfur dioxide and ozone but not nitrogen dioxide. At the same time, energy taxes reduce nitrogen dioxide concentrations but have no effect on ozone and sulfur dioxide. Finally trade openness has a direct effect on sulfur dioxide but no effect on nitrogen dioxide or ozone. Our estimates account for time-varying unobserved heterogeneity.     

Optimal fiscal and monetary policy with sticky wages and sticky prices

We determine the optimal degree of price inflation volatility when nominal wages are sticky and the government uses state-contingent inflation to finance government spending. We address this question in a well-understood Ramsey model of fiscal and monetary policy, in which the benevolent planner has access to labor income taxes, nominally risk-free debt, and money creation. Our main result is that sticky wages alone make price stability optimal in the face of shocks to the government budget, to a degree quantitatively similar as sticky prices alone. Key for our results is an equilibrium restriction between nominal price inflation and nominal wage inflation that holds trivially in a Ramsey model featuring only sticky prices. Our results thus show that when nominal wages are sticky, setting real wages as close as possible to their efficient path is a more important goal of optimal monetary policy than is financing innovations in the government budget via state-contingent inflation. A second important result is that the nominal interest rate can be used to indirectly tax the rents of monopolistic labor suppliers. Taken together, our results uncover features of Ramsey fiscal and monetary policy in the presence of a type of labor market imperfection that is widely-believed to be important.     

Effects of government spending shocks in China,Japan, and Korea

ABSTRACT

This study investigates the effects of government spending shocks on various key macro variables in China, Korea, and Japan using structural VAR models. The main empirical findings are as follows. Government spending multipliers of all three countries are far larger than 1 in recent years. The effectiveness of fiscal expansion has not changed markedly in China but substantially increased in Korea (after the Asian financial crisis) and Japan (during zero lower bound period). Increases in the effectiveness of fiscal expansion are associated with changes in the monetary and exchange rate policy regimes and institutions of these countries. Among the three countries, the government spending multiplier is relatively large in China but relatively small in Japan in recent years. Although the effects on exchange rate and trade balance vary across countries and sample periods, real exchange rate tends to depreciate, whereas trade balance tends to improve under flexible exchange rate regimes. Some empirical findings are consistent with standard theory, but others are not.

Abbreviations: NK: New Keynesian VAR: Vector Autoregressive ZLB: Zero Lower Bound     

Government spending and revenues in Sweden 1722–2011: evidence from hidden cointegration

This study examines the long-run causal relationship between government revenues and spending of the Swedish economy over the period 1722–2011. The results based on hidden cointegration technique and a modified version of the Granger non-causality test, show that there exists a long-run and asymmetric relationship between government spending and government revenues. Our estimation results can be summarized into three main empirical findings. First, the government follows a hard budget constraint and soft budget constraint strategies in the case of negative and positive shocks, respectively. Second, negative shocks to the fiscal budget are removed fairly quickly compared to positive shocks. Third, bi-directional causality between revenues and expenditures offers support in favor of the fiscal synchronization hypothesis. The policy implication is that budget deficit’s reduction could be achieved through government spending cut, accompanied by contemporaneous tax controls.     

Monetary–fiscal policy interactions and fiscal stimulus

Increases in government spending trigger substitution effects—both inter- and intra-temporal—and a wealth effect. The ultimate impacts on the economy hinge on current and expected monetary and fiscal policy behavior. Studies that impose active monetary policy and passive fiscal policy typically find that government consumption crowds out private consumption: higher future taxes create a strong negative wealth effect, while the active monetary response increases the real interest rate. This paper estimates Markov-switching policy rules for the United States and finds that monetary and fiscal policies fluctuate between active and passive behavior. When the estimated joint policy process is imposed on a conventional new Keynesian model, government spending generates positive consumption multipliers in some policy regimes and in simulated data in which all policy regimes are realized. The paper reports the model's predictions of the macroeconomic impacts of the American Recovery and Reinvestment Act's implied path for government spending under alternative monetary–fiscal policy combinations.     

Government debt and optimal monetary and fiscal policy

How do different levels of government debt affect the optimal conduct of monetary and fiscal policies? And what do these optimal policies imply for the evolution of government debt over time? To provide an answer, this paper studies a standard monetary policy model with nominal rigidities and monopolistic competition and adds to it a fiscal authority that issues nominal non-state contingent debt, levies distortionary labor income taxes and determines the level of public goods provision. Higher government debt levels make it optimal to reduce public spending, so as to dampen the adverse incentive effects of distortionary taxes, but also strongly influence the optimal stabilization response following technology shocks. In particular, higher debt levels give rise to larger risks to the fiscal budget and to tax rates. This makes it optimal to reduce government debt over time. The optimal speed of debt reduction is missed when using first-order approximations to optimal policies, but is shown to be quantitatively significant in a second-order approximation, especially when technology movements are largely unpredictable in nature.