Oil price volatility and fiscal policies in oil‐exporting countries

Abstract

AbstractThe meteoric decline in oil price in late 2014, a manifestation of crude oil price volatility, pressured the fiscal positions of many oil‐exporting countries (OECs). This study examined the relationship between oil price volatility and OECs’ fiscal policy [proxied by primary fiscal balance (PFB)] responses. It estimated a small open‐economy aggregate demand model in which oil price is externally determined. Using various measures of oil price volatility in a vector error correction (VEC) model, this study established that fiscal policies in OEC were not procyclical but driven by oil price volatility. Oil price volatility reduced PFB in the short run. In the long run however, PFB rose in response to price volatility, suggesting that OECs’ governments eventually consolidate their fiscal positions to reduce short‐run fiscal deficit induced by oil price volatility. Though their fiscal policies were pressured in the short run, OECs were able to stabilise their fiscal dynamics in the long run.