Abstract
This paper investigated the macroeconomic effects of government spending shocks in Ethiopia using a Bayesian Vector Auto Regression model. We examined the dynamic responses of output, inflation, interest rate and exchange rate to Government Spending shocks employing quarterly data from 2000/01Q1 to 2015/16Q4. The empirical evidence suggests that government spending shock had a positive impact on output and inflation but the effect was too small. Initially the interest rate responded negatively to government spending shocks and was positive with small effect and the nominal exchange rate showed deterioration. Furthermore, positive shocks to recurrent expenditure had a persistent positive impact on real output. Recurrent expenditure appeared not to be responsible for inflationary pressure. Interest rate picked up slightly as a result of recurrent spending shocks in the short run. The response of exchange rate to recurrent expenditure was small and remained negative. In contrast, capital expenditure was found to have an insignificant effect on output. The reasons could be the administrative lag and contractual bottleneck that are sometimes involved in executing capital projects and that appeared to be responsible for inflationary pressure. In the short term, the interest rate responded negatively and the estimated impact on exchange rate was insignificant. Keywords: Ethiopia, government spending shock, public debt, Bayesian VAR DOI : 10.7176/JESD/10-19-03 Publication date :October 31 st 2019
Highlights
Fiscal policy is the financial instrument used by the government as a deliberate manipulation of government receipts and expenditures to achieve economic, to allocate resources, stabilize the economy and redistribute income social objectives and maintain stable economic growth (Michaela et al, (2009), Tanzi (2008))
The data on CPI as a proxy for inflation, nominal exchange rate and interest rate were obtained from the National Bank of Ethiopia (NBE); whereas the quarterly fiscal data are obtained from the Ministry of Finance and Economic Cooperation of Ethiopia
In contrast to recurrent expenditure shocks capital expenditure appears to be responsible for inflationary pressure in Ethiopia
Summary
Fiscal policy is the financial instrument used by the government as a deliberate manipulation of government receipts and expenditures to achieve economic, to allocate resources, stabilize the economy and redistribute income social objectives and maintain stable economic growth (Michaela et al, (2009), Tanzi (2008)). Fiscal policy is one of the instruments with which government in a country employed in the administration of their economy to attain desired objectives (see Medee et al, 2011, Mohamad et al, 2015). The fundamental objectives of fiscal policy include price stability, maintenance of balance of payments equilibrium, and promotion of employment, output growth and sustainable development. These objectives are necessary for the attainment of internal and external balance of value of money and promotion of long run economic growth (Mohamad et al, 2015). The effects of public spending shocks on the composition of GDP, by analyzing potential “crowding-out” effects on private consumption and private investment and, The rest of this paper is organized as follows: - Section II reviews the related theoretical and empirical literature.
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