Fiscal Policy and External Adjustment: New Evidence

Hafedh Bouakez, Foued Chihi and Michel Normandin ()

Cahiers de recherche from CIRPEE

Abstract: Relatively little empirical evidence exists about countries’ external adjustment to changes in fiscal policy and, in particular, to changes in taxes. This paper addresses this question by measuring the effects of tax and government spending shocks on the current account and the real exchange rate in a sample of four industrialized countries. Our analysis is based on a structural vector autoregression in which the interaction of fiscal variables and macroeconomic aggregates is left unrestricted. Identification is instead achieved by exploiting the heteroscedasticity of the structural disturbances. Three main findings emerge: (i) the data provide little support for the twin-deficit hypothesis, (ii) the estimated effects of unexpected tax cuts are generally inconsistent with the predictions of standard economic models, except for the US, and (iii) the puzzling real depreciation triggered by an expansionary public spending shock is substantially larger in magnitude than predicted by traditional identification approaches.

Keywords: Government spending; current account; exchange rate; taxes; structural vector auto-regression; twin deficits (search for similar items in EconPapers)
JEL-codes: C32 E62 F41 H20 H50 H60 (search for similar items in EconPapers)
Date: 2011
New Economics Papers: this item is included in nep-cba
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Citations: View citations in EconPapers (7)

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Journal Article: Fiscal policy and external adjustment: New evidence (2014)
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Persistent link: https://EconPapers.repec.org/RePEc:lvl:lacicr:1123

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