On the Role of Stabilization Policies in the Middle East

Magda Kandil

No 9414, Working Papers from Economic Research Forum

Abstract: This investigation evaluates the real and inflationary effects of stabilization policies across countries of the Middle East. Three measures of stabilization policies are under consideration: the growth of the money supply, the growth of government spending and the devaluation of the domestic currency. The empirical evidence evaluates the importance of demand-side and supply-side constraints to the effects of these policies on real output growth and price inflation. The increased private propensity to spend exacerbates the size of demand shifts attributed to monetary policy. In contrast, the effects of government spending on aggregate demand shifts appear larger where the private propensity to spend is small. Supply-side constraints dominate, however, the size of demand shifts in differentiating the real and inflationary effects of stabilization policies. The less binding capacity constraints are, the flatter the aggregate supply curve and real output growth is more responsive to monetary growth across countries. And the more binding capacity constraints are, the steeper the aggregate supply curve and the inflationary effects of fiscal and devaluation policies are larger. Variations in monetary growth and their effects on price inflation and output growth dominate, however, the observed differences in economic performance across countries. Structural differences have limited the effects of variations in fiscal policy on economic performance across countries. In contrast, structural differences appear to have reinforced the effects of variations in monetary growth, and to a lesser extent devaluation, on economic performance. Indeed, the evidence is consistent with an important role for monetary growth in increasing the trend and variability of price inflation across countries. The contribution of trend devaluation appears also important in escalating trend price inflation across countries. More importantly, monetary policy appears successful in achieving real lasting effects that contribute positively to trend real output across countries.

Date: 1994-08-09, Revised 1994-08-09
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Published by The Economic Research Forum (ERF)

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