The Empirical Relationship between Fiscal Deficits and Inflation (Case Study: Selected Asian Economies)

Author

Department of Environmental Economics, Faculty of Environment and Energy, Science and Research branch, Islamic Azad University, Tehran, Iran.

Abstract

Abstract





T





he relationship between public sector deficits and inflation is one of the important and controversial issues in the academic literature as well as in economic policy field. On the other hand, a major objective of macroeconomic policies is to foster economic growth and to keep inflation on a low level. So keeping the price stability plays an important role in determining the growth rate of output. The main objective of this paper is to investigate the effects of budget deficit, broad money  supply, real GDP, import price index, interest rate and exchange rate on inflation (  price deflator) in selected Asian economics, namely China, Japan, Korea, India, Taiwan, and Singapore in the period of 1993-2013. By applying the Pooled Mean Group  estimation-based error correction model and the panel differenced  (General Method of Moment) Arellano-Bond estimator, the study finds out budget deficit, real GDP and exchange rate are statistically significant determinants of inflation in both methods of estimation.

Keywords


Abizadeh, S., & Yousefi, M. (1998). Deficits and Inflation: An Open Economy Model of the United States. Applied Economics, 30, 107-316.

Aghevli, B., & Khan, M. (1978). Government Deficits and the Inflationary Process in Developing Countries. IMF Staff Papers, 25(3), 383-416.

Ahking, F., & Mmiller, S. (1985). The Relationship between Government Deficits, Money Growth and Inflation. Journal of Macroeconomics, 7(4), 47-67.

Aldemir, Ş. (2007). The Impacts of Exchange Rates on Import Prices in Turkish Economy: 1988- 2004. International Economic and Foreign Trade Policies, 1(2), 53-57.

Anshasy, A. E. E. (2012). Oil Revenues, Government Spending Policy, and Growth. Public Finance and Management. 12(2), 120-146.

Arellano, M., & Bover, O. (1995). Another Look at the Instrumental Variable Estimationof Error Components Models. Journal of Econometrics, 68, 29-51.

Asgharpur, H., Kohnehshahri, L. A., & Karami, A. (2007). The Relationships between Interest Rates and Inflation Changes: An Analysis of Long-Term Interest Rate Dynamics in Developing Countries. International Economic Conference on Trade and Industry (IECTI), Retrieved from

http://repo.uum.edu.my/2416/1/Hossein_Asgharpur.pdf.

Asian Development Bank (2013). Key Indicators for Asia and the Pacific. Retrieved from http://www.adb.org/statistics.

Bajo-Rubio, O., Díaz-Roldán, C., & Esteve, V. (2009). Deficit Sustainability and Inflation in EMU: An Analysis from the Fiscal Theory of the Price Level. European Journal of Political Economy, 25(4), 525–539.

Baltagi, B. H. (2008). Econometric Analysis of Panel Data. Chichester: John Wiley & Sons Ltd.

 

Barnhart, S. W., & Arrat, A. F. (1988). Budget Deficit, Money Growth and Causality: Further OECD Evidence. Journal of International Money and Finance, 7(2), 231-42.

Bhattacharya, R., Ila, P., & Ajay, Shah. (2011). Monetary Policy Transmission in an Emerging Market Setting. Working Paper, 11/5, Retrieved from

http://citeseerx.ist.psu.edu/viewdoc/download?doi=10.1.1.186.134&rep=rep1&type=pdf.

Blundell, R., & Bond, S. (1998). Initial Conditions and Moment Restrictions in Dynamic Panel Data Models. Journal of Econometrics, 87, 115–143.

Catão, L. A. V., & Terrones, M. E. (2005). Fiscal Deficits and Inflation. Journal of Monetary Economics, 52(3), 529–554.

Campa, J. M., & Goldberg, L. S. (2006). Pass-Through of Exchange Rates to Consumption Prices: What has Changed and Why? NBER Working Paper, 12547, Retrieved from

 http://www.nber.org/chapters/c6982.pdf.

Carzonery, M., Cumby, R., & Diba, B. (1998). Is the Price Level Determined by the Need of Fiscal Solvency? NBER Working Paper, 6471, Retrieved from

http://faculty.georgetown.edu/cumbyr/papers/fiscal_pricelevel.PDF.

Carlstron, C. T., & Timothy S. F. (1999). Money Growth and Inflation: Does Fiscal Policy Matter? Federal Reserve Bank of Cleveland, Retrieved from

https://www.researchgate.net/profile/Timothy_Fuerst/publication/5028578_Money_growth_and_inflation_does_fiscal_policy_matter/links/09e41510a9a19bdd44000000.pdf.

Catao, L., & Terrones, M. (2001). Fiscal Deficits and Inflation: A New Look at the Emerging Market Evidence. IMF Working Paper, 74/01, Retrieved from

https://books.google.com/books?hl=en&lr=&id=btF8bYwCkIEC&oi=fnd&pg=PA3&dq=Fiscal+Deficits+and+Inflation:+A+New+Look+at+the+Emerging+Market+Evidence&ots=b46Wu8zeLL&sig=4kBJBGYay_P5SsSDH7wWQlgBiz4.

Choudhri, E. U., & Hakura D. S. (2003). Exchange Rate Pass-Through to Domestic Prices: Does the Inflationary Environment Matter? Journal of International Money and Finance, Retrieved from

https://www.researchgate.net/profile/Dalia_Hakura/publication/5123725_Exchange_Rate_Pass-Through_to_Domestic_Prices_Does_the_Inflationary_Environment_Matter/links/0c96052dffa421e7d2000000.pdf.

Cottarelli, C., Griffiths, M. E. L., Moghadam, R. (1998). The Non-Monetary Determinants of Inflation: A Panel Data Study. IMF Working Paper, 98/23, Retrieved from

http://papers.ssrn.com/sol3/papers.cfm?abstract_id=882254.

Dornbush, R. (1990). Extreme Inflation: Dynamics and Stabilization. In Brookings Paper on Economic Activity, Brainard, W. C., & Perry, G. L. (Eds.) Brookings Institution, Retrieved from

http://www.jstor.org/stable/2534504.

De Haan, J., & Zelhorst, D. (1990). The Impact of Government Deficits on Money Growth in Developing Countries. Journal of International Money and Finance, 9, 445-469.

Evans, J. D. (1996). Straight Forward Statistics for the Behavioral Sciences. Pacific Grove, CA: Brooks/Cole Publishing.

Fischer, S., Sahay, R., & Végh, C. A. (2002). Modern Hyper and High Inflations. Journal of Economic Literature, 40(3), 837–880.

Frankel, J., Parsley, D., & Wei, S. J. (2012). Slow Pass-Through Around the World: A New Import for Developing Countries. Open Economies Review, 23(2), 213–251.

Greene, W. H. (2008). Econometric Analysis (6th Ed.). New Jersey, Upper Saddle River: Pearson International.

Hahn, E., Michele, C. Z., & Marcelo, S. (2007). Exchange Rate Pass-Through in Emerging Markets. ECB, Working Paper, 739, Retrieved from http://citeseerx.ist.psu.edu/viewdoc/download?doi=10.1.1.165.5066&rep=rep1&type=pdf.

---------- (2003). Pass-Through of External Shocks to Euro Area Inflation. ECB, Working Paper, 243, Retrieved from

http://papers.ssrn.com/sol3/papers.cfm?abstract_id=457310.

Hamburger, M. J., & Zwick, B. (1981). Deficit, Money and Inflation. Journal of Monetary Economics, 7(1), 141-150.

Hondroyiannis, G., & Papapetrou, E. (1997). Are Budget Deficits Inflationary? Applied Economics Letters, 4(8), 493-96.

Honohan, P., & Shi, Anqing. (2001). Deposit Dollarization and the Financial Sector in Emerging Economies. Working Paper, World Bank, Retrieved from http://www-wds.worldbank.org/external/default/WDSContentServer/IW3P/IB/2002/01/25/000094946_02011704031216/Rendered/PDF/multi0page.pdf.

Hossain, A. A. (2010). Monetary Targeting for Price Stability in Bangladesh: How Stable is its Money Demand Function and the Linkage between Money Supply Growth and Inflation. Journal of Asian Economics, 21, 564–578.

Hosseini-Nasab, E., & Reza-Gholizadeh, M., (2001). The Investigation of Financial Factors of Inflation in Iran with Emphasizing on Budget Deficite. The Economic Research Quarterly, 1, 43-70.

Hsiao, C. (2003). Analysis of Panel Data (2nd Ed.). Cambridge: Cambridge University Press.

Hurlin, C. (2004). Testing Granger Causality in Heterogeneous Panel Data Models with Fixed Coefficients. Mimeo, University of Orleans, Retrieved from

http://citeseerx.ist.psu.edu/viewdoc/download?doi=10.1.1.528.7361&rep=rep1&type=pdf.

Hunt, B., & Isard, P. (2003). Some Implications for Monetary Policy of Uncertain Exchange Rate Pass-Through. Scottish Journal of Political Economy, 50(5), 567–584.

Ihrig, J.E., Mario, M., & Alexander, D.R. (2006). Exchange Rate Pass-Through in G-7 Countries. FED of Governors. International Finance Discussion Paper, 851, Retrieved from

http://www.federalreserve.gov/Pubs/IFDP/2006/851/ifdp851.pdf.

 

 

 

Jayaraman, T. K., & Chen, H. (2013). Budget Deficits and Inflation in Pacific Island Countries: A Panel Study. Working paper, University of South Pacific, 2013/03, Retrieved from

https://www.usp.ac.fj/fileadmin/files/schools/ssed/economics/working_papers/2013/WP-2013-03.pdf.

Kara, H., & F. Öğünç (2005). Exchange Rate Pass-Through in Turkey: It is Slow, but is It Really Low? TCMB, RD Working Paper, 15/10, Retrieved from

http://www.tcmb.gov.tr/wps/wcm/connect/49d1a1b2-d022-4f05-a6c7-700cd172a158/WP0510ENG.pdf?MOD=AJPERES&CACHEID=49d1a1b2-d022-4f05-a6c7-700cd172a158.

Karras, G. (1994). Macroeconomics Effects of Budget Deficit: Further International Evidence. Journal of International Money and Finance, 13(2), 190–210.

King, M. (2002). No Money No Inflation–The Role of Money in the Economy. Bank of England Quarterly Bulletin, 162–177, Retrieved from

http://www.cairn.info/resume.php?ID_ARTICLE=ECOI_088_0111.

King, R., & Plosser, C. (2010). Money, Deficit and Inflation. Carnegie Rochester Conference Series on Public Policy, 22, 147-196.

Komulainen, T., & Jukka, P. (2000). Fiscal Explanations for Inflation: Any Evidence from Transition Economies. BOFIT Discussion Papers, 11, Retrieved from

https://helda.helsinki.fi/bof/bitstream/handle/123456789/13529/dp1100[1].pdf?sequence=1.

Lin, H. Y., & Chu, H. P. (2013). Are Fiscal Deficits Inflationary? Journal of International Money and Finance, 32, 214–233.

Maddala, G. S., & Wu, S. (1999). A Comparative Study of Unit Root Tests with Panel Data and a Simple New Test. Oxford Bulletin of Economics and Statistics, 61, 631–652.

McCandless, G. T. & Weber, W. E. (1995). Some Monetary Facts. Quarterly Review, 19(3), 2-11.

 

 

McCarthy, J. (2000). Pass-Through of Exchange Rates and Import Prices to Domestic Inflation in Some Industrialized Economies. FRB of N.Y. Staff Report, 111, Retrieved from

http://www.bis.org/publ/work79.pdf.

McMillen, W., & V. Beard, T. (1982). Deficits, Money and Inflation: Comment. Journal of Monetary Economics, 10, 273-77.

Mihaljek, D., & Klau, M. (2000). A Note on the Pass-Through from Exchange Rate and Foreign Price Changes to Inflation in Selected Emerging Market Economies. BIS Papers, 8, 69- 81.

Mishkin, S. F. (2008). Exchange Rate Pass-Through and Monetary Policy. NBER Working Paper, 13889, Retrieved from

http://www.nber.org/papers/w13889.ack.

Molaei, M., & Golkhandan, A. (2013). Long-Term and Short-Term Effects of Budget Deficit on Economic Growth of Iran. Journal of Economic Strategy, 2(5), 95-115.

Nassar, K. (2005). Money Demand and Inflation in Madagascar. IMF Working Paper, WP/05/236, Retrieved from https://books.google.com.

Nguyen, V. B. (2015). Effects of Fiscal Deficit and Money M2 Supply on Inflation. Journal of Economics, Finance and Administrative Science, 20, 49-53.

Oomes, N., & Ohnsorge, F. (2005). Money Demand and Inflation in Dollarized Economies: The Case of Russia. Journal of Comparative Economics, 33, 462–483.

Peker, O. & Görmüş, S. (2008). The Inflationary Effects of the Exchange Rate in Turkey. Süleyman Demirel Uni. İ.İ.B.F. Journal, 13(2), 187-202.

Pelipas, I. (2006). Money Demand and Inflation in Belarus: Evidence from Co-Integrated VAR. Research in International Business and Finance, 20, 200–214.

 

 

 

Pesaran, M. H., Shin, Y., & Smith, R. P. (1997). Estimating Long-Run Relationships in Dynamic Heterogeneous Panels. DAE Working Papers, Amalgamated Series, 9721, Retrieved from

https://www.researchgate.net/profile/Hashem_Pesaran/publication/240099067_Estimating_long-run_relationships_from_dynamic_heterogeneous_panels/links/57801f4008ae01f736e4a1a0.pdf.

Pesaran, M. H., Shin, Y., & Smith, R. P. (1999). Pooled Mean Group Estimation of Dynamic Heterogeneous Panels. Journal of the American Statistical Association, 94, 621–634.

Sachs, J., & Larrain, F. (1993). Macroeconomics in the Global Economy. New Jersey: Englewood Cliffs, Prentice Hall.

Sargent, T., & Wallace, N. (1981). Some Unpleasant Monetarist Arithmetic. Monetarism in the United Kingdom, Retrieved from

http://link.springer.com/chapter/10.1007%2F978-1-349-06284-3_2/lookinside/000.png.

Solomon, M. (2004). The Effect of a Budget Deficit on Inflation: The Case of Tanzania. Sajems NS, 1, 100-116.

Tanzi, V. (1991). Public Finance in Developing Countries. London: Edward Elgar Publishing Limited.

Taylor, J. B. (2000). Low Inflation Pass-Through, and the Pricing Power of Firms. European Economic Review, 44, 1389- 1408.

Temple, J. (2000). Inflation and Growth: Stories Short and Tall. Journal of Economic Surveys, 14, 395–426.

Walsh, C. E. (2003). Monetary Theory and Policy. Cambridge, Massachusetts: The MIT Press.

Westerlund, J. (2007). Testing for Error Correction in Panel Data. Oxford Bullet of Economics and Statistics, 69, 709–748.