Does Budget Deficit Impede Economic Growth? Evidence from Bangladesh

Abstract

The purpose of this study is to investigate the impacts of budget deficit on economic growth in Bangladesh over the period of 1981-2017. This study employed the autoregressive distributed lag (ARDL) model to capture long-run cointegration along with longrun and short-run elasticity of the explanatory variables. Moreover, directional causalities between the variables used in this study have been checked using vector error correction model (VECM). The results of the analysis under ARDL model revealed that in case of Bangladesh, budget deficit positively affects economic growth both in long-run and short-run while government total expenditures lead to increase GDP only in long-run. These findings support the Keynesian proposition that budget deficits crowd-in private investments resulting economic growth. Furthermore, directional causality tests conducted using VECM explored unidirectional causality running from budget deficit to economic growth while feedback causality has been found between governments total expenditures and economic growth. For policy implications, this research provides evidence that in an emerging economy like Bangladesh, government spending through deficit financing can drive positively in the level of economic growth. Bangladesh, however, should not have the luxury of forgetting about the bad consequences of consistent and gradually increasing budget deficit at all.

Relationship between Budget Deficit and Economic Growth: Evidence from Ethiopia

“…Similarly, Emmanuel and Uduakobong (2018) examine the relationship between budget deficit and economic growth in Liberia employing OLS to estimate the parameters and a parsimonious Error Correction Model. The study showed that in the long run, there is a positive relationship between budget deficit and economic growth in Liberia consistent with Biplob (2019) findings. Two studies in Pakistan by Nayab (2015) and Ahmed et al (2015) revealed a positive significant relationship exists between budget deficit and economic growth further validating the assertion made by Keynes.…”

“…However, several empirical studies have been consistent with the view of Keynesian school of thought. For instance, Biplob (2019) investigated the impacts of the budget deficit on economic growth using a time series data of Bangladesh from 1981-2017 by applying ARDL approach. The results indicate that both in short-run and long run budget deficit has a positive impact on the economic growth of the country.…”

The Threshold Effect of Domestic Public Borrowing on the Nigerian Economy

“…In discussing the studies on the fiscal deficit and economic growth relationship, several authors have empirical results that support the neoclassical approach that government funding of fiscal deficit from the domestic financial market crowds out private investment with negative implications for economic growth (Badawi, Biplob, 2019). The third set of empirical studies opines that the level of economic activity did not simply respond to the implementation of fiscal policy.…”

Effect of Deficit Financing on Economic Growth in Bangladesh: Cointegration and VECM Approach

“…In Bangladesh, macroeconomic stability largely depends on government budget strategies. Various studies in Bangladesh (Abdullah et al, 2018; Ahmad & Rahman, 2017; Biplob, 2019; Haider et al, 2016; Hassan & Akhter, 2014; Hussain & Haque, 2017; Rana & Wahid, 2016) have been conducted on the budget deficit as well as economic growth. Moreover, none of these studies has incorporated the view of GDD and government external debt (GEXD) financing on the budget deficit in their investigation.…”