Revisiting the Growth Effects of Fiscal Policy: A Bayesian Model Averaging Approach

Abstract

Motivated by the mixed evidence in previous literature, we reexamine the effects of various types of government spending and taxes, as well as overall budget surplus/deficit, on economic growth. To address the model uncertainty issue that may have plagued earlier studies we employ a Bayesian Model Averaging (BMA) approach. We use a panel data set for OECD countries for the 1990-2013 period, control for country and time specific effects, and allow for a wide range of other potential growth determinants. The results suggest a robust link between only some fiscal variables and economic growth. On the spending side, productive public spending has a robust positive effect on growth. On the revenue side, we document a robust negative effect for the top corporate tax rate, but, maybe surprisingly, not for any income tax variable. Finally, our results suggest that a budget surplus has a robust positive effect on economic performance. We also analyze the timing of effects and conclude that most effects occur with a lag of two years.

Commodity price fluctuations and development: perspective from emerging economies

“…They argued that in conditions where the social rate of return is in excess of the private return of an investment, taxation policies designed to encourage investment could augment economic growth. In a relatively recent work by Arin et al (2019), the influential role of various fiscal policy measures on economic growth was affirmed. Again, the key to the subject matter of economic growth and development is the work of Sala-i- Martin et al (2004), who showed that a significantly varied number of factors influence long-term growth; most dominant among such variables include the relative price of an investment, real GDP per capita and education (primary school enrolment).…”

Inflation-output trade-off: Old measures, new determinants?

“…The results under both approaches are identical. We choose to present the method and the results based on the above computational scheme as this is the standard practice in Bayesian literature (see for instance, Arin et al (2019) and Steel (2020)).…”

Optimal Fiscal Policy Instrument under Different Shocks

“…Batini et al [7] find that in order to meet fiscal constraints, increasing taxes has a less adverse effect on output than cutting government spending. In addition, Arin et al [8], using Bayesian model averaging, find that productive public spending has a positive effect on output, while top corporate tax rates have a negative effect, and fiscal variables with no robust effect on output include top income tax rates, government consumption, and distortionary taxes.…”