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Fiscal and monetary policy effects in three South Eastern European economies

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Abstract

This paper investigates the macroeconomic effects of monetary and fiscal policies in three South Eastern European economies: Bulgaria, Croatia and Macedonia. We employ recursive vector autoregressions in order to study the linkages among fiscal policy, monetary policy and economic activity based on quarterly data on primary cyclically adjusted balance, monetary policy indicators, inflation rate and output gap. We obtain the following main results: first, domestic economic activity exerts significant effects on inflation, provoking a strong reaction of monetary policy, especially in case of procyclical or erratic behavior of fiscal policy; second, we find evidence for the expansionary effects of fiscal consolidation since fiscal tightening leads to an increase in economic activity; third, the effects of monetary policy on output and inflation are generally as expected; fourth, monetary policy acts as a strategic substitute to tight fiscal policy, while in case of monetary tightening, fiscal authorities behave in a countercyclical manner.

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Notes

  1. Ilzetzki and Végh (2008) argue that the distinction between cyclical and cyclically adjusted (discretionary) deficits is not relevant. For instance, an increase in government expenditure produces the same effects on the economy notwithstanding whether it occurs automatically or by purpose.

  2. The IFRs obtained from the VAR with the alternative ordering of the variables are given in Online Resource 1.

  3. In Croatia and Macedonia, this refers to an increase in money market rates. In Bulgaria, the M0-GDP ratio has been expressed in negative values. Hence, an increase in the transformed M0-GDP ratio (positive values in the impulse response functions) implies monetary tightening and vice versa, a decrease in the transformed M0-GDP ratio (negative values in the impulse response functions) indicates monetary loosening. This way, we provide comparable definition of monetary shocks in the three countries.

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Acknowledgments

This research was supported by a Grant from the CERGE-EI Foundation under a programme of the Global Development Network (GDN). The authors are grateful to the Journal’s Editor, the two anonymous referees, Sergey Slobodyan, Rilind Kabasi, Branimir Jovanovic, Ana Mitreska, Magdalena Petrovska, Karsten Stoehr, Peter Exterkate, and Gustavo Fruet Dias for their valuable suggestions. All opinions expressed are those of the authors and have not been endorsed by CERGE-EI and GDN.

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Authors and Affiliations

  1. Faculty of Economics, Saints Cyril and Methodius University, Goce Delcev Blvd 9V, 1 000, Skopje, Macedonia

    Goran Petrevski & Dragan Tevdovski

  2. 1818 H street, Washington, DC, 20433, USA

    Jane Bogoev

Authors
  1. Goran Petrevski
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  2. Jane Bogoev
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Correspondence to Goran Petrevski.

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Supplementary material 1 (docx 2243 KB)

Appendices

Appendix 1

See Table 1.

Table 1 Unit root test results
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Appendix 2

See Table 2.

Table 2 Results of lag length selection criteria and \(p\) values of residual diagnostic tests for the estimated models
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Appendix 3: IRFs of recursive VAR with 95 % confidence intervals of Hall

1.1 Impulses generated from a shock to the output gap

figure a

1.2 Impulses generated from a fiscal policy shock

figure b

1.3 Impulses generated from an inflation shock

figure c

1.4 Impulses generated from a monetary policy shock

figure d

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Petrevski, G., Bogoev, J. & Tevdovski, D. Fiscal and monetary policy effects in three South Eastern European economies. Empir Econ 50, 415–441 (2016). https://doi.org/10.1007/s00181-015-0932-0

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