Fiscal Policy During Absorption Cycles

Abstract

Domestic absorption cycles are relevant in assessment and design of fiscal policies. Our cross-country analysis covers 59 advanced and emerging countries for the 1990-2009 period. We show that ignoring domestic absorption cycles leads to biased fiscal stance indicators, for both advanced and emerging economies, by up to 1.5 percent of GDP. The estimates of fiscal policy reaction functions indicate that absorption booms are associated with pro-cyclical fiscal policy. We tackle the endogeneity problem in reactions functions through stripping the cyclical component of the fiscal aggregates. We also find that simple filtering methods in the computation of absorption gaps perform as better as indirect methods of estimating trade balance gaps and stripping of output gaps.Developed countries;Economic growth;Economic models;Emerging markets;Indirect taxation;Revenue sources;Revenues;fiscal policy, fiscal stance, fiscal aggregates, structural fiscal, fiscal stances, fiscal reaction, fiscal balance, fiscal balances, tax base, fiscal reaction functions, data availability, cyclical fiscal policy, fiscal policies, fiscal reaction function, government spending, fiscal affairs, fiscal affairs department, fiscal behavior, fiscal space, public debt, tax revenues, budget balance, public finances, fiscal impulse, fiscal indicators, data sources, fiscal revenues, budget balances, fiscal sustainability, fiscal cost, tax collections, tax bases, changes in output, discretionary fiscal policy, tax system, long-run fiscal stance, fiscal expansion, country evidence, fiscal authorities, fiscal position, expenditure ratio, fiscal situation, tax revenue, tax structure, fiscal policy decisions, fiscal deficits, taxation, data requirements, fiscal consolidation