E u r o E c o n o m i c a Issue 2(23)/2009 ISSN:

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1 Issue (3)/9 ISSN: The effecs of fiscal-budgeary measures upon GDP, privae consumpion and invesmens a VAR analysis Florian Marcel Nuță 1, Alina Crisina Nuță, Doinița Arion 3, Carmen Gabriela Sîrbu 1 Danubius Universiy of Galai, floriann@univ-danubius.ro Danubius Universiy of Galai, alinanua@univ-danubius.ro 3 Danubius Universiy of Galai, darion@univ-danubius.ro Danubius Universiy of Galai, sirbu.carmen@univ-danubius.ro Absrac. In his aricle we inend o characerize he dynamic effecs of shocks in governmen expendiure (reaed and componens such as public spending for economic aciviies, social and culural coss) and ax revenues of consolidaed budge on economic aciviy in Romania he years , expressed by GDP, privae consumpion, invesmens. Keywords: fiscal, consumpion, invesmens, budgeary 1 Inroducion The purpose of his analysis is o beer undersand he effecs of fiscal-budgeary policy on he Romanian economy, making a sep in furher sudies using he model of ype VAR (Vecor Auoregressive) impac in shaping such policy. These models are useful ools, which fail o describe he economy as a sochasic dynamic sysem ha responds o curren and pas shocks. They were used especially in analyzing he effecs of moneary policy shocks, bu recenly have developed and which focuses on he direcion of public policies. Issues surrounding he larges of his analysis are hose relaed o daa, heir exisence in he firs place, he possibiliy of a long analysis ha provides reliable resuls because Romanian saisical feaure is ha provides parial daa annual, bu he period of analysis from 199 o 7, does no conain sufficien enries (maximum 17, while a serious analysis requires a leas 3 enries for a series, as our series), so we analyzed he period he quarers, which offered he possibiliy of an analysis as possible credible advanage bu ou of our area of ineres imporan variables for which quarerly daa we found (direc axes, indirec axes), which would have provided greaer clariy analysis. The approach.1 The ineracions beween variables To idenify budgeary fiscal shocks we use he mehodology proposed by Blanchard and Peroi 1 in. In heir paper, he auhors idenify fiscal shocks by exploiing he budge "decision lags (gaps decision) in he process of poliical decision, based on he assumpion ha income and discreionary

2 Issue (3)/9 ISSN: income are predeermined by reference o macroeconomic variables and informaion relaed o elasiciy of fiscal variables o economic aciviy budge, idenifying he auomaic responses of fiscalbudgeary policy. The wo use a VAR consiss of hree variables (GDP, direc public expendiure and ne income) and, using daa on U.S. economy discovers ha budge expansionary fiscal shocks lead o increased oupu and a shock in governmen expendiure, privae consumpion reacs posiive, while reacs invesmens so ha he response of GDP o a shock o one U.S. dollars of public expendiure amouns o approximaely 5 cens in he fourh quarer, rising gradually o a maximum of 1.9 U.S. dollars a he he 15 quarer. These resuls imply a cumulaive muliplier 3 (as well as he cumulaive change in GDP rae o cumulaive changes in public expendiure). Idenificaion mehod proposed by Blanchard and Peroi in has been applied o U.S. daa by Peroi in and Gall and ohers in. Peroi in used a VAR consising of 5 variables, which included he GDP deflaor of GDP, public spending, ax revenue and ne ineres rae. Gali and ohers have used a VAR of four variables ha included GDP, direc public expendiure, employmen and he real ineres rae. Their resuls reveal a higher cumulaive muliplier: value increasing around he uni unil he fourh quarer and approximaely in he welfh quarer. The resuls on shock in governmen expendiure on GDP componens have a posiive response in he privae consumpion, while invesmen is no a relevan response. To assess he effecs of fiscal policy in France, Biau and Girard, 5 have used a VAR composed of 5 variables, which included direc public spending, ne ax revenue, GDP, inflaion and ineres rae. Their resuls show a cumulaive muliplier effec of spending public of 1.9 in he fourh quarer and 1.5 in 1-lee quarer and a posiive reacion of privae consumpion. Using daa for he Spanish economy, he Casro and he baske 5 in found a posiive relaionship beween public expendiure and oupu in he shor erm, long erm, he public expendiure expansionary shocks are associaed mainly wih high inflaion and a lower level of GDP sie. Summarizing he resuls of any ess ha are performed by he auhors VAR mehodology specified above, concludes ha a shock of direc public expendiure have a posiive impac and relaively longerm effecs on oupu and privae consumpion. Such resuls are an implicaion of all such models keynesisă bu are also compaible wih dynamic general equilibrium models characerized by rigid prices and he Ricardian or non-ricardian consumers. There is no consensus regarding he effecs on invesmen, bu he following pages we ry o clarify his issue and on daa from Romania.. The sources and consrucion of daa series The availabiliy of quarerly daa is as anicipaed in he lines above, remains he main consrain o analyze he effecs fiscal-budgeary policy in a VAR. Series for he period for GDP and is componens conain definiive daa for he period , he semi-final daa for and provisional daa for 7. Source is he monhly bulleins of he Naional Insiue of Saisics of Romania in he period concerned. Daa on he componens of he general consolidaed budge are aken from he monhly bulleins of he Naional Bank of Romania in he same period and in newsleers of MEF. Monhly daa have been adjused quarerly form by calculaing a simple average of monhly and quarerly daa were aken in he sae ha exised in ha source. The daa were seasonally adjused, TRAMO-SEATS mehod, having been convered ino real erms using he consumer price index in he firs quarer of :1. Series were log and muliplied by 1, o some and calculaing he firs difference. 5

3 Issue (3)/9 ISSN: VAR model. Mehodology In esimaing he VAR model we sar wih he general form: Y = a11y 1+ a1 X 1+ b11y + b1 X + c1+ ε1 (In which, Y, X = variables VAR, a, b, c = esimaed parameers, ε = vecor of innovaions). The shape of each variable in he sysem by he previous values of all oher variables, including heir values. To assess he effecs of fiscal-budgeary policy in Romania on oupu and is componens use he following models: Model 1: 3 variables: public expendiure, ax revenues, GDP; Model : 3 variables: Expendiure on economic aciviies, social and culural coss, GDP; Model 3: variables: Expendiure on economic aciviies, social and culural coss, privae consumpion and gross capial formaion (invesmen level); Model : variables: socio-culural coss, expenses for economic aciviies, ax revenues, GDP) Reduced form VAR model of ype 1 model is: Y = A (L) Y -1 + U, where: Y [CH, VF, GDP ] is a hree-dimensional vecor, assuming eiher deerminisic rend or sochasic rend; U [ch, vf, GDP ] is he form corresponding o residues reduced form, which will generally be differen from zero correlaion;. Idenificaion of fiscal policy shocks budge Idenificaion sraegy based on he work of Blanchard and Peroi Peroi's and he same year, seen as he sandard's srucural VAR lieraure, is based on he following assumpions: he relaionship beween residual erms of he reduced form model U and shocks srucural V has he following form: AU = BV In his relaionship i is assumed ha shocks are independen and disribued independenly, wih equal covarianţei marix ideniy marix. Only budgeary fiscal shocks have a clear economic inerpreaion in his analysis. In deermining he shock I began o express erms of residual as low as linear combinaions of shocks in public spending, budgeary revenues and GDP as: in which ch e, vf e and ch + e vf = a1 GDP + ae ch = b1 GDP + be = c1 ch + cvf v + e GDP + e ch vf GDP GDP e srucural shocks are uncorrelaed each oher ha we wan o find.

4 Issue (3)/9 ISSN: The firs equaion shows ha a sudden change in he level of public spending wihin a quarer may be due o one of hree facors: he response o unexpeced changes in GDP surprise by a 1 GDP response vf a e o a srucural shock of ax revenue, surprised by, or response o a srucural shock of oal public expendiure. A similar inerpreaion is suiable for he second equaion, while he hird equaion shows ha unexpeced changes in GDP may be due o unexpeced changes in public expendiure, ax revenue or oher shocks. The idenificaion of his sysem sared from he idea ha he wo coefficiens, a 1 and b 1, can capure he effecs of wo ypes of economic aciviy on public spending and he governmen levies: auomaic effecs of economic aciviy in erms of expendiure and revenue rules exising ax policy and discreionary adjusmens made in fiscal policy rules in response o various evens aking place in a quarer. Key idenificaion procedure is he recogniion ha he use of quarerly daa almos deleed he second channel. Daa on fiscal-budgeary policy suggess ha policy makers and legislaors o be more han a quarer o bring a shock o GDP, analyze i, o ake measures o pass hrough parliamen. A firs impression over he fiscal-budgeary variables we can consruc a visual analysis and he level of public expendiure and annual consolidaed budge revenues in a given period. The evoluion of he wo indicaors and consolidaed budge balance is apparen in Table below: Table 1 The general consolidaed budge of Romania Toal revenue 5,37. 7,. 7,9. 1,5.1 17,1. % GDP Toal expenses, , , ,9.9 13,55.5 % GDP Defici -,9. -3,93.3 -,. -5,99. -9,. % GDP Source: bullein of he Minisry of Economy and Finance Noe: GDP in 7 39,. million lei GDP in 3,1. million lei GDP in 5 7,1. million lei GDP in,371.7 million lei GDP in 3 197,. million lei Thus, revenues increased from year o year boh in absolue amouns and as percenage of GDP. If we refer o he larges change in he decisions ha led o reforming he ax sysem, ie he adopion ax sysem in fla 1% income individuals and legal eniies, which were axed a ha ime by 5% (legal persons) and he odds from 1% o %, according o porions of income (individuals) We can no say 7

5 Issue (3)/9 ISSN: ha evoluion is obvious dramaic figures, eiher in absolue or relaive (ha and hanks o he expansion of he ax base), bu if you lisen o he calculaions made by he represenaives of Romanian governmen mus admi ha he Romanians were lef wih billion euro in your pocke. Public expendiure is, wih some fairly small differences developmens consolidaed revenues, excep ha heir level exceeds he revenue gained, regisering a budge defici, bu ha does no exceed he EU considered ha he maximum level above which iniiae he excessive defici procedure. Public decisions have creaed precondiions for mainaining economic growh a a high level, under acceleraing srucural reforms and srenghen public finances. Tax relief has a social componen as simulaing work, helping o remove he ligh gray par of he economy and herefore encourages he producion of income from muliple jobs. I is known ha he growh process can be influenced by appealing o he fiscal-budgeary policy measures, bu he resul can be expeced and achieved only if he bes ool o use ax-budge naure of such decisions in he conex of moneary, economic..5 Resuls analysis VAR models focuses on he analysis of "shock" he variables sudied. An innovaion is such ha wihin error (residual) in he sochasic equaion of he sysem. The main purpose of he analysis of VAR is o assess he effecs of various shocks on variables of he sysem. Each variable is affeced by is own innovaions and innovaions in oher variables. VAR analysis is compleed in wo imporan resuls: shock response funcion (impulse response funcion) and decomposiion of forecas error variaion (forecas error variance decomposiion) or in oher words, decomposiion of he change. Impulse-response funcion inended effec hey have given a variable shock on curren and fuure values of variables in he sysem, describing he response of a variable o a shock in anoher variable, he sign of response and persisence of effecs of various shocks. The second resul ha needs aenion from us is he decomposiion of he change. I calculaed he proporions of variaion of a variable ha own shocks and shocks due o oher variables. For reasons of space we play in his work only modeling resuls wihou highlighed he seps ha were necessary o be done o achieve hese resuls. We will presen such impulse-response funcions for each of hese four models and hen we characerize and decomposiion change economic variables sudied.

6 Issue (3)/9 ISSN: Funcion of impulse-response Model 1: Re s p o ns e o C h o le s ky O n e S.D. In n ova ion s ± S.E. Re sp o n se o f L _ C HB G C_ S A o L _ CH B G C _ S A R e sp o n se o f L _ C H B G C_ S A o L _ V FIS C _ S A Re sp o n se o f L _ CHB G C _ S A o DL _ P IB _ S A R e sp o n se o f L _ V F IS C_ S A o L _ C HB G C_ S A Re sp o n se o f L _ V F I S C _ S A o L _ V F IS C_ S A Re sp o n se o f L _ V FIS C_ S A o D L _ P IB _ S A Re sp o n se o f DL _ P IB _ S A o L _ CHB G C_ S A 1.5 Re sp o n se o f DL _ P I B _ S A o L _ V FIS C_ S A 1.5 R e sp o n se o f D L _ P IB _ S A o D L _ P IB _ S A Figure 1 Impulse-response funcion for model 1 In his figure here is a decrease in gross domesic produc as a shock o ax revenue and an increase in oupu afer a shock in governmen expendiure. In response o he shock of ax revenue, GDP decreases by approximaely.% in he second quarer and is followed by a slow increase during he nex quarers. In sudies developed by oher auhors 7, (which looked a 3-variable VAR ha included ax revenues, public spending and GDP) shows a significan effec of a ax shock on GDP in Germany in he long erm. Public expendiure shock, induced GDP impac, i presened as an increase by.5 percen in quarer 3, he long erm urns ino a drop of abou.5%. If we look a wo parallel responses of GDP o changes in revenue and public expendiure, we can say ha he oal impac on oupu (and herefore he economy) is sronger if public expendiure and ax revenue no. 9

7 Issue (3)/9 ISSN: Model Response o Cholesky One S.D. Innovai ons ± S.E. Respons e of L_CHACT EC_SA o L_CHACTE C_SA Response of L_CHACTEC_SA o L_CHACTSOCCULT_SA Response of L_CHACTEC_SA o DL_PIB_SA Response of L_CHACTSOCCULT _SA o L_CHACTEC_SA Response of L_CHACTSOCCULT_SA o L_CHACT SOCCULT_SA Response of L_CHACTSOCCULT _SA o DL_PIB_SA Response of DL_PIB _SA o L_CHACTEC_SA Response of DL_PIB_SA o L_CHACTSOCCULT_SA Res ponse of DL_PIB_SA o DL_PIB_S A Figure Impulse-response funcion for model This figure shows an increase in gross domesic produc by.% in he second quarer following a shock of spending on economic aciviies. GDP response o increasing social and culural coss follow he same procedure as menioned reacion volume increase expendiures for economic acion. All of his economic model resuls and decreasing coss in erms of increasing social and culural coss. For models 3 and we summarize he main conclusions arising from impulse-response funcion (he same reason of space), namely: posiive response (increase) in privae consumpion expendiure in erms of economic shock (approximaely.5%) and social-culural expendiures (abou 3.7%) and if he response of invesmen o keep our same variables some reservaions, he analysis idenifies an iniial response o heir negaive. As regards he funcion model confirms he resuls of previous models, furher acions are reacions o economic coss and social and culural coss of a ax revenue shock (posiive side, afer abou a quarer of non-response). 9

8 Issue (3)/9 ISSN: Conclusion Decomposiion of change Model 1 Table Decomposiion of GDP variaion, model 1 Period (quarers) L_CHBGC_SA L_VFISC_SA DL_GDP_SA Source: own calculaions The resuls of his able shows ha a a horizon of 7 quarers, for example, changes in GDP is explained in he proporion of 75.7% of heir innovaions. Budge fiscal shocks (hose concerning public expendiure come o explain o a horizon of 7 quarers, for example,.9% of he variaion in GDP in Romania, during which I ook ino accoun, while shocks in ax revenue a he same ime explains 17.3% of he variaion in GDP. Model Table 3 Decomposiion of GDP variaion, model Decomposiion of change DL_GDP_SA: Period (quarers) L_CHACTEC_SA L_CHACTSOCCULT_SA DL_GDP_SA Source: own calculaions Table 3 shows ha number, for example, a horizon of 3 quarers, he change in proporion of GDP is explained 3.% of heir shock, he economic coss of acion explaining 7.5% of he variaion in GDP, while expendiure on social and culural aciviies explains.97% of gross domesic produc variaion. Decomposiion of change for models 3 and may be characerized as follows: o a horizon of hree quarers, privae consumpion is explained variaion in proporion of.% of he coss of economic shocks, he rae of 5.1% of expendiure for social and 91

9 Issue (3)/9 ISSN: culural shock, while invesmen shocks explain abou.5% of he variaion and he shocks own explains mos of i, of 5.% (Model 3) in erms of decomposiion is underlined change invesmens for he quarer ha 5 of he analysis is explained a a rae of 11.3% of economic coss and privae consumpion variaion explained.7% of invesmen (mode 3); model show ha he variaion is explained.57% of GDP shock culural social expendiure, while expendiure on economic aciviies explained.% of variaion. In general, negaive response Romanian oupu during he shocking review of he fees (governmen revenue) and he posiive response o a public spending shock is inconsisen wih keynesie models and he neoclassical model. The posiive response of privae consumpion o a shock in governmen expendiure confirms keynesis sandard ype models. Also under such keynesisă effecs include he posiive response of GDP and a shock of spending on economic aciviies. References Blanchard, O., Peroi, R. (). An Empirical Characerizaion of he Dynamic Effecs of Changes in Governmen Spending and Taxes on Oupu. Quarerly Journal of Economics, 117():139. Biau O., Girard E., (5). Poliique budgeaire e dynamique economique en France: l approche VAR srucurel, Revue économique, 5(3): de Casro F., P., de Cos, P., H. (). The economic effecs of exogenous fiscal shocks in Spain: a SVAR approach., ECB Working paper series, 7. Boţel, C., (). Cauzele inflaţiei în România, iunie 1997-augus 1, Analiză bazaă pe vecorul auoregresiv srucural, Banca Naţională a României, Caie de sudii, iunie,, 1. Höppner, F. (1). A VAR Analysis of he Effecs of Fiscal Policy in Germany, Insiue for Inernaional Economics, Universiy of Bonn, 1, 1. Nuţă, F., M., Nuţă, A., C., (9). Implicaţiile socio-economice ale poliicilor fiscal-bugeare, Galaţi, Ediura Europlus Nuţă, A., C., (). The incidence of public spending on economic growh, EuroEconomica 1()/, Galaţi, hp:// 9