The Macroeconomic Effects of Budget Deficit in Bangladesh An Empirical Analysis

Abstract

The major objective of this study is to explore the dynamic causal linkages between budget deficit and key macroeconomic variables in Bangladesh using a long span of time series data from 1980 to 2016. Though there are a lot of piecemeal studies dealt separately on  the linkage between budget deficit and one or two macroeconomic variables (either in bivariate or trivariate framework) , the present  study consider the impact of budget deficit on all the key macroeconomic variables in Bangladesh. Though the earlier studies bear  significance, the present study is an improvement of the earlier studies in terms data used and methodological point of view. The  study examines the time series properties of the data using the widely used ADF unit root tests, which is again rechecked by the  Phillips-Parron test and Johansen-Juselius multivariate cointegration test to examine the long run equilibrium relationship. The study found bidirectional causality between budget deficit and gross domestic product (GDP), while there is unidirectional causality from  budget deficit to the interest rate, inflation rate and the exchange rate. The result is supported both by the F test (based on Granger  causal relationship) and also the t test (based on error correction model). The implication of the result is that the higher is the budget deficit the higher will be the public debt, which can enhance the national output in the economy. The result also shows that the GDP is  positively causally related to the budget deficit. The implication of the result is that public debt has positive impact on the output  growth in Bangladesh. The negative impact calls for the reliance of the economy on domestic resources. Domestic resource  mobilization and incentives for domestic investment can be helpful for long run growth.