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Fiscal Policy Reaction in Japan

The University of the Free State. Fiscal Policy Reaction in Japan. Presentation by Evelina Niishinda B.Com Honours: Economics 29 October 2010. Structure of presentation. Objectives Literature Method Empirical results Conclusion. I. Objectives. Primary objective

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Fiscal Policy Reaction in Japan

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  1. The University of the Free State Fiscal Policy Reaction in Japan Presentation by EvelinaNiishinda B.Com Honours: Economics 29 October 2010

  2. Structure of presentation • Objectives • Literature • Method • Empirical results • Conclusion

  3. I. Objectives • Primary objective • Determine how Japanese government respond to its public debt/GDP ratio • Secondary objective • Estimate fiscal reaction function • Test for public debt sustainability

  4. II. Literature • Public debt/GDP ratio -Japan is one of the OECD countries with the highest public debt/GDP ratio (Burger, unpublished article) • Ratio following an upward trend since 1970 • Late 1990s to early 2000s, ratio = 90% (Tokuoka, 2010) • 2008/2009, ratio = 189% (CIA world fact book, 2010)

  5. Literature cont… • Cause of increase in debt is debatable • Expansionary fiscalpolicy (Kuttnerand Posen, 2002) increase in primary deficit • Increase in bond issue (Kang, 2010) • Lower government revenue due to aging population. • Fiscal rules (Von Hangen, 2005., Burger and Jimmy, 2006): • 1981 - Fiscal Consolidation Agreement • 1991/92 - Fiscal Restructuring Targets • 2002 - Reform and Perspective Programme

  6. III. Method • Two methods, GMM and VAR to estimate fiscal reaction function. • OECD data, 1970-2008 • Fiscal reaction Function: - >0: government respond to increase in public debt/GDP ratio by increasing primary surplus.

  7. Method Cont... • Debt sustainability • Determined by the relationship between real growth(g) and real interest rate(r). • Condition: • If r>g, government need to run primary surplus • If r<g, can run primary deficit without putting pressure on debt/GDP ratio.

  8. IV. Empirical results • Stationarity tests Table 1

  9. Empirical results cont.... • Fiscal reaction function Table 2, GMM estimation.

  10. Empirical results cont…. • Results provide positive but weak reaction of primary balance to changes in the debt/GDP ratio. • CAPBYP coefficient, =1.208, shows that primary balance is an explosive random walk process.

  11. Empirical results cont….. Table 3:Vector Auto Regression estimates. In parenthesis, t-ratios

  12. Empirical results cont…. • From CAPBY equation, only CAPBY at lag 1 and 2 are statistically significant at 5%. • Output gap is statistically significant at 10% • Negative output gap coefficient means that Japan fiscal policy is procyclical.

  13. Impulse responses

  14. Debt/GDP ratio. Is it/has it been sustainable? • Figure3: CAPBY, real GDP growth and real interest • R > G, run primary surplus • R< G, can run primary deficit

  15. V. Conclusion • Government respond to the increase in public/debt GDP ratio by increasing their primary surplus (increase insignificant). • Results show evidence of unsustainable public debt/GDP ratio.

  16. Thank you

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