Does fiscal policy matter for trade balance in the OECD countries? Panel vector error correction estimation

Abstract

The purpose of this paper is to examine the impact of fiscal expenditure on trade balance for Organization for Economic Corporations and Development (OECD) countries for the period covering 1980-2007. Although the issue has multifaceted dimensions and the theoretical literature has offered various models concentrating different aspects of the subject, the study utilises the so-called traditional approach involving both absorption model and elasticity model in examining the research question. To evaluate the dynamic behaviour of trade deficit and its link with other macroeconomic variables (including income, fiscal expenditure and exchange rate), we employ the panel error correction method as an empirical device. The long-run analysis shows that trade balance is negatively related to increase in government expenditures and income as well as local currency appreciations. The vector error correction analysis does not support the validity of J-curve effect in trade balance of OECD countries. © 2014 Inderscience Enterprises Ltd.