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Growth Effects of Fiscal Policy Implications for Bangladesh

In Bangladesh, public spending—current and development expenditure—is financed mainly by tax and non-tax revenues. Importantly, the annual budget is the instrument through which the government tries to meet the strategic development targets and goals stated in the country’s medium-term, five-year plans and long-term, perspective plans. In view of the government’s sharp focus on achieving high economic growth rates (8-10%) over the next five years, this paper examines the effects of fiscal policy on economic growth (GDP) in the short and long run. The paper used various methods to examine the relationship between fiscal variables and the GDP. Several tests were conducted: the unit root tests to check stationarity; the cumulative sum (CUSUM) and cumulative sum of squares (CUSUMSQ) to check model stability; the Bounds test of the ARDL and Johansen cointegration test to check the existence of long-run relationships among the variables in the regression model; and the Granger causality test to identify the presence and direction of causality among the pairs of variables in the model. The Bounds test of the ARDL method confirmed the existence of a long-run stable relationship between economic growth and fiscal variables. The results also imply the eventual convergence towards long-run equilibrium even if a shock occurs in the short run. Results using the Granger causality test show that direct tax has two-way causal relationships with economic growth in the short run. However, indirect tax has a unidirectional relationship with GDP.

Authors: Rahman, Sultan Hafeez; Siddiquee, Muhammad Shahadat Hossain
Type: Policy Brief
Year: 2020

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