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Macroeconomic effects of budget deficits in Uganda: a VAR-VECM approach

Author

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  • Musa Mayanja, Lwanga
  • Joseph, Mawejje

Abstract

This paper investigates the relationship between budget deficits and selected macroeco¬nomic variables for the period 1999 to 2011 using Vector Error Correction Model (VECM), pairwise granger causality test and variance decomposition techniques. Results indicate that the variables under study are cointegrated and thus have a long run relationship. Results based on the VECM reveal unidirectional causal relationships running from budget deficits (BD) to current account balance (CAB), inflation to BD and BD to lending interest rates. But the results show no causal relationship between gross domestic product (GDP) and budget deficits in Uganda. The Pairwise Granger Causality test results reveal unidirectional causal relationships running from budget deficit to current account, BD to GDP, inflation to BD, and a bi-directional causal relationship between the current account balance and GDP. Variance decomposition results show that, variances in the current account balance and GDP are mostly explained by the budget deficit followed by lending interests while variance in lend¬ing interest rates is mostly explained by inflation followed by GDP, variance in the Inflation is mostly explained by variance in lending interest rates followed by the current account bal¬ance. The results from the study clearly show that budget deficits in Uganda are responsible for widening current account deficit and raising interest rates. Fiscal and monetary policy actions are therefore needed to contain and reduce the deficit in order to minimize its ef¬fect on the current account and lending interest rates. Such actions should aim at increasing Uganda’s tax revenue collection by adopting efficient and effective methods of tax collec¬tion. Such policies should see a reduction in the informal sector which has proved difficult to tax and a reduction in ineffective tax exemptions. Government should improve and heighten its efforts in combating tax evasion and corruption which undermine its tax collection ef¬forts.

Suggested Citation

  • Musa Mayanja, Lwanga & Joseph, Mawejje, 2014. "Macroeconomic effects of budget deficits in Uganda: a VAR-VECM approach," Research Series 184172, Economic Policy Research Centre (EPRC).
  • Handle: RePEc:ags:eprcrs:184172
    DOI: 10.22004/ag.econ.184172
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    References listed on IDEAS

    as
    1. Catao, Luis A.V. & Terrones, Marco E., 2005. "Fiscal deficits and inflation," Journal of Monetary Economics, Elsevier, vol. 52(3), pages 529-554, April.
    2. Adam, Christopher S. & Bevan, David L., 2005. "Fiscal deficits and growth in developing countries," Journal of Public Economics, Elsevier, vol. 89(4), pages 571-597, April.
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    Cited by:

    1. Joseph Mawejje & Nicholas M. Odhiambo, 2021. "Uganda's fiscal policy reforms: What have we learned?," Public Budgeting & Finance, Wiley Blackwell, vol. 41(2), pages 89-107, June.
    2. International Monetary Fund, 2015. "Uganda: Staff Report for the 2015 Article IV Consultation and Fourth Review Under the Policy Support Instrument," IMF Staff Country Reports 2015/175, International Monetary Fund.
    3. Murshed, Muntasir & Nijhum, Nawrin Khan, 2019. "The Fiscal and Current Account Imbalances: An Empirical analysis of the Twin Deficits Hypothesis in Bangladesh," MPRA Paper 97115, University Library of Munich, Germany.

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    Keywords

    Consumer/Household Economics; Demand and Price Analysis; Financial Economics; Public Economics; Risk and Uncertainty;
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