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Does Fiscal Policy Affect Interest Rates? Evidence from a Factor-Augmented Panel

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  • Salvatore Dell'Erba
  • Sergio Sola

Abstract

This paper reconsiders the effects of fiscal policy on long-term interest rates employing a Factor Augmented Panel (FAP) to control for the presence of common unobservable factors. We construct a real-time dataset of macroeconomic and fiscal variables for a panel of OECD countries for the period 1989-2012. We find that two global factors—the global monetary and fiscal policy stances—explain more than 60 percent of the variance in the long-term interest rates. Compared to the estimates from models which do not account for global factors, we find that the importance of domestic variables in explaining long-term interest rates is weakened. Moreover, the propagation of global fiscal shocks is larger in economies characterized by macroeconomic and institutional weaknesses.

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Bibliographic Info

Paper provided by International Monetary Fund in its series IMF Working Papers with number 13/159.

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Length: 44
Date of creation: 03 Jul 2013
Date of revision:
Handle: RePEc:imf:imfwpa:13/159

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Related research

Keywords: Fiscal policy; OECD; Interest rates; Monetary policy; Economic models; Cross country analysis; Real time data; Cross-sectional dependence; Heterogeneous panels; public debt; fiscal stance; budget deficits; fiscal variables; primary deficit; fiscal projections; aggregate fiscal; fiscal expansion; fiscal discipline; fiscal policy variables; fiscal positions; fiscal shocks; fiscal deficits; fiscal vulnerabilities; fiscal retrenchment; account deficits; taxation; primary fiscal deficit; fiscal adjustment; tax policy; fiscal outcome; foreign capital; public expenditures; public deficits; fiscal affairs department; budget law; fiscal sustainability; fiscal authorities; fiscal stimulus; debt service; fiscal expansions; aggregate budget; fiscal policy decisions; fiscal consolidation; fiscal factors;

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