Effect of Fiscal Policy Shocks in Brazil

This article makes a comprehensive assessment of the effect of a fiscal policy shock in Brazil. I found that gross domestic product does not rise in the short run in response to the fiscal policy shock albeit it rises in the long run. In addition, I found that unlike an advanced economy like the USA, the response of both fiscal and monetary variables estimated in the VAR are very volatile with the stock price index which represents Brazil’s financial sector in the VAR model responding negatively (revenue shock) to the policy innovation in the short run while rising and falling below the steady state several times throughout the forecasting horizon. Possible explanations for these results includes weak economic and political institutional frameworks leading to weak transmission mechanisms of fiscal policy innovations. In fact when government expenditure is not used for infrastructure projects, utility-generating economic activities or externalities that gets onto the economic production function, then extra government expenditure ends up taking resources away from the Brazilian economy.