Fiscal stabilization in resource-rich developing economies amid a resource revenues downturn: A new-Keynesian analysis

In the present paper we study the stabilizing effect of alternative fiscal policy measures in response to a fall in a developing country's revenues from their natural resources sector. The theoretical framework of a new-Keynesian small open economy is used, and the model is calibrated to the economy of Guinea. We find that a countercyclical public investments policy reduces private consumption further in the short run while the associated increasing level of public capital allows for a higher net increase in future private consumption only from the medium run onwards. The tax relief policy, in addition to requiring less public borrowing than the countercyclical spending policy as well as leading to less inflationary pressures, raises private consumption from baseline, on-impact and in the short run. The commonly recommended use of a sovereign wealth fund does raise private consumption and non-resource output, on impact and durably afterwards, and reduces inflation and public borrowing requirements, but does contract the competitiveness of domestically produced intermediate goods and causes a downswing in labor demand domestically.