Does the Twin-Deficits doctrine apply to the Gulf Cooperation Council? A dynamic panel VAR-X model approach

Economies around the world tend to show a strong link from fiscal to current accounts deficits. The phenomenon is recognized as the twin-deficits doctrine, which stipulates the presence of a uni-directional causal relationship from the fiscal account deficit (FD) to the current account deficit (CD). This relationship is also apparent for the commodity-based economies of the Gulf Cooperation Council States (GCC). The region is well-documented to rapidly succumb to deteriorating fiscal and current account deficits with any prolonged decline in international crude oil prices. This study extends the research of Granger non-causality between budget deficits by employing a macro-panel in a two-dimensional vector autoregression model with an exogenous variable (VAR-X) process where oil is included as the exogenous control variable. The study uses a homogeneous model in the generalized method of moments framework to conduct a comprehensive investigation between the two deficits and analyze if the twin-deficits doctrine applies to the GCC. A heterogeneous model with fixed time coefficients is then used as a robustness check to assess if the twin-deficits phenomenon applies to any of the GCC States. The results indicate that the pooling of data from six GCC States and the inclusion of international oil prices, as the third latent element, leads to the dismissal of the twin-deficits doctrine for the GCC as an integrated unit of analysis, and, for each member State of the GCC individually. Interestingly, the analysis uncovers a reverse direction of causality running from CD to FD.