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On the Properties of Various Estimators for Fiscal Reaction Functions

Author/Editor: Celasun, Oya | Kang, Joong Shik
Authorized for Distribution: July 1, 2006
Electronic Access: Free Full Text (PDF file size is 454KB)
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Disclaimer: This Working Paper should not be reported as representing the views of the IMF. The views expressed in this Working Paper are those of the author(s) and do not necessarily represent those of the IMF or IMF policy. Working Papers describe research in progress by the author(s) and are published to elicit comments and to further debate.

Summary: This paper evaluates the bias of the least-squares-with-dummy-variables (LSDV) method in fiscal reaction function estimations. A growing number of studies estimate fiscal policy reaction functions-that is, relationships between the primary fiscal balance and its determinants, including public debt and the output gap. A previously unexplored methodological issue in these estimations is that lagged debt is not a strictly exogenous variable, which biases the LSDV estimator in short panels. We derive the bias analytically to understand its determinants and run Monte Carlo simulations to assess its likely size in empirical work. We find the bias to be smaller than the bias of the LSDV estimator in a comparable autoregressive dynamic panel model and show the LSDV method to outperform a number of alternatives in estimating fiscal reaction functions.
 
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Series: Working Paper No. 06/182
Subject(s): Budget deficits | Domestic debt | Economic models
Author's keyword(s): Fiscal reaction functions | panel data | dynamic models
 
English  
    Published:   July 1, 2006        
    ISBN/ISSN:   0 / 1934-7073   Format:   Paper
    Stock No:   WPIEA2006182   Pages:   29
    Price:   US$15.00 (Academic Rate: US$15.00 )
       
     
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