Short and Long-run Budgetary Relationships

Abstract

We empirically estimate the short- and the long-run effects of fiscal policy on the Lebanese economy. Such estimates should be valuable in shaping the administrative reforms of the budgetary process in Lebanon where the debt-to-GDP ratio reached about 146% in 2013 (Bank Audi, 2013)0. A Vector Error Correction model is estimated to determine the long-run relationship between government spending and government revenues and their short-run dynamics. The results indicate that long-run adjustments are better managed through government revenues and expenditures, whereas short-run imbalances should be offset by changes in spending. Two adjustment mechanisms leading to long-run equilibrium are identified and their dynamics are explained. The first is “value-based” which stipulates that government reduces spending and increases revenues when the economy is growing. The second is “cost-based” where reduction in government expenditures is called for when interest rates increase.