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Twin Deficits in the European Countries

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Abstract

Public debt is a burden on future electors and taxpayers. In the absence of constitutional constraints, the incumbent government may show the cost of some public expenditures or tax reductions toward the future by financing them via new debt. However, according to the Ricardian theorem of public debt, the burden of debt is always anticipated via increased saving. If this theorem were true, a budget deficit would not affect the current account of the balance of payment. This paper analyzes the relationship between trade deficit and budget deficit. Using yearly data for the period between 1970 and 2010 in 33 European countries, we find evidence supporting the hypothesis that a chronic and robust budget deficit generates a trade deficit. The dynamic estimates show that a 1 % decrease in the government budget surplus/GDP ratio tends to deteriorate the current account/GDP ratio of 0.37 %, confirming previous studies with a different empirical basis. Dividing the sample period into two sub-periods (1970–1991 and 1992–2010), empirical findings show that current and past values of government budget influence trade balance in the first sub-period, whilst past values of government budget affect trade balance in the most recent years. Moreover, the estimated effect of government budget on current account balance is positive and equal to 0.48 and 0.30, respectively. For the high deficit countries, a long-run relationship between these variables has been found, showing that one percentage point increase in budget surplus/GDP ratio is associated with an improvement in the current account balance of roughly 0.15 percentage point. The estimated long-run government budget elasticity is negative and statistically significant, while the estimated speed of adjustment is equal to 0.33. Finally, Granger causality tests show mixed results.

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Notes

  1. See Table 14 in Appendix.

  2. For an exhaustive survey on the literature concerning the macroeconomic effects of government debt, see Elmendorf and Mankiw (1998). Seater (1993) and Ricciuti (2003) present rich surveys on RE literature.

  3. On this debate, and for its relevance for countries member of a Monetary Union, see Forte (2010).

  4. See the website: http://data.worldbank.org/topic.

  5. See the website: http://ec.europa.eu/economy_finance/ameco/user/serie/.

  6. Deficit/GDP (2000–2008 mean): high deficit group: Hungary −6.18; Greece −6.00; Malta −5.04; Slovakia −4.67; Poland −4.24; Czech Republic −3.91; Portugal −3.72; Italy −2.88; France −2.81; Romania −2.74; Croatia −2.53; Turkey −2.22; Slovenia −2.20; Cyprus −2.09; UK −2.08. Low deficit group: Germany −1.94; Lithuania −1.86; Latvia −1.67; Austria −1.64; Belgium −0.54; the Netherlands −0.49; Macedonia −0.29; Spain −0.22; Iceland −0.14; Switzerland −0.07; Ireland 0.50; Bulgaria 0.72; Estonia 0.78; Sweden 1.42; Luxembourg 2.39; Denmark 2.62; Finland 3.99; Norway 14.04. Global median: −1.86.

  7. These estimates, as well as all diagnostic tests, are available upon request. Here, we omit some output to save space.

  8. In order to save space, we show only the relevant coefficients and SEs, while the complete output of these estimates is available upon request.

  9. Index of Globalization (2000–2010 mean): low export group: Greece 0.23; France 0.26; Italy 0.26; UK 0.27; Turkey 0.27; Portugal 0.29; Iceland 0.31; Spain 0.32; Poland 0.36; Romania 0.37; Germany 0.40; Croatia 0.41; Finland 0.42; Macedonia 0.42; Norway 0.45; Latvia 0.46. High export group: Sweden 0.47; Switzerland 0.47; Cyprus 0.48; Denmark 0.49; Bulgaria 0.50; Austria 0.52; Lithuania 0.54; Slovenia 0.62; Czech Republic 0.64; the Netherlands 0.69; Hungary 0.71; Estonia 0.72; Slovakia 0.78; Belgium 0.78; Malta 0.83; Ireland 0.87; Luxembourg 1.58. Global median: 0.47 Data form AMECO database.

  10. Croatia, Macedonia and Turkey are missed because of data availability.

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Authors and Affiliations

  1. Sapienza – University of Rome, Rome, Italy

    Francesco Forte

  2. Italian Society of Public Economics, Rome, Italy

    Francesco Forte

  3. Roma Tre University, Rome, Italy

    Cosimo Magazzino

  4. Italian Economic Association, Rome, Italy

    Cosimo Magazzino

  5. Royal Economic Society, Rome, Italy

    Cosimo Magazzino

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  1. Francesco Forte
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  2. Cosimo Magazzino
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Correspondence to Cosimo Magazzino.

Appendix

Appendix

Table 14 An overview of empirical studies on RE and/or TD hypotheses
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Table 15 Paired samples statistics (results for t-tests, ANOVA and other comparison methods)
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Table 16 Paired samples statistics (results for t-tests, ANOVA and other comparison methods)
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Forte, F., Magazzino, C. Twin Deficits in the European Countries. Int Adv Econ Res 19, 289–310 (2013). https://doi.org/10.1007/s11294-013-9406-3

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