Fiscal Multipliers in Emerging Economies: A Nonlinear Approach to Policy Effectiveness

Abstract

This paper will look at the value and conduct of fiscal multipliers in emerging economies using a nonlinear analytical framework, which will provide an evaluation on policy effectiveness under various macroeconomic conditions. Although traditional linear approaches presume that multiplier impacts are always constant, mounting evidence indicates that fiscal policy can have different impacts across economic cycles, levels of debt as well as financial limits and external susceptibility. This study examines the fiscal expansions to understand whether they lead to asymmetric effects (during recessions and expansions) and threshold conditions (inflation, public debt, output gaps) to modify the channel of transmission of fiscal shocks. The study employs nonlinear econometric models of threshold regression and regime switching model to estimate a state-reliant output response of government spending and taxation variations using panel data of selected emerging markets over a multi-decade period. The results show that fiscal multipliers are higher in times of economic recessions as the monetary policy room is narrow, and the financial markets are not experiencing downward trends. Multiplier effects, in contrast, fall in a high-debt or high-inflation regime, in which policy transmission is undermined by crowding-out effects and credibility problems. The analysis also shows heterogeneity among countries which is manifested by the variations in institutional quality, fiscal credibility, trade openness, as well as exchange rate flexibility. These findings underscore the need to design policies within the context, as opposed to use of standard multiplier presumptions. The research adds value to the literature by providing empirical data that fiscal effectiveness in the emerging economies is nonlinear and depends on macroeconomic regimes. The policy implications are that the countercyclical fiscal policies become more effective when they are taken in supportive macroeconomic conditions and credible fiscal frameworks. Adaptive fiscal policies based on nonlinear dynamics have the potential to improve the results of stabilizing the situation and achieve sustainable economic growth in the emerging markets.