Asymmetric Effects of Fiscal Deficit Financing and Inflation Dynamics in Ghana

Abstract

Fiscal Deficit Financing (FDF) has been unsustainably high in Ghana and this has led to unstable and high inflation episodes since 1980. The FDF averaged 4.6% from 2005-2011 and 6.9% to 2012-2018, while inflation averaged 11.0% and 13.1% relative to medium-term to long-term inflation target of 8.0% in the same periods, respectively. Previous studies on deficit financing-inflation nexus in Ghana have primarily focused on linear and symmetric relationship, thereby ignoring the asymmetric policy effects of FDF on inflation dynamics. Disregarding the asymmetry of FDF could impact negatively on efforts of Bank of Ghana in forecasting and controlling inflation effectively. To address this problem, this study was therefore designed to investigate the asymmetric policy effects of FDF on inflation dynamics in Ghana over the period 1980-2018. The fiscal theory of the price level provided the theoretical framework. The Non-linear Autoregressive Distributed Lag (NARDL) econometric methodology was deployed to examine the asymmetric effects of FDF on inflation dynamics. The paper found that FDF had asymmetric effects on inflation dynamics in Ghana as the positive outcome of FDF had a significant positive asymmetric effect of 29.0% on inflation while its negative outcome had a relatively less asymmetric effect of 22% on inflation dynamics, suggesting that consolidating fiscal policy was disinflationary. The paper finally recommends that fiscal authorities should adopt consolidating and prudent fiscal policies that could lead to fiscal solvency and sustainability, which could potentially moderate the effect of FDF on inflation dynamics.

Fiscal Policy and Tax Revenue on the Growth and Development of the Ghanaian Economy: Adam Smith’s Classical Model of Taxation as a Referent Yardstick

“…Relatedly, this phenomenon leads to debt financing, bringing about high-interest payments, high inflation rates and unfavourable exchange rate spirals, and its attendant effect of depreciation on the local currency. Thus, Ghana's fiscal deficits and public debt have been persistent challenges for the country's economic management (Abille & Kiliç, 2023;Osei & Ogunkola, 2022;Ackah et al, 2020). The tax-to-GDP ratio in Ghana increased by 0.2 percentage points from 13.2% in 2019 to 13.4% in 2020.…”