Financial cycles and fiscal policy in developing and emerging economies: an evaluation of the Brazilian case (1997–2018)

Abstract

This article investigates the existence of a link between financial cycles and fiscal cycles, and discusses possible policy implications for developing and emerging economies (DEEs). It empirically analyses the impact of financial cycle shocks on the short-term dynamics of Brazil’s fiscal policy by estimating a vector autoregressive (VAR) model for the period 1997–2018. The results indicate that financial cycles have pro-cyclical effects on the fiscal policy. This suggests that a fiscal policy should consider not only the cyclical behaviour of the output, but also its role in minimising financial factors. By explicitly linking Brazil’s fiscal performance with Brazil’s higher vulnerability to the financial cycle, this article adds to the literature that strives to understand the policy implications of the financialisation process in DEEs. It also contributes to the more general empirical literature on DEEs’ fiscal dynamics.