Back Matter
  • 1 https://isni.org/isni/0000000404811396, International Monetary Fund

Appendix. Econometric Analysis

Determinants of real per capita GDP growth (Table 1). To assess the effects of fiscal policy on per capita output, we use dynamic panel regressions where real per capita GDP growth (that is, the dependent variable) is regressed on a fiscal balance indicator, on the share of government capital spending over total public spending, and on the ratio of public debt as in Baldacci and others (2004). The model controls for external conditions by including an indicator of trade openness. The signs and the significance of the coefficients of the model suggest that for a given amount of public spending, expanding the share of capital investment helps boost per capita growth while expanding the deficit does not. The impact of capital spending on growth is stronger in Asia and Pacific small states than in other small states, consistent with their larger development needs. The model also suggests that there is a nonlinear relationship between debt and growth in line with previous results (IMF, 2012): while low levels of debt are good for growth, high levels are not.

Table 1.

Determinants of Real Per Capita GDP Growth1

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Panel regressions, 1990–2013 using the generalized method of moments (GMM) to correct for endogeneity by instrumenting with lagged explanatory variables. Asterisks indicate p-values: *** p<0.01, ** p<0.05, * p<0.1

Excludes small states.

Determinants of real revenue (Table 2). Separate dynamic panel regressions were run for different groups (small states, Pacific island small states, LIC emerging markets, resource-rich small states, and non-resource-rich small states) to identify the variables that explain real revenue. The dependent variable (real revenue) is regressed on GDP (and its lag), weighted terms of trade (and its lag), a variable on natural disasters, lagged real revenues and fishing license fees. Revenue shows strong procyclicality, especially in small states that are net commodity importers. And revenue procyclicality is a source of revenue volatility. Coefficients on real GDP growth variables higher than 1 suggest revenue procyclicality (that is, revenue is growing faster than GDP during upturns and slower than GDP during downturns). For small states, the sum of the coefficients on real GDP growth (current period and one-period-lagged)—a proxy for cyclical components of revenues—is equal to 1.7. After controlling for GDP, revenue depends on terms of trade shocks, especially in resource-rich small states. Natural disasters also heighten revenue volatility. Staff analysis suggests that a natural disaster that affects 1 percent of the population causes a drop in real revenue of 0.2 percentage point.

Table 2.

Determinants of Real Revenue1

(Year-on-year percent change)

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Panel regressions, 1990-2013 using the generalized method of moments (GMM) to correct for endogeneity by instrumenting with lagged explanatory variables. Combined coefficients higher than 1 on real GDP growth and lagged GDP growth imply revenue procyclicality. Asterisks indicate p-values: *** p<0.01, ** p<0.05, * p<0.1.

Includes countries dependent on fishing license fees.

Impact of natural disasters on tax revenue (Appendix Figure 1). Staff analysis using a panel VAR suggests that a natural disaster that affects 1 percent of the population in the small states of the Pacific leads to a contraction in tax revenue of 0.2 percentage point of GDP in the year of the disaster, followed by a revenue rebound the next year (Cabezon and others, forthcoming). The model focuses on the impact of natural disasters on real GDP and fiscal variables. The specification includes the following variables: natural disaster intensity, real GDP growth, change in total government expenditure as a percent of GDP, change in tax revenue as a percent of GDP, and change in the overall fiscal balance as a percent of GDP. The variable on natural disaster intensity is measured by the number of fatalities and others hurt by the disaster as a share of total population, in line with Fomby and others (2013).

Appendix. Figure 1.
Appendix. Figure 1.

Pacific Island Small States: Response of Tax Revenue to Natural Disasters

(Percentage points of GDP)

Citation: IMF Working Papers 2015, 124; 10.5089/9781513529103.001.A999

Degree of spending procyclicality (Table 3). This model assesses the degree of spending procyclicality (that is, capital spending increasing during good times and declining during recessions). The change in real government spending is regressed on changes in real growth. The elasticity of real current government spending is lower than 1, suggesting that current spending is not procyclical. The elasticity of capital is much larger than 1, suggesting fiscal procyclicality.

Table 3.

Degree of Spending Procyclicality1

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Panel regressions, 1990–2013.

Asterisks indicate p-values: *** p<0.01, ** p<0.05, * p<0.1

Spending is procyclical if the coefficient on real GDP growth is higher than 1.

Annex I. List of Small States 1/

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Note: AFR = African region; APD = Asia and Pacific region; EUR = European region; MCD = Middle East and Central Asia region; and WHD = Western Hemisphere region.

Annex II Fiscal Anchors in Small States

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An ECCU target requires reducing the public debt-to-GDP ratio to 60 percent by 2020. Sources: Country authorities and IMF teams.

References

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1

We are grateful to the Small States country authorities for their thoughtful comments and suggestions. We also wish to thank, IMF colleagues of the Small Islands Club, Peter Allum, Goran Amidzic, Michael Andrews, Emanuele Baldacci, Adrienne Cheasty, Pietro Dallari, Tubagus Feridhanusetyawan, Valeria Fichera, Anne-Marie Gulde-Wolf, Ron Hackett, Richard Hughes, Leni Hunter, Phousnith Khay, Vladimir Klyuev, Takuji Komatsuzaki, Xavier Maret, Marshall Mills, Ruud de Mooij, Seán Nolan, Geremia Palomba, Scott Roger, Marta Ruiz-Arranz, Wendell Samuel, Abdelhak Senhadji, Michael Stanger, Robert York, and Jiangyan Yu for their comments, and to Hoe Ee Khor for his guidance throughout the project. Antoinette Kanyabutembo provided excellent administrative assistance, and Rosanne Heller provided outstanding editorial assistance.

1

Specifically an episode of expenditure expansion is defined as an increment in the government expenditure-to-GDP ratio for a least two consecutive years. Government expansion is assumed led by capital expenditure if capital expenditure explains at least two-thirds of the government expenditure growth.

2

On the impact of public spending policies on growth, the ongoing debate shows that the growth dividend of public capital spending also hinges on the return of investment (see Box 1), the sources of financing (Gemmell and others, 2012; and Romp, and De Haan, 2007), and the quality of the investment processes in terms of project selection and implementation (Gupta and others, 2014).

3

The indirect component of resource revenue is estimated by running a regression of the nonresource revenue on the resource revenue. This provides an estimation of the co-movements of the two components of revenues. The indirect effect of resource revenue is estimated by projecting the nonresource revenue based on the resource revenue.

4

Kiribati has experienced a significant improvement in tax collection with the introduction of a withholding tax at the source in March 2009. It also introduced the VAT in 2014.

Strengthening Fiscal Frameworks and Improving the Spending Mix in Small States
Author: Ezequiel Cabezon, Ms. Patrizia Tumbarello, and Mr. Yiqun Wu
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    Pacific Island Small States: Response of Tax Revenue to Natural Disasters

    (Percentage points of GDP)