Effectiveness of countercyclical fiscal policy: Evidence from developing Asia

Can discretionary fiscal policy effectively stimulate output? This paper examines this question in the context of developing Asia, where many countries implemented fiscal stimulus measures to support domestic demand during the global crisis. Economic conditions normalized after the crisis but growth in Asia has slowed down since. We examine historical data from 10 emerging Asian countries to assess whether countercyclical fiscal policy can support future growth in the region. Our examination is based on identifying shocks by restricting the contemporaneous relation between fiscal and non-fiscal variables. Our most significant and consistent finding is that in developing Asia, tax cuts have a greater countercyclical impact on output than government spending. This implies there is some scope for countercyclical tax adjustments so long as fiscal sustainability is not compromised.