Measuring fiscal policy sustainability in developing Asia: what does the Markov switching augmented Dickey-Fuller test tell us?
Date
2023-07-04
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Abstract
This paper measures fiscal sustainability in 22 developing Asian countries for the period 1998 –
2017. Previous literature generates conflicting results: one paper, which employs a fiscal reaction
function, finds that fiscal policy is unsustainable on average in the region. Another paper applies
the usual stationarity and cointegration tests and finds that fiscal policy is sustainable but in weak
form. However, the usual stationarity tests have been found to be unreliable in the presence of non-
linearities. Thus, this paper uses an expanded version of the Markov Switching Augmented
Dickey-Fuller test (MS-ADF) which allows for nonlinearities and structural breaks; MS-ADF has
never been applied to this set of countries. Results show that the majority of the countries have
“uncertain” debt trajectories, not definitively sustainable or unsustainable but somewhere in-
between. This is a more nuanced picture of the debt trajectories in the region relative to what
obtains when using the standard ADF or fiscal reaction function methods. A more nuanced
assessment could lead to more suitable policy corrections.
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Keywords
fiscal sustainability, public debt, stationarity test, MS-ADF