Budget Deficit and Inflation among ECOWAS Countries: An Econometric Modeling

Abstract

Using ECOWAS as a focal point, the paper sets out to empirically investigate the relationship between budget deficit and inflation. According to theory, fiscal imbalances result in inflation problem as shown by Nigerian experience of the late 90s. The findings from the empirical studies reveals a strong evidence that a budget deficit financed through monetarisation and a rising money supply will always lead to inflation. The inflationary effect of budget deficit depends on the means by which the deficit is financed and its impact aggregate demand. In this study, annual budget deficits and inflation relationships are studied by utilizing the Larsson et al, (2008) test approach for fifteen ECOWAS countries (i.e. Benin, Burkina Faso, Cape Verde, Ivory Coast, Gambia, Ghana, Guinea, Guinea Bissau, Liberia, Mali, Niger, Nigeria, Senegal, Sierra Leone and Togo) over the period 1980 - 2011.  Apart from the traditional studies, this paper evaluates the relationship by using panel data cointegration analysis. First and foremost, LLC, IPS and Hadri tests  are  employed to test the presence of unit roots among the selected variables. Thereafter, a cointegration analysis was carrtied out. The results from our findings suggests that budget deficit and inflation has long-run positive significant relationship in some of the countries, while it has negative relation in other countries. At the end, we conclude that there is a difference in tendency toward budget deficit and inflation relationships in both developed countries and less developed countries ( ECOWAS).

Keywords: Inflation, Panel data,  Budget deficit, Cointegration test, ECOWAS