Macroeconomic Shocks and the Government Debt Dynamics: An Updated Czech Experience

This paper studies how macroeconomic shocks affect the government debt dynamics in a small and highly open economy of the Czech Republic. Applying this modeling approach to the Czech data ranging from 2000 to 2014, the author derive some implications for fiscal policy. The modeling framework includes structural vector autoregression (SVAR) model with debt feedback, estimated using short-term identification restrictions, and non-linear specification of the government debt dynamics. The considered model variables are GDP, inflation, the effective interest rate on government debt, government revenues and expenditures, the exchange rate and government debt. The model estimation is carried out using the Bayesian approach. According to the results, allowing for a non-linear dynamics in the government debt to GDP ratio could imply stronger persistence and higher volatility in the responses of government indebtedness to macroeconomic shocks. Further, the fiscal stance of the Czech Republic seems to be most vulnerable to unexpected depreciation of the Czech crown, discretionary pro-cyclical increases in government expenditures and decrease in government revenues.