Does the Credible Fiscal Policy Reduce its Volatility? The Case of Indonesia
Does the Credible Fiscal Policy Reduce its Volatility? The Case of Indonesia

Summary/Abstract: The objective of this paper is to investigate whether fiscal policy credibility, in form of explicit deficit rule or debt rule numerical constraints, can reduce the degree of its volatility. The main motivation behind this research is in one hand, a negative and robust correlation of fiscal policy volatility and long- run growth documented in several papers and on the other – relatively small number of works that discuss possible relation to the credibility. To test the hypotheses, we use the quarterly data in the case of Indonesia over the period 2001(1)-2013(4). By applying ordinary least squares method, we demonstrate that the impact of fiscal policy credibility on the fiscal policy volatility typically depends on characteristics of fiscal rule commitment. In one hand, the debt rule credibility significantly reduces the fiscal policy volatility. In contrast, the deficit rule incredibility increases the fiscal policy volatility. Those findings suggest the specific enforcement mechanism to promote automatic correction dealing with the dynamics of overall balance deficit.

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