Aim/purpose – This paper examines the relationship between budget deficits and selected
macroeconomic variables in Tanzania for the period spanning from 1966 to 2015.
Design/methodology/approach – The paper uses Vector autoregression (VAR) –
Vector Error Correction Model (VECM) and variance decomposition techniques. The
Johansen’s test is applied to examine the long run relationship among the variables under
study.
Findings – The Johansen’s test of cointegration indicates that the variables are
cointegrated and thus have a long run relationship. The results based on the VAR-VECM
estimation show that real GDP and exchange rate have a negative and significant relationship
with budget deficit whereas inflation, money supply and lending interest rate have
a positive one. Variance decomposition results show that variances in the budget deficits
are mostly explained by the real GDP, followed by inflation and real exchange rate.
Research implications/limitations – Results are very indicative, but highlight the
importance of containing inflation and money supply to check their effects on budget
deficits over the short run and long-run periods. Also, policy recommendation calls for
fiscal authorities in Tanzania to adopt efficient and effective methods of tax collection
and public sector spending.
Originality/value/contribution – Tanzania has been experiencing budget deficit
since the 1970s and that this budget deficit has been blamed for high indebtedness, inflation
and poor investment and growth. The paper contributes to the empirical debate on
the causal relationship between budget deficits and macroeconomic variables by employing
VAR-VECM and variance decomposition approaches.
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