erc/metu
INTERNATIONAL CONFERENCE IN ECONOMICS  IV
September 13-16, 2000, Ankara

Twin Deficit Hypothesis: The Turkish Case

Elif Akbostancı ÖZKAZANÇ (METU)
G. İpek TUNÇ (METU)

Abstract

Twin deficit hypothesis maily depends on the Mundell-Fleming type analysis; stating that government budget deficits will cause current account deficits under both flexible and fixed exchange rate regimes. However, this is not the only theoretically possible relationship between the budget deficit and the current account deficit. It is also possible that current account deficits might cause budget deficits or they might be mutually interdependent. Finally, if Ricardian Equivalance Hypothesis holds than it is also possible that two deficits are not related at all. In this study these possibilities between the budget deficit and foreign sector deficit for Turkey between 1984 –1999 period is examined by using the cointegration methodology and by estimating an error correction model. This enabled us to search the relationship between the internal and external deficits both in the sort-run and in the long-run. Our analysis in the long-run showed that there is a long-run relationship between the two deficits , even though the causal direction is indeterminate. The short-run model yielded that budget deficit and the current account deficit mutually depend on each other, i.e. there is feedback between the two deficits. Therefore we have concluded that Ricardian equivalance hypothesis is not valid for Turkey in the study period, while twin deficit hypothesis only partially explain the relationship between the twins since it is also true that external deficit feeds the budget deficit.

Economic Research Center
Middle East Technical University
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