Determining the Twin Deficits Phenomenon in Kenya

Abstract

Aims: This study examines whether the long-run relationship between fiscal and current deficits follows the tenets of twin-deficits, the Ricardian equivalence, the current account targeting, or the feedback linkages. It further reviews the effects of fiscal and current account deficits on economic growth. These have in recent years been debated both in developed and developing countries.  In contributing to this ongoing debate, the authors applied unit root tests, cointegration analysis, a dynamic vector error correction model and Toda-Yamamoto Granger-causality representation using annual time series data from 1980 to 2016. Study Design: The study employs quantitative time-series research design by utilizing Stata econometrics software. Place and Duration of Study: Sample: Kenya, from 1980 to 2016. Methodology: The study employs unit root tests, Johansen (1995) co-integration analysis, a dynamic vector error correction model and a multivariate Toda-Yamamoto (1995) Granger-causality representation. Results: The paper provides evidence of unidirectional causality running from fiscal deficit to current account deficit in support of the twin-deficits phenomenon for Kenya. There is evidence that in the long-run fiscal deficits has significant negative effects while current account deficits had significant positive effects, on economic growth in Kenya.  Conclusion: Overall, the study concludes that the twin-deficits phenomenon fits for Kenya. The findings imply that the authorities need to pay more attention and promote policies that improve investment efficiency arising from these deficits. Importantly, some of the key policy implications include promotion of policies that upscale fiscal discipline and reduce the size of fiscal deficits for external stability and long-term economic growth, in Kenya.