Estimating the relationship between GDP growth and government spending in four GCC countries: a comparison of GDP and non-oil GDP growth

Abstract

In this study we are investigating the long-run causal relationship between real total government expenditure and real gross domestic product in terms of total GDP and non-oil GDP separately. Wagner's Law represents an hypothesis that causality runs from GDP to government spending. In this study six versions of Wagner's law are tested for four of the Gulf Cooperation Council (GCC) countries: Saudi Arabia, Bahrain, Kuwait, and Oman. Existing literature on this question is mixed. One of the contributions of this study is its application of the latest econometric techniques, specifically the use of the Error Correction Model (ECM), in attempting to establish long run causality. Another contribution is the decomposition of GDP that provides an opportunity to compare growth of the oil and non-oil sectors of the economy in countries that are heavily dependent on oil but are also making efforts to diversify their economic activities. The role of government spending in contributing to long run economic growth continues to be an important topic and the subject of much debate. This study attempts to contribute in a positive way to the debate. The results obtained from this study find that the Wagnerian proposition holds for the preponderance of versions of Wagner's Law for two of the countries in the study; Saudi Arabia and Bahrain. In this case one of the policy implications is that the governments in these countries do not have to be concerned with maintaining a particular level of government spending to promote economic growth. This result holds for both the oil and non-oil sectors of these economies. This provides these governments with an opportunity to focus on reducing their budget deficits. The results also find that the Keynesian proposition holds for the preponderance of versions of Wagner's Law for the other two countries in the study; Kuwait and Oman. In this case the policy implications are quite different from above as governments must recognize the importance of government spending for long run economic growth in both the oil and non-oil sectors of the economy, and ultimately for economic development also. Other implications of these results are discussed in the conclusion to the dissertation.