Policy Transmissions, External Imbalances, and Their Impacts: Cross-Country Evidence from BRICS

This paper provides an empirical exploration of the interaction between fiscal policy, monetary policy, exchange rates, and external balances as well as their impacts on real economic growth and inflation for the BRICS countries. A panel VAR model is employed to assess the dynamic relationships. Our results generally confirm the significant impacts of a monetary shock on real economic activity but the effect of fiscal policy appears to be much weaker in these countries. We do not find evidence supporting the “twin deficits” hypothesis but the positive interaction between inflation and interest rates — the “price puzzle” — is documented. When bilateral exchange rates and trade deficits (vis-a-vis the US) are used, we find that the BRICS–US bilateral trade balances do not react considerably to currency depreciation shocks, which implies that exchange rates may not play a critical role in the adjustment of large trade deficits for the U.S.