An Econometric Analysis of the Causality Relationship Between Macroeconomic Variables and the Public Budget Deficit in Malaysia during the Period (1990–2019)

Malaysia's economy suffers from high public expenditures, especially current expenditures, which has led to a high percentage of the budget deficit. The research aims to identify the macroeconomic variables affecting the budget deficit in Malaysia and to identify the existence of a long-term relationship and a causality relationship between the budget deficit in Malaysia as a dependent variable, and the independent variables explaining it. The research relied on descriptive and quantitative analysis methods, as based on a variety of statistical and econometrics methods, including the use of the growth function, the unit root test (ADF), cointegration analysis and the Granger causality test to ensure the existence of causality between variables and determine the direction of that relationship. The research was based on annual time series data covering the period 1990-2019.
The study model included: the budget deficit variable in Malaysia (% of GDP) as a dependent variable, while the independent variables are: government spending, fixed capital formation, public debt, foreign direct investment, exchange rate, average interest rate, and economic growth rate. The stability of the variables was tested using the ADF test in order to determine the degree of stability of the variables. The results showed that the time series under study are not stable at the level, but they are all stable at their first differences I(1).
The results of the multiple regression model showed that the signs of the coefficients of the independent variables are consistent with economic logic, and that together they explain about 87.1 percent of the changes in the budget deficit in Malaysia during the study period. The regression coefficients for the variables of government expenditure, fixed capital formation, and foreign direct investment were positive to express the existence of a direct relationship between these independent variables and the budget deficit in Malaysia, as a dependent variable, while it is noted that the regression coefficient for the variables of public debt and the exchange rate The average interest rate and economic growth rate were negative, which is consistent with economic theory. It also turns out that the most important relative variable in influencing the dependent variable in the previous estimated model is the public debt variable, while the average interest rate variable comes in last.
The results of cointegration indicated the presence of three vectors of cointegration between these variables, which confirms the existence of a long-term equilibrium relationship between the public budget deficit in Malaysia and the independent variables affecting it. The results of the Granger causality test also indicated the existence of a unidirectional causal relationship heading from government spending to the budget deficit, meaning that increasing government spending causes a budget deficit, and the existence of a unidirectional causal relationship that goes from foreign direct investment to the budget deficit, from the average interest rate to the budget deficit, and from the budget deficit to the exchange rate, and it also shows the existence of a causal relationship. There is a bidirectional relationship between the size of the public debt and the public budget deficit, and between the economic growth rate and the budget deficit in Malaysia.