Fiscal dominance in Brazil: The effects of fiscal imbalances and debt dynamics

Abstract

We try to find whether the Brazilian economy is under monetary or fiscal dominance, using a Markov-Switching VAR with fiscal primary result and Selic rate. Between 2003-13, there was prevalence of monetary dominance. From 2013, the model suggests fiscal dominance, when the model returns to the monetary dominance until 2019, before the model suggests fiscal dominance again. We also find correlation between the probability of fiscal dominance and the evolution of financial conditions. Finally, Granger tests reinforce evidence of causality from the fiscal dominance to financial conditions, while the opposite is not found.