Analysis of Government Budget Deficit in Ethiopia: The Vector Auto Regression Model Approach

Abstract Over the previous several decades, Ethiopia's economy has been troubled by an ongoing budget deficit. Taking the problem into consideration, this paper used vector auto-regression model estimation techniques to shed light on the drivers, trends, and threshold levels of budget deficit in Ethiopia from 1979/80 to 2021/2022. The model estimation revealed that current account balance, consumer price index, and domestic borrowing have a positive effect on budget deficits, whereas institutional quality, financial deepening, and real gross domestic product havenegative effect in the long run. In the short run, domestic borrowing positively affects budget deficit whereas borrowing, institutional quality, and real gross domestic product affect negatively. The findings of the threshold study indicate that the projected threshold level of budget deficits is 3%. Any ratio of budget deficits over this threshold, on the other hand, has a positive impact on the current account balance, while any rate below this threshold has a negative impact. In order to lower the government budget deficit, it is advised that sensible economic policies be adopted, such as a simple and effective tax system, import substitution, and export promotion.