Food Price Shocks and Household Consumption in Developing Countries: The Role of Fiscal Policy

WP/21/12Food Price Shocks and Household Consumption in Developing Countries: The Role of Fiscal Policy by Carine Meyimdjui and Jean-Louis Combes IMF Working Papers describe research in progress by the author(s) and are published to elicit comments and to encourage debate. The views expressed in IMF Working Papers are those of the author(s) and do not necessarily represent the views of the IMF, its Executive Board, or IMF management. 2 © 2021 International Monetary Fund WP/21/12 IMF Working Paper Strategy, Policy, & Review Food Price Shocks and Household Consumption in Developing Countries: The Role of Fiscal Policy Prepared by Carine Meyimdjui, Jean-Louis Combes1 Authorized for distribution by Johannes Wiegand January 2021 Abstract This paper studies whether fiscal policy plays a stabilizing role in the context of import food price shocks. More precisely, the paper assesses whether fiscal policy dampens the adverse effect of import food price shocks on household consumption. Based on a panel of 70 low and middle-income countries over the period 1980-2012, the paper finds that import price shocks negatively and significantly affect household consumption, but this effect appears to be mitigated by discretionary government consumption, notably through government subsidies and transfers. The results are particularly robust for African countries and countries with less flexible exchange rate regimes. Keywords: Import Food Price Shocks, Household Consumption, Fiscal Policy. JEL codes: H5; Q02; Q54; R2 Authors E-Mail Addresses: Cmeyimdjui@imf.org; J-louis.combes@uca.fr 1 Clermont-Auvergne University. This research is part of a Macroeconomic Research in Low-Income Countries project supported by the Foreign, Commonwealth & Development Office (FCDO) of the UK. The authors thanks Roland Kpodar, Xin Tang, Rasmane Ouedraogo, Alun Thomas, Ervin Prifti, Mariano Moszoro, and Immaculate Machasio for their invaluable comments. The views expressed in this paper are those of the authors and do not necessarily represent the views of the International Monetary Fund (IMF) or FCDO. IMF Working Papers describe research in progress by the author(s) and are published to elicit comments and to encourage debate. The views expressed in IMF Working Papers are those of the author(s) and do not necessarily represent the views of the IMF, its Executive Board, or IMF management. 3 TABLE OF CONTENTS ABSTRACT __________________________________________________________ 2 I. INTRODUCTION ____________________________________________________ 4 II. LITERATURE REVIEW ______________________________________________ 5 III. DATA AND STYLIZED FACTS ______________________________________ 7 3.1 Data and Sample _____________________________________________________ 7 3.2 Stylized Facts _______________________________________________________ 9 IV. ECONOMETRIC FRAMEWORK_____________________________________ 11 4.1 The Model _________________________________________________________ 11 4.2 Estimation Results ___________________________________________________ 13 V. CONCLUSION AND DISCUSSIONS __________________________________ 19 REFERENCES _______________________________________________________ 20 VI. APPENDIX _______________________________________________________ 22 4 I. INTRODUCTION The early 2000s has been characterized by tremendous vulnerability concerns in developing countries. This was justified by a considerable increase of external risks due to climate change, the resurgence of the international financial crisis, food import prices volatility, and more recently the Covid-19 pandemic. Moreover, market integration has accelerated the international diffusion of risks. This environment has prompted increasing attention to factors that increase household vulnerability, defined as the probability to fall into poverty or to stay poor following a hazardous perturbation (Chambers, 1989; Essers, 2013). The rising of import food prices over the past decade has been more worrying in countries that rely on agricultural import and where households spend a significant portion of their budget on food expenditure. Undoubtedly, food insecurity, which has been worsening following these shocks, harms development patterns, especially in low-income countries.2 In these countries indeed, the aggregate demand response to food price shocks is generally larger than those in other countries (Seale, Regmi, and Bernstein, 2003). A handful of papers that examine the link between food price shocks and household consumption have provided evidence to suggest that food price shocks (or instability) are detrimental to consumption (Minot, 2009; Arezki and Bruckner, 2011; Combes et al., 2014). This is certainly a serious threat to food security, especially for low-income households with limited savings and financial tools to face bad times (Mitchell. 2008). Arezki and Bruckner (2011) highlight that socio-political instability that has followed food crises have generally bee