# **1. Introduction**

Fiscal policy can be a powerful tool to stabilize the economy, but it represents a double-edged sword. When it operates procyclically, that is, when public expenditure and the fiscal deficit expand during good times or when it cuts public expenditures and reduces the fiscal deficit in bad times (“austerity”), it amplifies the economy’s business cycle, intensifying both economic upswings and downturns. In this way, procyclical fiscal policy can undermine macroeconomic stability as well as long-term growth. Conversely, when fiscal policy runs counter to the business cycle, it helps smooth it, therefore, contributing to macroeconomic stability and long-term growth, which depends on macro stability. The key to implementing countercyclical fiscal policy, however, is understanding its past trends and precise sources of cyclicality so that effective policy reform can be implemented towards greater countercyclicality which contributes to macroeconomic stability and growth.

This paper makes thee contributions to the empirical literature on cyclicality of fiscal policy in general and, specifically, within the Middle East and North Africa (MENA) region. First, using the most recent and largest database covering 184 countries for the period 2000-2022, we reassess the overall direction, intensity, and sources of cyclicality of fiscal policy across the world, with particular focus on the MENA region; we provide a more granular view of subcomponents of expenditures and revenues that contribute to the overall cyclicality than has been the case in the previous literature, which often relied on a single variable of fiscal policy to measure its cyclicality. Second, we pay particular attention to identifying country cases that managed to escape the “fiscal procyclicality trap”, moving fiscal policy management in the desirable direction. Third, we draw implications of the analysis and thoughts on how governments can make their fiscal policies more countercyclical, contributing to macroeconomic stability and growth.

# **2. Related literature and contribution of this paper**

Based on both theoretical insights and empirical evidence, considerable economic policy research advocates for a countercyclical fiscal policy, urging policy makers to actively deploy government spending and taxation to counteract the natural fluctuations of the business cycle (Chari et al. 1994, Riera-Crichton et al. 2015, Aizenman et al. 2019). During recessions, when private sector spending decreases, governments can, indeed, boost economic activity by increasing fiscal expenditures and/or reducing taxes (provided that they have sufficient “fiscal space”), thereby preventing further declines in employment and income.

Conversely, during economic booms when the private sector thrives and tax revenues rise, countercyclical fiscal policy entails scaling back expenditures and/or increasing taxes to prevent the economy from overheating and potentially contributing to accelerated inflation. The countercyclical approach to fiscal policy aims to mitigate inflationary pressures and build fiscal reserves or “buffers” in good times that can be used in future economic downturns. Put simply, the approach can be summarized as “save in good times, spend in bad times”. Empirical evidence, indeed, suggests that embracing fiscal policy countercyclicality not only stabilizes the economy, but also fosters economic growth, whereas procyclicality can impede growth (Woo 2009; World Bank 2024).

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