The Role of Global Financial Risk Shocks on Macroeconomic Fluctuations and Government Debt: The Case of Turkiye

Global financial conditions are one of the key elements that should be considered while formulating fiscal policy. Investments and capital inflows to small open emerging economies are impacted by global financial conditions. Investments in the assets of emerging economies rise during times of favorable global financial circumstances. Thus, the amount of borrowing, the cost of borrowing, and the debt structure of emerging economies are all impacted by the existence of favorable global financial conditions. In contrast, similar to the COVID-19 pandemic in 2020 and the 2008 global financial crisis, the worsening in global financial conditions has a negative impact on emerging economies. Global financial conditions are an important component of public finance and play a significant role in government debt. This study attempts to investigate the impact of global financial shock risks on macroeconomic fluctuations and government debt in Turkiye from 2003:1 to 2020:12 using a vector autoregressive model. The results of the analysis showed that a positive shock in global financial risks increases government debt. The findings pointed out that the government debt is sensitive to global shock risk. Global financial conditions account for approximately 12% of changes in government debt at the end of two years. The findings of this study also indicated that global financial shock risks have a significant impact on macroeconomic fluctuations. These findings imply that reducing vulnerability of Turkiye to external shocks is a key policy priority for the sustainability of government debt. Because the country's sensitivity to external shocks may enhance the likelihood of a government debt crisis. To avoid concerns about debt sustainability, the share of foreign currency liabilities in government debt should be reduced.