Public debt and economic growth nexus in the euro area: A dynamic panel ARDL approach

Abstract

This study investigates the relationship between public debt and economic growth in 10 European Countries in the presence of cross-sectional dependency. Using a panel ARDL approach, the results show that public debt and other covariates such as investment, government consumption, and inflation revealed significant but mixed country-specific results only in the short run. The results also show that the real exchange rate and the real interest rate are negatively and significantly associated with economic growth both in the short and the long run. Furthermore, population growth was found to be positively associated with economic growth only in the short run, while trade was negatively associated with income growth only in Spain. The creation of the EMU was detrimental to Greece as it revealed a significant negative relationship with income growth. These findings have significant policy implications for the Stability and Growth Pact of the Euro area. It is recommended that member states should ensure fiscal sustainability by balancing their fiscal budgets to effectively reduce the accumulation of public debt as well as implementing structural reforms that will improve the efficiency of investment as well as macroeconomic stability.