Does public debt granger-cause inflation? A multivariate analysis
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Authors
Saungweme, Talknice
Issue Date
2021-11
Type
Working Paper
Language
en
Keywords
Public debt, inflation, ARDL, Granger-causality, Tanzania
Alternative Title
Abstract
The optimal balance between fiscal and monetary policy in achieving price stability has been contested
in literature. In the main, however, it is widely recognised that whether public debts are financed in a
monetary way or otherwise, the choice of policy action affects the effectiveness of monetary policy in
ensuring price stability. This study contributes to the debate by testing the dynamic causal relationship
between public debt and inflation in Tanzania covering the period 1970-2020. The study applies the
autoregressive distributed lag (ARDL) bounds testing technique to cointegration and the ECM-based
Granger-causality test to explore this relationship. In order to address the omission-of-variable bias,
which has been the major methodological deficiency detected in some previous studies, two monetary
variables, namely money supply and interest rate, were added as intermittent variables alongside public
debt and inflation. The findings from this study show that there is a consistent long-run cointegrating
relationship between public debt, inflation, money supply and interest rate in Tanzania. However, the
results fail to find evidence of causality between public debt and inflation in Tanzania, irrespective of
whether the causality is estimated in the short run or in the long run. The findings of this study,
therefore, show that Tanzania’s current debt is not inflationary; hence, policymakers may continue to
pursue the desirable fiscal policies necessary for the country’s long-term optimal growth path.