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Discussion Paper

No. 2007-17 | April 24, 2007
The Debt-Growth Nexus in Poor Countries: A Reassessment

Abstract

This paper investigates the relationship between external indebtedness and economic growth, with a particular attention to LICs, for which the theoretical arguments of debt overhang and liquidity constraint have to be reconsidered. The estimation of a growth model, with a panel of 121 developing countries, supports a negative and linear relationship between past values of the NPV of external public debt and current economic growth. This could be due to the “extended debt overhang”, according to which a large indebtedness leads to misallocation of capital and discourage long-term investment and structural reforms.

JEL Classification

C33 F34 H63 O11

Cite As

Andrea F Presbitero (2007). The Debt-Growth Nexus in Poor Countries: A Reassessment. Economics Discussion Papers, No 2007-17, Kiel Institute for the World Economy. http://www.economics-ejournal.org/economics/discussionpapers/2007-17

Assessment



Comments and Questions


anonymous - Referee Report
June 12, 2007 - 10:56

see attached file


Andrea Presbitero - reply
August 10, 2007 - 08:44

THe referee raises a number of relevant issues, especialy regarding the problem of non-linearities in the debt growth relation and with respect to the identfication of the investment equation.
I will deal with them and I will post a revised version of the paper as soon as it is ready. ...[more]

... I acknowledge that the paper need major improvements and a better focus on its results.

Andrea Presbitero


Bhaskara (Bill) RAO - Comments
July 06, 2007 - 22:03

Congratulations to Presbetero for his hard work. Some suggestions of the referee to improve exposition are also useful. In addition I think it is better to avoid too many abbreviations because it is not difficult to expand (with macros) expressions like HIPC for highly indebted poor countries etc.
...[more]

... />Although Presbetero follows a standard approache in growth econometrics—i.e., collect data on a number of countries, use one or two refined econometric methods and estimate some cross-country regressions by regressing the growth rate on a few selected variables like the debt ratios etc., there are some serious methodological weaknesses in this and similar approaches. These studies ignore that an economy may take a long time to reach its steady state. Straightforward simulations with the closed form solutions show that this transition period may be 50 or more periods. Therefore, unless growth rates over longer periods of 20 or 30 years are used, ignoring the growth effects of factors of production is a serious misspecification of the basic growth equation. Bosworth and Collins (2003) is an excellent example for cross-country work. They include capital per worker as an explanatory variable although they have used average growth rates over 20 years.

The aforesaid specification weakness is serious because growth accounting exercises show that as much as 70% or more growth is due to factor accumulation in the developing countries. What can actually be reasonably estimated with annual or 3 to 5 year averages is only the production function—not the steady state growth equation. Estimates of the parameters of the (modified) production functions can be used to derive the steady state growth equations and test if variables like the debt ratio or aid ratio etc., have any significant growth effects. For policies I am skeptical about the findings based on ad hoc growth equations used in many cross-country studies. I agree with the methodology of Greiner, Semler and Gong (2004) and favour country specific time series models. Some of my methodological views are explained in Rao (2006, 2007).


References


Bosworth, B. and Collins, S. M. (2003) The empirics of growth: An update, Brookings Institution, September, 2003.

Greiner, A., Semler, W. and Gong, G., (2004) The Forces of Economic Growth: A Time Series Perspective, (Princeton, NJ: Princeton University Press).


Rao, B. B. (2006 ) Time Series Econometrics of Growth Models: A Guide for Applied Economists, available from http://logec.repec.org/scripts/paperstat.pl?h=repec:pra:mprapa:1547


Rao, B. B. (2007) Estimates of the Steady State Growth Rates for Selected Asian Countries with an Endogenous Growth Framework, available from http://econpapers.repec.org/paper/pramprapa/2389.htm.