Is Public Debt Inflationary in Developing Countries? New Empirical Insights from a Panel Data Analysis

Abstract

The issue of reverse causality between public debt and inflation has regained the center stage among policymakers and academicians amid rising pubic debt ratios and inflationary pressures, particularly in developing countries. This study, thus, aims to examine the causality between public debt and inflation in a sample of 39 developing countries over the period 1990-2020. Employing panel granger causality test, results of the study show that inflation granger causes public debt in developing countries. Splitting the sample as lower middle-income economies and upper middle-income economies, the study finds bidirectional causality between public debt and inflation; that is, public debt and inflation in fact reinforces each other over the sampled years. Segregation of the public debt and inflation as high vs low, the study finds that public debt is inflationary in the whole sample and upper middle-income economies. However, the study notes that while low inflation granger causes public debt in the whole sample and lower middle-income economies, there exists bidirectional in the upper middle-income economies. The benchmark results remain unaltered in robustness check exercise. The study has important policy implications for the sampled developing countries in terms of public debt management, achieving stable inflation and sustained economic growth.