Threshold effect of public debt on economic growth: An empirical analysis in the European transition countries

Abstract

The paper empirically examines and assess the relationship between public debt and economic growth in the European transition countries from 1995 to 2017 (both years inclusive). The study attempts to identify and determine the threshold values or the extent to which public debt-to-GDP ratio has a positive effect on economic growth, and beyond which point debt-to-GDP ratio has a negative effect on the economic growth in European transition countries. For this purpose, we employ different econometric models and techniques such as pooled OLS, fixed and random effects models, GMM (Generalized Method of Moments), and bootstrap method in order to determine threshold values of public debt-to-GDP ratio. The findings prove the general theoretical assumption that at low level of public debt- to-GDP ratio has a positive effect on economic growth, whereas beyond a certain turning point a negative effect on growth prevails in the European transition countries. In addition, the results show different levels of threshold values of public debt-to-GDP ratio among European transition countries. So far, it is confirmed that for less developed European transition countries the threshold values of the debt-to-GDP is lower than for more developed ones in the sample. Therefore, the findings provide additional information for European transition countries, which have debt levels above the threshold values, as to reduce their public debt and to support long-term economic growth prospects.