The IMF Working Papers series is designed to make IMF staff research available to a wide audience. With nearly 300 released each year, working papers cover a wide range of theoretical and analytical topics, including balance of payments, monetary and fiscal issues, global liquidity, and national and international economic developments.
Alexander Chudik, Kamiar Mohaddes, M. Pesaran, and Mehdi Raissi
INTERNATIONAL MONETARY FUND
This paper studies the long-run impact of public debt expansion on economic growth and investigates
whether the debt-growth relation varies with the level of indebtedness. Our contribution is both
theoretical and empirical. On the theoretical side, we develop tests for threshold effects in the context
of dynamic heterogeneous panel data models with cross-sectionally dependent errors and illustrate,
by means of Monte Carlo experiments, that they perform well in small samples. On the empirical
side, using data on a sample of 40 countries (grouped into advanced and developing) over the 1965-
2010 period, we find no evidence for a universally applicable threshold effect in the relationship
between public debt and economic growth, once we account for the impact of global factors and their
spillover effects. Regardless of the threshold, however, we find significant negative long-run effects
of public debt build-up on output growth. Provided that public debt is on a downward trajectory, a
country with a high level of debt can grow just as fast as its peers in the long run.