Government debt and economic growth in the G7 countries: are there any causal linkages?

ABSTRACT

This article investigates the direction of Granger-causality between debt and growth in the G7 countries using quarterly data from 1980 to 2013. We analyse the causal structure both in level data using the Toda and Yamamoto causality test, and with differenced data by means of dynamic impulse response analysis. Results indicate that growth causes debt rather than the other way around. We find the effect of growth on debt to be unambiguously negative in all cases of significant causality, but to be a short- to medium-run phenomenon with no lasting impact. We also find that results are sensitive to the sample period, with causality from growth to debt much more prevalent when the sample period includes the recent financial crisis.

KEYWORDS:

• Government debt
• economic growth
• Toda and Yamamoto causality test
• vector autoregression

JEL CLASSIFICATION:

• C32
• E62
• H63
• O47

Notes

¹ According to the Schwarz criterion p = 2 is the optimal lag length for most of the VARs in our sample. We found that different lag length did not alter the results in any substantial or systematic way, so we report results for p = 2 throughout.

² Results for the shorter sample are again much less significant and are not reported here.