Public Debt and Economic Growth: A Theoretical and Empirical Perspective

Abstract

Public debt is one of the most important instruments through which governments finance public expenditure, infrastructure, social programmes, economic stabilization, and development. At moderate and sustainable levels, public borrowing can support economic growth by financing productive investment, smoothing economic fluctuations, and enabling governments to respond to crises. However, excessive or poorly managed public debt can create substantial economic costs through higher debt-servicing obligations, reduced fiscal space, increased borrowing costs, lower private investment, financial instability, and vulnerability to external shocks. The relationship between public debt and economic growth is therefore complex and depends on the composition, maturity, currency denomination, purpose, and sustainability of debt, as well as on the institutional and macroeconomic characteristics of the borrowing country.

This paper examines the relationship between public debt and economic growth from both theoretical and empirical perspectives. It reviews major theoretical approaches, including the traditional Keynesian perspective, neoclassical theory, debt overhang theory, crowding-out theory, the Ricardian equivalence proposition, and endogenous growth theory. The paper then examines the channels through which public debt can affect economic performance, including public investment, aggregate demand, interest rates, private investment, taxation, productivity, inflation, and financial stability. Particular attention is given to the distinction between productive and unproductive borrowing. Public debt used to finance infrastructure, education, health, research, and productive capital may enhance long-term growth, whereas debt used primarily for recurrent expenditure or inefficient programmes may increase future fiscal burdens without generating corresponding productive capacity.

The empirical literature presents mixed findings regarding the relationship between debt and growth. Some studies identify nonlinear relationships in which moderate debt is compatible with growth while high debt is associated with weaker economic performance. Other studies question the existence of a universal debt threshold and emphasize country-specific factors, reverse causality, data limitations, institutional quality, and differences in debt composition. Recent international evidence further demonstrates that high debt burdens can constrain fiscal policy and increase vulnerability to higher interest rates and refinancing risks. The paper argues that public debt should therefore not be assessed solely through a single debt-to-GDP threshold. Instead, debt sustainability should be evaluated through a broader framework incorporating economic growth, interest-growth differentials, primary balances, debt maturity, currency composition, institutional capacity, contingent liabilities, and the productivity of government expenditure.

The paper concludes that sustainable public borrowing can be an important instrument of economic development when it finances productive investment and is supported by credible fiscal institutions. The objective of public debt policy should consequently not be debt minimization in isolation but the maintenance of a sustainable debt trajectory while maximizing the developmental and productive benefits of borrowing.