Public Debt and Economic Growth in India: Evidence from Granger Causality Test

In the eve of inconclusive controversy over the “cause-effect” relationship between public debt and economic growth, this paper tries to examine this dynamic relationship empirically for the Indian economy over the period of 1980–1981 to 2015–2016. This paper applies the time-series techniques like unit root test, VAR lag selection criteria, Johansen cointegration test, VECM, VEC granger causality test, impulse response function, and variance decomposition function. The application of Johansen test on first order integrated series shows the presence of long-run cointegration among variables like domestic debt, external debt, and economic growth. The VECM model found the statistically significant and negative coefficient of error correction term in external debt equation expressing the restoration of the long-run equilibrium at the rate of 6.83% every year between growth, domestic debt, and external debt. The infliction of the VEC Granger causality test noticed that there is no feedback relationship among the variables in short run, but there exists the unidirectional causality from economic growth and domestic debt to external debt in long run. The result of impulse response function and variance decomposition function also confirms the long-run causality from growth and domestic debt to external debt. Therefore, these empirical results suggest that reliance on debt for development purposes is not a safe option, even though the presence of no feedback relationship among the said variables in short runs. So, Indian economy should ensure higher growth rate while accumulating public debt and should extend its efforts to increase the revenue to finance the development expenditure.