Effect of external debt on economic growth in Uganda: 1986 - 2013

Abstract

This study investigated whether external debt affected economic growth in Uganda for the period 1986 to 2013 or not. Quarterly data was used and 112 data points were used for analysis. The log-log model was used to ascertain the effect of external debt on economic growth. This study employed ordinary least squares approach, Vector Error Correction Model and Granger causality test for analyzing long and short-run relationships in addition to causal nexus among the selected variables. These variables included; real GDP which was a proxy for economic growth, external debt stock, debt service payments, exports and imports of goods and services, gross domestic savings, gross capital formation, gross national expenditure and final house hold consumption expenditure which were obtained from World Bank Development indictors. The results revealed that all the study variables except debt service payments and gross domestic savings exhibited their priori signs and were all statistically significant at the 5 percent level. From 1992 after a structural change in the economy, external debt stock, imports of goods and services and gross domestic savings negatively affected economic growth while the coefficients of debt service payments, exports of goods and services, gross national expenditure, gross capital formation and household final consumption expenditure were positive. For the period before the structural break, all study variables were insignificant except from gross domestic savings. It was however found that there was a uni-directional relationship between external debt stock and economic growth. Moreover, it was established that while external debt stock and economic growth may drift apart in the short-run, the disequilibrium between the variables adjusted at about 3 percent towards their long-run equilibrium quarterly. Therefore, the study recommended that since external debts negatively affect economic growth, then with regard to PDM 2013, external borrowing should be primarily focused on productive sectors that boast export growth and those interventions that will enhance productivity in the economy without any deviation. This will be done by aiming at borrowing for highly productive fixed capital investments.