Factors influencing public debt in asean countries during the period of 2002 2021 – an empirical study

The influence of public debt on economic growth has been taken into consideration throughout years as one of the key factors of national development, especially after the Global Financia

MID-TERM GROUP PROJECT

FACTORS INFLUENCING PUBLIC DEBT IN ASEAN COUNTRIES DURING THE PERIOD OF 2002-2021 -

2.2.1 Factors positively affecting Public debt cscsscsscsscescssccssssessscseeaees 9 2.2.2 Factors negatively affecting Public debt

CHAPTER II MODEL SPECTIEFICATION AND DA TA «<<<« H

1.1 Testing the Overall Signiicance Level of Model - « 19

1.2 Testing the Significance Level of Each Independent Variable 19

2.1 Testing Multicollinearity Error

2.2 Testing Heteroskedasticity Error

2.3 Testing Normal Distribution of the Residuals

2.4 Testing Autocorrelation

3 Sample Regression Model and Results Interpretation

CONCLUSION AND RECOMMENDATIONS

The influence of public debt on economic growth has been taken into consideration throughout years as one of the key factors of national development, especially after the Global Financial Crisis (2007-2008) and the recent European sovereign debt crisis Thus, it is significant to have further understanding about public debt and which factors have an influence on public debt This study investigates the nuanced relationship among the factors influencing public debt in ASEAN countries over the period 2002-

2021, by including a set of control variables such as government expenditure, GDP growth, interest rate, net FDI inflows, trade openness, inflation Regression analyses based on OLS (Ordinary Least Squares) estimation, reveal significant factors impacting public debt upon the real GDP per capita growth rate The study identifies a positive relationship between gross fixed capital formation (growth) and public debt, indicating that as the economy grows and more capital is invested in fixed assets, public debt also increases The study also reveals that higher interest rates negatively contribute to the accumulation of public debt It further demonstrates that government expenditure plays

a crucial role in shaping the trajectory of public debt, as an increase in expenditure leads to an increase in public debt The findings suggest that net FDI inflows, trade openness and inflation substantially influence public debt levels in ASEAN countries

As a result, the study highlights the need for policies that promote debt sustainability and transparency to manage public debt effectively

The evolution of public debt in the Association of Southeast Asian Nations (ASEAN) countries over the period from 2002 to 2021 represents a dynamic interplay of various factors that have shaped the economic landscapes of these nations This timeframe spans a critical period marked by both remarkable economic growth and significant challenges, including global financial crises and the unprecedented impacts of the COVID-19 pandemic Understanding the intricate factors influencing public debt in the ASEAN region during these two decades is essential for policymakers, economists, and researchers alike

The choice of this topic stemmed from its offering of a comprehensive understanding

of the complex dynamics that have shaped the economic landscapes of ASEAN nations This period was characterized by remarkable economic growth as well as significant challenges, such as global financial crises and the unprecedented impacts of the COVID-19 pandemic By examining the intricate factors influencing public debt in ASEAN during these two decades, we can provide valuable insights for policymakers, economists, and researchers This research aims to unravel the multifaceted factors that have played pivotal roles in shaping the fiscal landscapes of member countries, including the influence of economic policies, external shocks, the domestic landscape, international financial institutions, and trade dynamics By understanding these factors,

we can contribute to the formulation of effective strategies for sustainable economic growth and public debt management in the ASEAN region

The ASEAN community has undergone substantial economic transformation since the turn of the century The pursuit of economic development, infrastructure projects, and social welfare initiatives has driven governments to resort to borrowing, resulting in varying levels of public debt across the region Against this backdrop, this paper aims

to unravel the complexities surrounding public debt in ASEAN by examining the multifaceted factors that have played pivotal roles in shaping the fiscal landscapes of member countries

One of the central themes explored in this analysis is the influence of economic policies on public debt The diverse economic strategies adopted by ASEAN nations have impacted their fiscal positions differently Some countries pursued expansionary fiscal policies to spur economic growth, while others focused on fiscal consolidation to maintain stability These policy choices, coupled with their effectiveness and implementation, contributed to the fluctuations in public debt levels observed across the region

ASEAN The global financial crisis of 2008 had profound implications for the region, leading to economic contractions and necessitating fiscal stimulus packages Similarly, the COVID-19 pandemic in 2020 posed unprecedented challenges, compelling governments to incur additional debt to finance healthcare responses, economic relief measures, and social support programs The impact of these external shocks on public debt varied, reflecting the resilience and adaptability of individual ASEAN countries Moreover, the domestic landscape, characterized by political stability or instability, governance structures, and institutional frameworks, significantly influenced public debt management Political uncertainties are often translated into fluctuations in fiscal policies, hindering effective debt management Conversely, countries with stable governance structures were better positioned to implement sound fiscal policies and manage public debt more prudently

International financial institutions played a dual role in influencing public debt dynamics While providing financial assistance to countries in need, these institutions often imposed stringent conditions that influenced the fiscal policies of borrowing nations The terms and conditions attached to loans impacted the debt sustainability of ASEAN countries, shaping their approaches to debt management and economic governance

Trade dynamics and economic diversification also emerged as critical factors influencing public debt in the ASEAN region Countries heavily dependent on exports faced vulnerabilities to global economic fluctuations, affecting their revenue streams and, consequently, their ability to service debts In contrast, nations successfully diversifying their economies demonstrated greater resilience and flexibility in managing their public debts

1 Literature Review

Public debt typically refers to the government's obligations and consists mostly of debt instruments and loans According to the International Monetary Fund (2013), public debt refers to the contractual financial commitments the central government has pledged to repay to creditors at a future period, including both the principal amount and accumulated interest In particular, public debt is subdivided into domestic public debt and foreign public debt, based on the location of debt holders, the currency in which the debt is denominated, and whether the debt was issued on the international debt market or the domestic debt market (Elmendorf & Mankiw, 1999)

The debt crisis in the 1980s and the currency crises in the 1990s has led to some Asian economies (for example, Japan, Philippines and Indonesia) struggling economically and politically in the aftermath But we also see strong growth dynamism too (for example, China, Vietnam and Thailand) Thus, it is hard to assert that the Asian crisis considerably reduced the growth prospects of the region Recently, the consequences of the sovereign debt crisis in Europe once again caused concern for policymakers and researchers and most for studies concentrating on developed economies, for instance, Ferreire, 2009; Kumar & Woo, 2010; Checherita & Rother, 2010; Reinhart & Rogoff, 2010; Cecchetti et al., 2011; Baun et al., 2013 In brief, although this issue has been mentioned largely in the existing literature, the results are different, depending on the groups of countries, the time framework, and the methodology of the analysis Therefore, it is essential to have thorough research on determinants of public debt in ASEAN countries throughout the years to state the various impacts of it on the economy

Different theories have been proposed to explain the determinants of public debt This research contributes to enriching related literature with multiple perspectives Firstly, it develops and validates an integrated model, namely Ricardian Equivalence Secondly, it analyzes Keynesian Economics Finally, it provides a rich understanding

of the phenomenon in the context of the political economy models

During the last three decades, the Ricardian Equivalence Hypothesis (REH) has been a major theoretical and applied issue in many industrial countries According to the REH, increases in government expenditure, and consequently public indebtedness, result in equivalent changes in the whole economy This means that tax cuts and debt financing will have no real impact on the economy because investors and consumers understand that the debt will eventually have to be repaid through future taxes Under certain conditions, the real economy, according to Ricardo's logic, is independent of the government's means of obtaining income, whether through taxation or debt issuance

that public sector debt has a direct influence only on private consumption and savings decisions, without contributing to the likelihood of net economic growth This implies that changes in domestic and foreign public debt stocks are invariant with changes in important real macroeconomic variables, such as output and gross investment, and are, therefore, on the growth path of the economy (Barro, 1989) Because taxpayers will save to pay the expected future taxes, the macroeconomic effects of higher government spending will be mitigated

Keynesian Economics Theory, based on the ideas of John Maynard Keynes, proposes that increasing government expenditure stimulates economic activity and spending (Elmendorf & Mankiw, 1999) In terms of public debt, Keynes theory states that government borrowing reduces national savings and capital accumulation, as tax cuts are offset by debt Although inflation may be higher, the current generation is encouraged to consume more and the rate of unemployment tends to decrease However, borrowing leaves the debt burden on future generations; thus, future generations may live in a country with larger foreign debt and smaller internal capital accumulation A growth in government debt resulting from deficit-financed fiscal policy is thought to stimulate income, money demand, and exchange rates (Fischer, 1993; Neanywa et al., 2018)

The political economy models explain the country’s indebtedness trend as well Indeed, the strategic behavior of a given political system can lead to inefficiently high public deficits and finally contribute to debt accumulation According to the notion of strategic debt accumulation, present authorities can limit future policymakers’ spending

by increasing existing debt levels There is a political game that can lead to debt accumulation over the ideal level when governments in office at different times take advantage of their strategic position (Alesina & Tabellini, 1990) This model suggests that the deficit in emerging nations is necessary to achieve long-term economic growth (Nikoloski & Nedanovski, 2018), leading to the accumulation of foreign debt (Antwi & Atta Mills, 2013; Root, 1990)

In summary, extensive research has examined the key factors of public debt accumulation in various countries and periods The literature highlights the role of economic variables such as interest rates, economic growth, public expenditure, and openness The findings reveal factors that both positively and negatively affect public debt In addition, factors such as trade openness, net FDI inflows, inflation, GDP growth, and fiscal adjustment emerge as significant contributors to the accumulation of public debt in different contexts

2.1 Public debt (Government debt)

Public debt, or government debt, represents the total outstanding debt (bonds and other securities) of a country’s government It is frequently stated as a ratio of Gross Domestic Product (GDP) External debt indicates the government's commitments to lenders outside the country, while internal debt represents the government's obligations

to domestic lenders As the stock of public sector debt increases, the government’s debt service obligation will be financed by distorted measures (the inflation tax, for example)

Public debt as a percentage of GDP is commonly used to assess a government's ability

to satisfy future obligations

2.2 Determinants of Public Debt

Based on the previous theories and research related to public debt, all the variables including government expenditure, GDP growth, interest rate, net FDI inflows, trade openness are believed to be potential factors that affect public debt

2.2.1 Factors positively affecting Public debt

¢ GDP growth

The first explanatory variable is real GDP per capita in the starting year (2002), denoted by gov_exp in the model By including this variable in the statistical model, the sample size is controlled This variable is used to capture the catching-up progress (Kumar & Woo, 2010) This is consistent with the studies of Checherita & Rother (2010) and Baum et al (2013) that GDP is an important factor affecting public debt in six ASEAN countries including Indonesia, Malaysia, Philippines, Thailand, Singapore, and Vietnam, over the past 21 years from 1995 to 2015 The test results show that GDP growth is an important macroeconomic factor that increases public debt in the short and long term For these countries, GDP growth contributes to reducing public debt because the economy has accumulated, investments and budget expenditures are offset from this accumulation, thereby reducing debt, and spending and paying loan interest Therefore, the positive sign shows that the relationship between public debt and GDP growth in the model is explainable

¢ Real interest rate

An appropriate explanation for the positive impact of public debt on economic growth

in ASEAN countries is that the accumulated debt is not oversized and government borrowing to finance increased public spending has a beneficial impact on the nation’s productivity Particularly, while debt-financed public investment raises a country’s debt ratios in the short-run, it can also enhance productivity through the construction of infrastructure, thus leading to higher economic growth The finding is in line with

in Vietnam and other ASEAN countries remains below the safe range However, once the public debt exceeds the maximum level, it may have adverse effects on economic growth Therefore, public debt accumulation should be kept low to avoid interest rates variability that may lead to a fall in real output (Ebi & Imoke, 2017)

® Net FDI inflows

Investment openness denoted by the foreign direct investment level of a country suggests the ability of its economy to attract foreign investments Greater levels of direct investment flow into the economy reduce the burden on the government’s external borrowings for its investment needs Hence, higher levels of FDI flows affect the government debt negatively

e = 6Trade openness

Trade openness is an indicator of how much a country engages in international trade with other countries It is computed by adding the value of exports and imports of goods and services and dividing it by the gross domestic product (GDP) of the country

A higher trade openness ratio means that the country is more integrated with the global economy and more dependent on foreign markets Trade openness can have various effects on economic growth in general and specifically on public debt, depending on the country’s characteristics and the way trade openness is measured

After going through some prior research papers (Yanikkaya, 2003; Jalil and Rauf, 2021), the results of these research mainly show that trade openness has a positive and significant impact on public debt This paper will proceed to expect the variables of trade openness and public debt to have a positive relationship

2.2.2 Factors negatively affecting Public debt

¢ Government Expenditure

Government spending is one of the key components of the gross domestic product (GDP), which measures the total output of a country’s economy Government spending refers to the amount of money that the government spends on providing goods and services to the public, as well as transferring income to individuals or groups through various programs Government spending can be classified into two types: purchases of goods and services and government transfers The level and composition of government spending have significant implications for the economic performance and social welfare of a country Government spending can affect the allocation of resources, the distribution of income, the level of aggregate demand, the rate of inflation, the level of public debt, and the quality of public services That is the reason why it is important to analyze the impacts of government spending on public debt

¢ Inflation

Inflation is a common macroeconomic phenomenon, having profound effects on the economic, political, and social aspects of countries in various stages of economic

money and is measured by an increase in the general price level in the economy The relationship between inflation and public debt is complex and can be influenced by a multitude of factors, such as government fiscal measures and external shocks The findings of Sarel (1996) research using panel data covering 87 countries for the period 1970-1990, reveals an important implication and structural break in the relationship between public debt and inflation in Asia According to his results, the structural break point was estimated at an inflation rate of about 8% Below this rate, he found that inflation does not appear to have a statistically significant impact on economic growth, however, if inflation exceeds 8% it will reduce economic growth

Il MODEL SPECIFICATION AND DATA

1 Methodology

1.1 Method used to derive the model

The process using the research is called Multiple Linear Regression This is a linear approach to modeling the statistical relationship of a dependent variable on one or more independent variables We use the OLS method (Ordinary Least Squares) to obtain the necessary estimated results

The ordinary least squares (OLS) method is the simplest and most common method for estimating the parameters of a linear regression model The OLS estimator minimizes the sum of all squared residuals OLS estimates are consistent if the model satisfies the seven basic assumptions of a classic linear regression model Then, according to the Gauss - Markov theorem, OLS is BLUE, which is stated for Best Linear Unbiased Estimator For the above reasons, we decided to use the Ordinary Least Squares method to derive the model for our research

1.2 Method to Collect and Analyze Data

1.2.1 Collecting data

The collected data is secondary data, showing the numerical information of the factors affecting Government debt in 10 ASEAN countries, which is Government Expenditure; GDP Growth; Interest Rate; Net FDI Inflows, Inflation Rate and Trade Openness in 20 years from 2002 to 2021 The data was collected from the World Data Bank — a high- precision data source

1.2.2 Analyzing data

Following the data gathering stage, the team uses the standard Ordinary least square (OLS) method to process the data This method is based on data that is used to test statistical significance and model adequacy, which is determined by observations and similar previous studies The finest outcomes will then be used to support the analysis

quantitative techniques using STATA-compatible software and Microsoft Word and Excel to aggregate, handle, and ultimately finish this work

2 Theoretical Model Specification

2.1 Econometric Model

Based on theoretical and empirical findings of previous studies, our group decided to use the multiple regression model (OLS) to evaluate the effects of the mentioned factors on Government debt The econometric model used is formulated as follows:

GD f( 9% ex05 IP orowing MCCS icy trade , Ininfl, Inforeign,,,)

Where:

« Dependent variable:

GV en: Government debt (% of GDP)

+ Independent variables:

goV ,: Government Expenditure (% of GDP)

94P groven GDP Growth (Annual %)

interest: Real Interest Rate (%)

trade: Trade Openness (% of GDP)

infl; Inflation Rate (%)

foreign,,,: net FD] inflows (% of GDP)

2.2 Population Regression Model:

[gov„„=Bu+B,* gov,.,* B, ¥ ID enya Bs x interest„„.+B, * trade + j, * In infil +B, In| foreign] )+u,

Where:

+B): the intercept

°B,, Bo, Bs, Bs, Bs.Be: the regression coefficient of the independent variables

eu, the stochastic disturbance

| G0V20i:= Bot Br* GOVeay+ Be * GAP pron By * interest re Py * trade +B, x In\infl) + Bs* In| foreign], }+ir,

Where:

“Bo: the intercept

*B., Bo, Bs Ba, Bss Bs: the estimators of the independent variables

+t; the estimator of 4;