THE EFFECT OF EXTERNAL DEBT ON ECON OMIC GROWTH: CASE OF ETHIOPIA

Abstract

External debt is considered as a significant source of income for developing countries. However, a group of sub-Saharan countries classified as HIPCs including Ethiopia, have continued to experience difficulties in managing and serving their huge stock of external debt. This paper estimates empirically the impact of external debt on economic growth in Ethiopia to determine the existence of a ‘debt overhang’ and/or ‘crowding out’ effects. This study investigates the effect of external debt on economic growth in Ethiopia using a time series data estimated for 1985 -2015. A vector error correction model has been used to estimate a long run relationship. The empirical findings reveal that real GDP is influenced negatively by the past stock of external debt and debt servicing and, positively by the current external debt inflows. This is indicating the existence of debt overhang problem and in Ethiopian economy. The findings of the study indicate both debt indicators; external debt to GDP ratio and external debt servicing to export ratio have a negative effect on GDP. While the other variables have a positive and significant effect on economic growth. Several policy implications emerge from the study