Impact of External Debt on the Economic Growth of a Small Open Economy: Empirical Evidence from the Gambia

Abstract

This paper aims to investigate the impact of external debt burden on economic growth in the Gambia. To achieve this objective, the study used time series data on relevant debt burden and growth indicator variables for the period 1988 to 2017. The study set GDP as the main dependent variable and External Debt to GDP (EDGDP), External Debt Service (EDSER), Export of goods and services as percentage of GDP (EXP) and Real Exchange Rates (REX) as the explanatory variables. A Vector Error Correction Model (VECM) estimation approach was employed to examine the long-run and short-run causal effects between economic growth and external debt indicator variables after Johansen Co-integration test concluded the existence of at least one co-integrating equation. The results revealed that all independent variables have significant impact on economic growth in the long-run. The results also suggest that external debt (EDGDP) is negatively and significantly related with economic growth (GDP) in the long-run albeit insignificant in the short-run. The study further shows that the Gambia's external debt service (EDSER) has a positive and significant relationship with the country's economic growth in the long-run but an insignificant connection in the short-run. Finally, the results corroborate the presence of the debt overhang effects of external debt on economic growth, as evident from the negative relationship between accumulated external debt and economic growth in the Gambia, which could hinder the country's growth potential. The study recommended among other things, that government should work on policies that promote efficient and productive use of contracted funds or domestic savings since the ratio of external debt level to GDP and all other variables except external debt service negatively impact economic growth in the Gambia.