Is Fiscal Policy Responsible for the High Debt Levels in Ghana?

Abstract

Fiscal policy is crucial in affecting the performance of an economy. It comprises of intentional actions by a government using taxes and expenditure to effect positively the desired path of an economy. This paper examined the impact of fiscal policy on debt level, with evidence from Ghana.  Annual time series between 1990 to 2020 was analyzed using VECM. The study measured debt levels using domestic, external, and total public debt. The study showed that there is a long-term relationship between the fiscal policy (FB) and the total debt (TPD) of Ghana. The study found that past fiscal deficit has a significant positive impact on the total debt of Ghana. Similarly, the study found a significant and positive impact of Ghana’s past fiscal balance on the current external debt level (0.156) and the domestic debt level (0.3779). The study found a significant short-run effect of fiscal policy on domestic debt and total debt but not on external debt. Additionally, it was observed that the long-run disequilibrium of fiscal policy (0.21760) significantly and positively affects the domestic debt. The results establish both short- and long-run linear and non-linear connections with primary balance and past public debt for the time. Therefore, fiscal authorities systematically respond to rising debt ratios, both in the short and long term, by producing future surpluses (or improving the primary balance) through foreign direct investment. Based on our findings, sound fiscal policy should pay critical attention to these factors to minimize the debt levels in emerging economies like Ghana.