Do High Government Debt-to-GDP Regimes Propagate the Adverse Macroeconomic Effects of High Budget Deficit Regimes?

Do government debt regimes matter for the macroeconomy? We find that ten-year government bond yields decline, the rand per US dollar (R/US$) exchange rate appreciates, and inflation declines in response to a positive shock to the government debt-to-GDP ratio in the low debt regime. In addition, real GDP growth, employment growth, and investment growth increase in response to a positive shock to the government debt-to-GDP ratio in the low debt regime. The opposite is true in the high government debt growth regime. Evidence shows that the high government debt-to-GDP ratio regime amplifies the negative shock effects of high budget deficit regimes on the ten-year government bond yields, the R/US$ exchange rate, inflation, real GDP growth, employment growth, and investment growth. Furthermore, the high government debt-to-GDP regime channel amplifies the adverse effects of high budget deficit regimes. In the absence of the high government debt-to-GDP regime channel, the ten-year government bond yield rises less, the R/US$ exchange rate depreciates less, and inflation accelerates by a lower magnitude. Similarly, in the absence of the high government debt-to-GDP regime channel, real GDP growth, investment growth, and employment growth decline less than the actual responses when this channel is active in the model. Thus, the concurrence of the high debt-to-GDP regime and the high budget deficit regime does not auger well for the macroeconomy.