ESSAYS ON PUBLIC DEBT, FINANCIAL DEVELOPMENT AND ECONOMIC GROWTH

In this thesis, we explore the relationship between public debt, financial development, and economic growth by controlling for the macro and institutional environment in which the debt was issued. In the first chapter, we distinguish between the growth impact of domestic versus external public debt to examine the importance of domestic financing as compared to external financing in countries grouped by income levels. The empirical analysis supports a non-linear relationship between total public debt and growth in the subsets of middle and low-income countries. This relationship is mainly driven by the non-linear relationship that exists between public external debt and growth, and not by the domestic component of debt. Our analysis shows that debt structure is relevant for growth and highlights the importance of domestic bond markets. In the second chapter, we examine the nexus between financial development and public debt structure. We provide strong evidence that financial sector development plays a key role in the development of the domestic debt market which, in turn, supports the issuance of more local currency debt instruments. Finally, the third chapter studies the role of financial sector development in promoting domestic versus external debt instruments and reducing the inflationary-bias. We show that, in financially less-developed and under-productive economies, the government finds it optimal to issue foreign currency debt to reduce the inflationary-bias, while in more efficient systems (which allow banks to be more leveraged), the government issues domestic debt and lowers inflation in states where productivity is high to redistribute wealth in favor of banks, thereby enhancing investment and growth.