Explaining Variation in Public Debt: A Quantitative Analysis of the Effects of Governance.

In the wake of the recent European debt crisis, public debt has, once again, become one of the most salient issues in politics. Our knowledge of the reasons accounting for the variation in public indebtedness between countries on a global scale remains, however, limited. Most research efforts so far have focused only on a limited number of countries (either developing countries our particular country groups such as the OECD) or on specific types of public debt, such as foreign debt. This article aims at contributing to the vast and fragmented literature on public debt in three ways.

     First, I propose one of the most comprehensive quantitative analyses up-to-date to test different political and economic explanations for the variation in public debt accumulation, including up to 176 countries from 1996 to 2014.

     Second, I reassess the recently popular regime type theory (Oatley 2010, Saiegh 2005, Beaulieu et al. 2012) that claims a “democratic advantage” positively influencing public debt levels and bond ratings.

     Third, I introduce an alternative governance theory to account for the variation in public indebtedness drawing on the five different dimensions political stability, the rule of law, the control of corruption, government effectiveness, and regulatory quality from the Worldwide Governance Indicators (Kaufmann et al. 2015). I claim that these factors lower “discount rates”, resulting in less “borrowing from the future” by governments and to more security of investment for private actors. Moreover, better governance provides incentives for a more effective use of funds by governments, raises their tax collection capabilities, induces more investment, and subsequently ensures higher tax revenues. In turn, all these mechanisms should positively influence public debt-to-GDP ratios.

     To test my governance theory of public debt against the regime type theory, I consider a number of competing theoretical arguments (depending on data availability), including other politico-institutional explanations, public choice theories, theories of governmental distributional conflicts, and macroeconomic explanations of public debt. My main data sources for the empirical part are the IMF and the World Bank. The quantitative analysis draws on different specifications of multivariate fixed effects regressions and error correction models with panel-corrected standard errors.

     Two indicators of governance, political stability and regulatory quality show consistent support across a large number of econometric models. The indicators rule of law, control of corruption and government effectiveness, however, do not seem to be related significantly in most of the quantitative analyses, partly negating the proposed influence of certain aspects of governance in reducing public debt accumulation on a global scale. The findings further reproduce a positive influence of more democratic regime types on public debt levels across several specifications of the empirical models, however, lacking robustness using different operationalizations.

       The results, thus, provide a partial confirmation of the proposed governance theory, firmly affirming the positive influence of both political stability and regulatory quality on public debt levels. The critical stance against the regime type theory seems, however, unfounded. The findings rather corroborate the continuing validity of this theory based on a very large country sample.