External debt in time of inflation in Egypt: a vector error correction model

Abstract

Egypt's external debt has grown at a rapid pace. Meanwhile, higher indebtedness is related to rising inflation. Therefore, this study investigates the impact of Egypt's inflation on its external debt, as well as the interaction between these variables, notably the mutual impulse response. A "vector error correction model" (VECM) has been used to evaluate the variables of external debt stocks, final consumption expenditure, consumer price index, broad money, gross capital formation, and net trade in goods and services. Egypt's annual data has been used from 1976 to 2020. The results of the cointegration test using "Johansen's approach" show that cointegration occurs, confirming the adoption of the VECM technique. The major findings imply that inflation has a declining impact on external debt and a positive inflation shock initially reduces the external debt in the short and long term. Furthermore, the finding indicates a long-run equilibrium relationship between foreign debt and inflation, as well as bidirectional causality.