Paper presented at the Conference “New economic concepts in the current European crises“.
Abstract: Several studies investigate the relationship between government debt/deficit ratios and the real long-term interest rates, but the empirical evidence is not conclusive enough for consensus building. Evidence for statistically weak or mixed association is as much as the evidence for a strong positive relationship, which means rising debt/deficit ratios are estimated to increase real yields. My research extends the existing literature by using a large panel of European countries covering the years 1990 and 2012. I find a very strong positive relationship between the debt to GDP ratio and real long-term interest rates in linear specifications. Quadratic specifications yield a U-curve structure in explaining the association between debt ratios and the real long-term yields, supporting evidence for a positive association once the debt ratio surpasses a threshold in the range of 49-54%.
Keywords: General government debt, deficit, real long-term interest rates