metadata: authors: 0: author: Miningou,Elise Wendlassida
count: World
docna: 0: docna: External Debt, Fiscal Consolidation, and
            Government Expenditure on Education
docty: Policy Research Working Paper
abstracts: cdata!: To face a debt crisis, countries often
            implement various forms of fiscal consolidation policies
            aiming at addressing fiscal imbalances. This paper
            investigates how debt and fiscal consolidation could
            influence government expenditure on education. It shows that
            increased external debt is associated with a higher risk of
            fiscal consolidation, which may contribute to a decline in
            education expenditure. A 1 percent increase in external debt
            is associated with a 2.9 percent decline in education
            spending per school-age child. Given the rising debt levels
            fueled by the COVID-19 response policies, a decline in
            education expenditure is to be expected in the post-pandemic
            era. For instance, in low- and middle-income countries, a 5
            percent increase in the external debt could lead to a $12.8
            billion decline in the volume of education expenditure, all
            things being equal. This decline is almost equivalent to the
            volume of official development assistance to the education
            sector in 2021. The paper sounds the alarm bell for the
            potential impact of COVID-19-related debt on education financing.
display_title: External Debt, Fiscal Consolidation,
            and Government Expenditure on Education
listing_relative_url: /research/2023/06/34076134/external-debt-fiscal-consolidation-government-expenditure-education
topicv3: Government Expenditure m1326649 1112,Fiscal Consolidation m1326651 1116,Education Finance m1327514 498,Debt Management System m1505335 3067,Coronavirus (COVID-19) m1939478 4828
publishtoextweb_dt: 2023-06-07T00:00:00Z
dois: 10.1596/1813-9450-10475
author_keys: 0: author_key: 1362955
model_extractions: Policy Research Working Paper 10475 External Debt, Fiscal Consolidation, and Government Expenditure on Education _Élisé Wendlassida Miningou_ Human Development Global Practice June 2023
Policy Research Working Paper 10475

# **Abstract**

To face a debt crisis, countries often implement various forms of fiscal consolidation policies aiming at addressing fiscal imbalances. This paper investigates how debt and fiscal consolidation could influence government expenditure on education. It shows that increased external debt is associated with a higher risk of fiscal consolidation, which may contribute to a decline in education expenditure. A 1 percent increase in external debt is associated with a 2.9 percent decline in education spending per school-age child. Given the rising debt levels fueled by the COVID-19 response policies, a decline in education expenditure is to be expected in the post-pandemic era. For instance, in lowand middle-income countries, a 5 percent increase in the external debt could lead to a $12.8 billion decline in the volume of education expenditure, all things being equal. This decline is almost equivalent to the volume of official development assistance to the education sector in 2021. The paper sounds the alarm bell for the potential impact of COVID-19-related debt on education financing.

This paper is a product of the Human Development Global Practice. It is part of a larger effort by the World Bank to provide open access to its research and make a contribution to development policy discussions around the world. Policy Research Working Papers are also posted on the Web at http://www.worldbank.org/prwp. The author may be contacted at eminingou@globalpartnership.org.

_The Policy Research Working Paper Series disseminates the findings of work in progress to encourage the exchange of ideas about development issues. An objective of the series is to get the findings out quickly, even if the presentations are less than fully polished. The papers carry the names of the authors and should be cited accordingly. The findings, interpretations, and conclusions expressed in this paper are entirely those of the authors. They do not necessarily represent the views of the International Bank for Reconstruction and Development/World Bank and its affiliated organizations, or those of the Executive Directors of the World Bank or the governments they represent._ Produced by the Research Support Team
# **External Debt, Fiscal Consolidation, and Government Expenditure on Education**

Élisé Wendlassida Miningou World Bank Group 1818 H Street, NW Washington, DC 20433, USA

**JEL Code:** O1, H5, H6, I2

**Keywords:** Human capital, Education Expenditure, Fiscal Consolidation, Debt
# **1. Introduction**

The pandemic led to lockdowns in several countries, which resulted in various challenges, including economic slowdowns and higher debt levels. GDP growth was negative in most developing countries in 2020, and GDP growth forecasts for 2021, 2022 and 2023 have been downgraded in many countries (World Bank, 2021; 2023). <mark>To help combat the pandemic, many countries received financial support from various institutions, including multilateral and regional financial institutions as well as bilateral development agencies. Internal debt tools were also leveraged to face the short-term challenges caused by the pandemic.</mark> Global external debt as a share of GDP reached 114% in 2020, one of the highest levels since 1990 ( <mark>Kose et al., 2021). Unprecedented fiscal stimulus combined with declining government revenue has triggered concerns about debt sustainability (World Bank, 2021, Kose et al., 2021). M</mark> any developing countries were either “in” or “at risk of” debt distress before the onset of the COVID-19 pandemic and could be further challenged by the rising debt levels. High inflation in several countries prompted rapid monetary policy tightening in 2022 and 2023, which resulted in an unexpected increase in interest rates (World Bank 2023). Developing countries with high external debt stocks are thus facing a sharp increase in debt service costs, which poses an increasing concern about debt sustainability.

High public debt raises the risk of a fiscal crisis and keeps the borrowing costs high. Higher levels of debt may demand greater financing through deficit, which leads to more debt, thus generating a vicious circle that could be explosive. Some empirical evidence suggests a negative relationship between debt and economic growth (Reinhart and Rogoff, 2010; Greenidge _et al_ . 2012; Calderón _et al_ . 2013). Reducing debt through economic growth is one of the best options to face a debt crisis. However, given the uncertainty of the post-pandemic economic environment, economic growth is not expected to accelerate substantially. Growth projections in many emerging and developing countries show modest growth prospects for the coming years (World Bank 2021 and IMF, 2021).

Fiscal consolidation is one of the tools commonly used to face fiscal imbalances. Governments have a set of tools (such as inflation targeting, financial repression, debt default, or restructuring) at their disposal to face a debt crisis (Kose, et al, 2021). However, reducing debt through fiscal consolidation remains one of the most appropriate tools that governments possess to curb fiscal imbalances (Amo-Yartey, _et al_ . 2012; Salmon and Rugy, 2020; Beetsma, _et al_ . 2021; Kose, et al, 2021). Fiscal consolidation indeed describes the government’s policy intended to reduce the fiscal deficit and the accumulation of debt. While there is no consensus on the most effective route to fiscal consolidation, empirical evidence from several countries seems to suggest that fiscal consolidation based on expenditure reduction tends to be more effective than tax-based consolidations (Amo-Yartey, et al 2012; Antelo and Peón, 2014; Beetsma, et al, 2021).

Expenditure-based fiscal consolidation may have some implications for human capital spending. Government expenditure plays a central role in education financing, especially in developing countries. World Bank (2018) shows that public education expenditure contributes to 46.4% of total education expenditure in low-income countries, 66.5% in lower-middle-income countries and 89.5% in uppermiddle-income countries. Education is mostly financed by public resources in many developing countries and an eventual contraction of public expenditure could lead to fewer resources for human capital investments. Evidence from developed countries shows that fiscal consolidations can be harmful to government spending on human capital (Castro, 2005).

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The purpose of this study is to investigate how fiscal consolidation due to high external debt could hinder education spending. It suggests a measure of the risk of fiscal consolidation and investigates the possible effects of fiscal consolidation on education expenditure. The results show that debt can lead to a higher risk of fiscal consolidation and a decline in government expenditure on education. In other terms, debt poses a significant threat to government expenditure on education. The rising debt levels caused by the COVID-19 pandemic may be an important barrier to education financing.

# **2. Empirical strategy**

This study aims at understanding the relationship between external debt, fiscal consolidation, and government expenditure on education. To do so, a measure of the risk of fiscal consolidation is first proposed. Secondly, the impact of the suggested measure of fiscal consolidation on education spending is explored using a system-GMM regression.

# _Measuring the risk of fiscal consolidation_

A proxy of the risk of fiscal consolidation is estimated using the external debt-to-reserve ratio as a regressor in a probit model. The debt-to-GDP ratio is a commonly used indicator to monitor debt sustainability. However, in the particular case of external debt, a high debt-to-GDP ratio may not be a perfect predictor of fiscal consolidation if the international reserves allow the government to face the debt service. Therefore, the external debt-to-reserve ratio becomes a more accurate indicator of debt sustainability.<sup>1</sup> A proxy of the risk of fiscal consolidation is proposed, using the external debt-to-reserve ratio in equation 1 as follows: where DebtResit denotes country's _i_ debt-to-reserve ratio at time _t_ , β0 and β1 parameters to be estimated, Uit residual terms, and γi individual country effects term. Pr(Cit) is the probability of a relative decline in total government expenditure of country _i_ between time _t_ and _t-1_ with respect to the government revenue. Cit tries to capture the government policy with regard to the fiscal deficit. Assuming EXit the variation in percentage of total government expenditure and REVit the variation in percentage of the government revenue between _t_ and _t-1_ , SDEXREV being the standard deviation of EXit −REVit : In other terms, Cit is an indicator of whether the government expenditure is decreasing significantly faster than government revenue using one standard deviation effects size. The predicted probability is: Fisconit is a proxy of the risk that the government implements a fiscal consolidation policy because of a high debt-to-reserve ratio. When revenue is growing significantly faster than expenditure because of debt, it is likely that the government is trying to tackle the fiscal deficit through a fiscal consolidation measure.

> 1 The debt-to-GDP ratio will also be tested in equation 1.

3
In other terms, a decrease in the fiscal deficit from one period to the next because of high external debt levels could signal an ongoing fiscal consolidation measure aiming to address debt issues.

It is important to note that Cit does not distinguish between expenditure-based and tax-based fiscal consolidation. A declining fiscal deficit can be driven by higher revenue or reduced spending. This may seem like a drawback for this study. However, with the assumption that any policy aiming to reduce the fiscal deficit could have implications for education spending, Fisconit allows to investigate the impact of various types of fiscal consolidation policies on education financing . To control for specific country effects, a random-effects probit model is applied to estimate equation 1 (Greene, 2017; Bland and Cook, 2019).

# _Fiscal consolidation and education expenditure_

As a rising debt service could contribute to a higher fiscal deficit, any eventual fiscal consolidation policy may have some implications for education expenditure. A higher debt burden could indeed reduce the resources available to finance government expenditure, thus reinforcing fiscal deficit. To cope with the fiscal imbalance, a fiscal consolidation policy could be conducted. Such a policy usually consists of expenditure cuts or rising taxes, or both, with potential implications for education expenditure. In fact, education spending being a component of total government expenditure, any changes to government expenditure or revenue may impact education spending.

To link fiscal consolidation and education spending, the following econometric model is estimated: Log(ESpendit) = θ0 + θ1LOG(ESpendit−1) + θ2LOG(Fisconit−1) +θ3ODAgwhit + θ4GDPgwhit + incgroupit + vit (4) with θ a set of parameters to be estimated, ESpendit government education expenditure of country _i_ at time _t_ . GDPgwh is the growth rate of the GDP per capita, ODAgwh the growth rate of the Official Development Assistance per capita, incgroup a set of country income group dummy variables, and vit the residuals. Education spending at time _t-1_ is introduced as a regressor to control for the effects of past spending on actual spending levels. In many countries, a large share of the education budget is dedicated to recurrent expenditure, including salaries. Because salaries may not be flexible in the short run, education expenditure at time _t_ may be strongly correlated with the expenditure at time _t-1_ .

It seems plausible to assume that after the start of a debt crisis, it takes time for an eventual fiscal consolidation to impact education spending. For this reason, the fiscal consolidation variable is delayed in equation 4. Education in developing countries is financed from internal and external resources (Fosu 2010; Al Samarrai et al. 2019). The GDP per capita growth rate is then included as a control variable for the availability of domestic resources while the growth rate of the official development assistance controls for the external support to the education sector. As countries with higher level of income may have greater resources to invest in education, incgroup is an additional control variable for countries’ income levels.

Equation 4 is dynamic and could face issues related to endogeneity and autocorrelation. The GDP per capita growth and education spending variables may be affected by a reverse causality problem.<sup>2</sup> To

> 2 On the one hand, increased education spending and an eventual improvement in the population’s education could boost economic growth. On the other hand, stronger economic growth could mean more resources to finance education.

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properly control for this potential endogeneity issue, a dynamic panel GMM estimation technique is implemented (Arellano and Bond, 1991; Arellano and Bover, 1995). The system GMM technique controls for endogeneity by using lags of the endogenous variables as instruments in the econometric equation. It also controls for eventual autocorrelation issues that could appear after introducing lags of the dependent variable as regressors. ESpendit−1 , Fisconit−1 and GDPgwhit are treated as endogenous variables in the system GMM regression.<sup>3</sup>

# **3. Data**

Table 1-Panel A shows the data used to estimate equation 1, and Panel B describes the data used to estimate equation 4. Data are collected from the World Economic Outlook and the World Development Indicators databases. The data cover the period 1990-2019. To address the data availability issues, all variables are averaged by a three-year interval.

Panel A data show that about 9.5% of the observations experienced a relative decline of total government expenditure over the last decades and the average debt service-to-reserve ratio varies between 0.5% and 397%. The average debt-to-GDP ratio is over the IMF's recommended benchmark of 40% in about 60% of the countries, showing that several countries may be affected by debt sustainability issues. The data are available for a total of 50 low- and middle-income countries from 1991 to 2019 to estimate equation 1.

Education spending per school-age individual (in primary, secondary, and tertiary) is the dependent variable in equation 4 (Table 1-Panel B). Because countries included in the analysis have different demographic structures, the size of the school-age population may vary across countries. Government spending on education is usually designed to cover the school-age population, and education expenditure by school-age child appears to accurately capture government's effort toward education financing.

Panel B shows that the average spending per school-age child is about $300. The spending per child hugely varies across income groups, from $39.5 in low-income countries to $636.7 in upper-middle income countries. This illustrates the large cross-country inequality in the volume of resources available to finance education. A total of 96 countries has available data to estimate equation 4. Almost half of these countries are lower-middle income countries.

**Table 1:** Descriptive statistics

||Obs|Mean|Std. Dev.|Min|Max|
|---|---|---|---|---|---|
|**Panel A: Probit model (equation 1)**||||||
|Change in government expenditure compared to revenue (_C_)|577|0.095|0.294|0|1|
|External debt to reserve ratio (_DebtRes_)|577|6.095|18.612|0.492|397.016|

3 It is worth mentioning that debt service obligations exist because of countries’ borrowing activities in the past. Past education spending financed by debt could play a role in the relationship between the current debt service and education spending. Although equation 4 is dynamic and takes into account education expenditure at time t-1, it may not fully capture the long-term relationship between past education spending on the one hand and the current debt service and education spending on the other hand.

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|Debt stock to GDP ratio(_DebtGDP_)|577|50.965|29.356|3.879|235.786|
|---|---|---|---|---|---|
|**Panel B: GMM model (equation 4)**||||||
|Government education expenditure per school-age child<br>(_Espend_)|902|300.991|377.873|8.529|2428.502|
|Probability of fiscal consolidation (_Fiscon_)|902|0.106|0.051|0.017|0.381|
|ODA per capita growth (_GDPgwh_)|902|0.215|1.078|-0.902|20.761|
|GDP per capita growth (_ODAgwh_)|902|0.026|0.047|-0.154|0.33|

# **4. Results**

_Predicting the probability of fiscal consolidation_ Table 2-Model 1 shows that the external debt-to-reserve ratio is a significant predictor of a relative decline of government expenditure with respect to government revenue. In other terms, an increase in the external debt-to-reserve ratio is associated with a higher likelihood that the government conducts a fiscal consolidation policy. A 1 percentage increase in the debt-to-reserve ratio is associated with 0.25 percentage points increase in the probability of a decline in the total government expenditure relative to government revenue. An increase in the government's external debt is thus associated with a higher likelihood that the government conducts a fiscal consolidation policy aiming at curbing the fiscal deficit. The debt-to-GDP ratio seems not to be significantly related to the risk of fiscal consolidation (Table 2- Model 2).

**Table 2:** Econometric results: debt and the likelihood of fiscal consolidation (equation 1)

||Dependent<br>|variable:_Cit_<br>|
|---|---|---|
||Model 1|Model 2|
|Debt service to reserve ratio (logged)|0.252***||
||(0.086)||
|Debt stock to GDP ratio (logged)||-0.077|
|||(0.108)|
|Constant|-0.544*|-1.38***|
||(0.287)|(0.418)|
|Number of observations|577|577|
|Countries|50|50|
||Prob > chi2 =0.0316|Prob > chi2= 0.0602|

* Significant at 10% level; ** significant at 5% level; *** significant at 1% level

The results presented in Table 2-Model 1 are used to compute a proxy of the likelihood of a fiscal consolidation policy. The predicted probability varies by country, region, and income group (Figure 1). Countries with the highest development challenges seem to be exposed to a higher risk of fiscal consolidation (Sub-Saharan Africa and low-income countries). The risk of fiscal consolidation seems to have decreased between 1990 and 2011 but increased after 2011. This may be consistent with the low interest rates environment that occurred after the 2008 global economic crisis which encouraged many developing countries to finance their recovery policies by taking external loans.

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**Figure 1:** Predicted probability of fiscal consolidation by region and income group

# _Fiscal consolidation and education expenditure_

Equation 4 is estimated using a system GMM regression (Arellano and Bond, 1991; Arellano and Bover, 1995). The results show that the likelihood of fiscal consolidation has a negative effect on government expenditure on education (Model 3 in Table 3). This relationship is robust regardless of the control variables used (Table 3-Models 1 and 2). Increased risk of expenditure contraction due to higher external debt could lead to decreased expenditure on education. Results from Model 3 show that one percentage increase in the probability of a fiscal consolidation decreases education expenditure per school age child by 0.043 % in the following period. In other terms, one percentage point increase in the probability of fiscal consolidation decreases the average education expenditure per school child by approximately $11.5.

**Table 3:** Econometric results: fiscal consolidation and education spending (equation 4)

||Dependent|variable: log education expend|iture per child|
|---|---|---|---|
||Model 1|Model 2|Model 3|
|Log education expenditure per school-age child (t-1)|0.973***|0.977***|0.980***|
||(0.012)|(0.012)|(0.008)|
|Log probability of fiscal consolidation (t-1)|-0.099***|-0.106***|-0.043**|
||(0.025)|(0.022)|(0.018)|
|ODA per capita growth (t/t-1)||0.006|0.002|
|||(0.01)|(0.009)|
|GDP per capita growth (t/t-1)|||0.573***|
||||(0.153)|

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|Income group control|NO|YES|YES|
|---|---|---|---|
|Constant|-0.056|-0.082|0.038|
||(0.067)|(0.087)|(0.064)|
|Number of observations|902|902|902|
|Countries|96|96|96|
||F(2, 95) = 4244<br>|<br>F(7, 95) = 5155|<br>F(8, 95) = 5233.70|
||Prob > F = 0.000|Prob > F = 0.000|Prob > F = 0.000|
||Arellano-Bond test for|Arellano-Bond test for<br>|Prob > chi2 = 0.357<br>|
||AR(1) Pr > z = 0.000|AR(1) Pr > z = 0.000<br>|Arellano-Bond test for AR(1)|
||Arellano-Bond test for<br>AR(2) Pr > z = 0.333<br>Sargan test of overid.<br>restrictions: chi2(127) =|Arellano-Bond test for<br>AR(2) Pr > z = 0.230<br>Sargan test of overid.<br>restrictions: chi2(125) =<br>98.73|Pr > z = 0.000<br>Arellano-Bond test for AR(2)<br>Pr > z = 0.207<br>Sargan test of overid.<br>restrictions: chi2(180) =|
||97.46|Prob > chi2 = 0.960|186.62|
||Prob > chi2 = 0.976||Prob > chi2 = 0.352|

Table 4 investigates a possible direct relationship between debt and education expenditure. A system GMM is applied to estimate equation 4 using the debt stock-to-GDP ratio and the debt service-to-reserve ratio as proxies for debt. The results show that a higher debt-to-reserve ratio is associated with lower education spending. This is consistent with the results presented in Table 3. A higher debt level relative to reserves could mean that the government does not have sufficient capacity to face its debt burden. Government then attempts to control its fiscal imbalances through fiscal adjustments, leading to a decline of education expenditure.

Education expenditure tends to overreact to an increase of the debt burden. In other terms, the decline of education spending is proportionally larger than the increase of the debt burden. Table 4 shows that 1 percent increase in the external debt volume without any changes to the reserve levels could lead to a 2.9% decrease in the spending per school-age child. In other terms, education expenditure is vulnerable to external debt. This means that education expenditure may be one of the spending categories used by the government to adjust the fiscal deficits. Therefore, external debt poses a significant threat to education financing, especially in the current context of the rising debt levels caused by the pandemic. Protecting education finance should become a priority in the post COVID-19 era.<sup>4</sup>

> 4 UNESCO (2021) stresses the need to protect investment in education in the world in the context of the COVID-19 pandemic. https://en.unesco.org/news/protecting-education-funding-face-covid-19

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**Table 4:** Econometric results: Debt and education spending

||Dependent variable: log e<br>|ducation expenditure per<br>|
|---|---|---|
||chi<br>|ld<br>|
||Model 1|Model 2|
|Log education expenditure per school-age child (t-1)|0.994***|1.000***|
||(0.025)|(0.025)|
|Log debt to GDP ratio|-0.01||
||(0.023)||
|External debt to reserve ratio (logged)||-0.029**|
|||(0.017)|
|ODA per capita growth (t/t-1)|-0.005|-0.018|
||(0.036)|(0.013)|
|GDP per capita growth (t/t-1)|0.605**|0.625 *|
||(0.297)|(0.331)|
|Constant|0.108|0.006|
||(0.202)|(0.131)|
|Number of observations|361|361|
||F(4, 44) =1066.63|<br>F(4, 44) = 875.95|
||Prob > F = 0.000|Prob > F = 0.000|
||Arellano-Bond test for|Arellano-Bond test for|
||AR(1) Pr > z = 0.001|AR(1) Pr > z = 0.004|
||Arellano-Bond test for|Arellano-Bond test for|
||AR(2) 0.86 Pr > z = 0.391<br>Sargan test of overid.<br>restrictions: chi2(172) =|AR(2) = Pr > z = 0.339<br>Sargan test of overid.<br>restrictions: chi2(172) =|
||171.71|193.86|
||Prob > chi2 = 0.492|Prob > chi2 = 0.121|

The growth of the official development assistance to the education sector seems to not be associated with a significant increase of education expenditure (Tables 3 and 4). A large proportion of education spending is provided to countries through project modalities and may not be counted as part of government education expenditure.<sup>5</sup> In addition, education aid represents a small proportion of education financing. Because of the relatively small contribution of aid to the education budget, an increase of the amount of aid may not be enough to drive a substantial increase of overall government expenditure on education. Tables 3 and 4 also show that GDP growth is associated with higher government expenditure on education. GDP growth drives higher government revenue which in turn contributes to increased education expenditure. This evidence is in support of the Wagner's law on the causal effect of GDP growth on government expenditure (Chandran et al., 2011; Dogan & Tang, 2006; Ebaidalla, 2013; Loizides & Vamvoukas, 2005; Ahuja and Pandit, 2020).

> 5 In 2019, only 3.5% of education ODA was provided through budget support modalities according to the OECD Creditor Reporting System: https://stats.oecd.org/Index.aspx?DataSetCode=crs1.

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# _External debt and education expenditure in the context of the COVID-19 pandemic_

Debt levels are expected to rise because of the COVID-19 pandemic. Using the estimations presented in Tables 2 and 3, the potential impact of debt on education expenditure is simulated. The external debtto-reserve ratio increased by 2.2% on average between 2016 and 2020 and it is expected to further increase after the pandemic. Estimations using model 3 in table 3 show that a hypothetical 5% increase in external debt without any change in reserves could lead to a $14.50 average decrease in education spending per school-age child, all things being equal (Table 5). This decline varies from $1.50 per child on average in low-income countries to $7.70 in middle-income countries and $44.30 in high-income countries.<sup>6</sup>

**Table 5:** Estimated decline in education expenditure per school-age child following an increase in the debt-to-reserve ratio (in $US)

||Overall|Low<br>income|Lower-<br>middle-<br>income|Upper<br>middle-<br>income|
|---|---|---|---|---|
|5 % increase in debt/reserve ratio|14.5|1.5|7.7|44.3|
|10 % increase in debt/reserve ratio|28.9|3.1|15.4|88.5|
|15 % increase in debt/reserve ratio|43.4|4.6|23|132.8|

Debt could be associated with a huge decline in the total volume of government expenditure on education in developing countries. For instance, a hypothetic 5% increase in external debt could lead to a decline of the volume of government education expenditure by $12.8 billion in low- and middleincome countries, all things being equal. The estimated decline is just below the total official development assistance to the education sector in 2021 ($14.1 billion). This implies that rising external debt can lead to a substantial decline of education expenditure. This is particularly concerning given the COVID-19 related debt and the risk of debt crisis in developing countries. Although it is difficult to accurately approximate the impact of the COVID-19-related debt on education expenditure due to the lack of data, it is plausible to expect a decline in government expenditure on education given the high debt burden faced by developing countries. Protecting the education budget should be a priority in the period following the COVID-19 pandemic.

# **5. Conclusion**

This paper investigates the relationship between debt, fiscal consolidation, and government expenditure on education. It shows that the external debt-to-reserve ratio is a good predictor of the probability of fiscal consolidation. To face the external debt burden, governments are likely to implement fiscal consolidation policies. These policies could lead to budget cuts which may affect government expenditure on education. This paper investigates the extent to which fiscal consolidation may affect

> 6 Simulations using the econometric results in table 4 give numbers that are very close to what is presented.

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education spending and tries to understand the potential impact of the COVID-19-related debt on education expenditure.

The results show that governments in developing countries have been facing an increasing risk of fiscal consolidation since 2011. Low-income countries and Sub-Saharan Africa seem to be especially exposed to the risk of fiscal consolidation. There is a negative relationship between education expenditure and the likelihood of fiscal consolidation. An increase in the external debt level is associated with lower levels of education spending. This finding illustrates the potential impact on education expenditure of the current high debt situation fueled by the COVID-19 pandemic.

While it is difficult to predict how the pandemic-related debt would evolve, simulating the effects of hypothetic increases of debt on education expenditure can help understand the extent of the debt problem. For instance, a 5% increase in external debt could lead to a $12.8 billion decline in the volume of government education expenditure in low- and middle-income countries, all things being equal. The estimated decline is almost equivalent to the official development assistance to the education sector in 2019. The results of this study confirm that debt can compromise government expenditure on education. This can in turn negatively impact countries' potential to boost their economic growth through increased investment in human capital. Consequently, interventions in developing countries should consider implementing activities such as debt relief or debt swaps as ways to mitigate the impact of debt on education financing.

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