Macroeconomic Effects of Debt Servicing, Foreign Reserves, and Investment on Nepal’s Growth Trajectory

Abstract

This study investigates the impact of macroeconomic variables such as debt servicing, foreign reserves, and gross fixed capital formation (GFCF) on Nepal’s economic growth from the fiscal year 1993/94 to 2023/24. It is based on the Solow-Swan Growth Model, Debt Overhang Hypothesis, and Keynesian investment theory. The ARDL test and ECM as a theoretical background have been used to assess the long- and short-run dynamics. The empirical results show that there is no significant long-run effect of debt servicing on economic growth, which raises concerns about the efficiency of the use of borrowed funds. While foreign reserves help for the short-term stability of the economy, in the long run, they do not show any lasting effect, suggesting an unproductive allocation of funds. GFCF shows a negative long-run impact on GDP, which points to inefficiency, misallocation, or even reduced private investment. Moreover, a positive error correction term throws doubt into the capability of the economy to back at equilibrium without policies because of its instability. Overall, Nepal’s economic issue is not the lack of resources, but their allocation, demanding better governance, strategic use of reserves, and quality investment. However, it has some limitations (such as relying on macroeconomic data, omitting other potential economic growth determinants, and considering political and governance variables are considers, etc.).Therefore, future research should consider institutional variables and capture the political economy dimension of growth in the South Asian economies context to provide valuable insights.