Debt Dynamics in Emerging and Developing Economies: Is R-G a Red Herring?

Debt Dynamics in Emerging and Developing Economies: Is R-G a Red Herring?
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Volume/Issue: Volume 2021 Issue 229
Publication date: September 2021
ISBN: 9781513596259
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Topics covered in this book

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Banks and Banking , Exports and Imports , Economics- Macroeconomics , Public Finance , Economics / General , dampening debt , interest-growth differential , debt build-up , debt-stabilizing role , debt Decomposition , Debt sustainability analysis , Real interest rates , Contingent liabilities , Global

Summary

In the wake of the COVID-19 pandemic, debt levels in emerging and developing economies have surged raising concerns about fiscal sustainability. Historically, negative interest-growth differentials in these countries have played a debt-stabilizing role. But is this enough to prevent countries from falling into debt distress? Drawing from a sample of 150 emerging and developing economies going back to the 1970s, we find that interest-growth differentials have remained relatively low, dampening debt increases in the run up to a crisis. But in the face of persistent primary deficits, debt service tends to rise abruptly—particularly in emerging markets—and a fiscal crisis ensues. There is also evidence that a large part of the debt build-up around crises stems from valuation effects associated with external debt and the materialization of contingent liabilities. These findings underscore that, though not necessarily a red-herring, low interest-growth differentials cannot fully offset the deleterious effects of large fiscal deficits, forex exposures, or hidden debts.