Download Growth implosions and debt explosions

Growth implosions and debt
explosions
Do growth slowdowns cause public
debt crises?
Published at www.bepress.com
By William Easterly, Center for Global
Development and My Aunt Marilyn
1966
1969
1972
1975
1978
1981
1984
1987
1990
1993
1996
1999
0.06
1963
0.05
1960
0.04
1957
0.03
1954
0.02
0.01
1951
Growth Implosion: The World
Growth Slowdown
GDP Growth Rate (Unweighted world
average)
Debt explosion: the rise in public
debt to GDP ratios (world
average)
60%
55%
50%
45%
40%
35%
30%
25%
19
93
19
91
19
89
19
87
19
85
19
83
19
81
19
79
19
77
19
75
20%
Log annual change in debt ratio
from 1975 to 1994 (average for
quintile)
Change in growth 60-75 to 75-94 and Log Change in
public debt to GDP ratios 1975-94
7%
6%
5%
4%
3%
2%
1%
0%
-5%
-4%
-3%
-2%
-1%
0%
1%
Change in growth 60-75 to 75-94 (by quintiles from worst
to best)
Growth rate of debt ratio and change
in growth has negative association:
• Significant correlation of -.41
• Regression of annual change in debt ratio on
change in growth: change in growth has
coefficient not significantly different than -1 (and
coefficient on growth in each period is unity of
opposite sign when entered separately)
• Implies borrowing 1975-94 was calibrated to old
growth rate 1960-75 rather than to new growth
rate 1975-94
Message of this paper
Don’t borrow a lot when your
growth is going down!
My Aunt Marilyn puts it in more earthy language:
Never take a sleeping pill and a
laxative on the same night.
Outline
• The growth slowdown as an explanation for
various debt crises: the HIPCs, middle
income countries, and industrial countries
• The role of growth in the government’s
intertemporal budget constraint
• Policy conclusions: increasing growth is a
fiscal adjustment measure!
The birth of debt crises
D Gt − (Tt + St + At )
Dt
∆ =
+ (r − g ) *
Y
Yt
Yt
First expression is the primary deficit as a ratio
to GDP. Knowing data on Change in D/Y, r, g,
and D/Y, we can back out primary deficit (later
we’ll calculate it from primary data for a
smaller sample)
Data sources
• Public Debt (for concessional debt, present
value of debt service from World Bank, for
non-concessional debt Loayza, SchmidtHebbel, and Serven 1998)
The evolution of public debt
Total net
public debt
GDP
Growth
rate 7594
1975 1994
Highly indebted poor
countries
Not highly indebted poor
countries
Highly indebted middleincome countries
Not highly indebted
middle income countries
Industrial countries
Implied
primary
deficit/
GDP,
1975-94
48% 94%
1.8% *
-0.44%
28% 41%
4.4%
0.14%
27% 56%
3.4%
0.52%
9% 24%
29% 59%
3.4%
2.4% **
0.40%
0.06%
HIPCs became HIPCs not
because of primary deficits (they
actually had primary surpluses)
but because of low growth
Similarly industrial countries’
had high public debt ratios by
1994 because of slow growth
1975-94
Public debt to GDP ratios, actual
and counterfactual at 1960-75
growth rate
100%
90%
80%
70%
60%
50%
40%
30%
20%
10%
0%
1975 actual
1994 actual
1994 counterfactual
HIPC
Industrial
Public debt to GDP ratios, actual
and counterfactual at 1960-75
growth rate
120%
100%
80%
60%
actual 1975
actual 1994
counterfactual1994
40%
Togo
Italy
Gabon
Cote
d'Ivoire
0%
Costa
Rica
20%
Policy variables explain low
HIPC growth 1975-94 and thus
the HIPC debt crisis
Replication of Easterly and Rebelo 1993 Growth
Regression for Fiscal Variables and Other
Controls
Dependent Variable: Per Capita Growth
Estimation Method: Seemingly Unrelated Regression
Pooled sample of 70s, 80s, 90s
Coef- t-StaVariable
ficient tistic
Constant
0.04211 1.60
Public Spending on Transport
and Communication/GDP
0.00255 2.01
Government Surplus/GDP
Initial Income
0.00139 3.41
-0.00850 -2.20
Primary enrollment
0.00023
2.24
Secondary Enrollment
M2/GDP
0.00019
0.00026
1.46
2.38
Real Overvaluation
-0.01187 -2.55
Differentials in policy variables
Policy
HIPCs vs. non-HIPC low income different Growth
countries 1990s (t-stats below)
effect
ials
Public Spending on Transport and
Communication/GDP
-1.65
-0.4%
-2.33
Government Surplus/GDP
-1.43
-0.2%
-0.71
Primary enrollment
-19.27
-0.5%
-2.50
Secondary Enrollment
-11.16
-0.2%
-2.38
M2/GDP
-12.29
-0.3%
-3.04
Real Over-valuation
0.39
-0.5%
1.94
Total explained growth or net
worth differential
-1.8%
Actual growth or public debt
differential
-1.9%
Net
worth
effect
-12%
-5%
-12%
-6%
-9%
-13%
-49%
57
Policy implications
• World Bank and IMF should be begging
countries to spend more on infrastructure
and education (with suitable incentives for
quality spending of course) to promote
growth during fiscal adjustment programs.
• Avoid repeated myopic fiscal adjustments
• Haiti has gotten 22 IMF stand-bys!
The Idiot’s Guide to Fiscal Policy
(i.e. guide for politicians)
• There doesn’t exist a one-period “resource
envelope” or “budget constraint” for the
government
• There is only the intertemporal government budget
constraint.
• Any public spending that carries an above-normal
financial rate of return should be done, just like in
the private sector – solve the problem of financing
high return projects, don’t cut the projects!
The role of growth in the
government’s intertemporal
budget constraint
The government’s intertemporal
budget constraint
∞
e
∫
− rt
(Tt + St + A t − G t )dt ≥ D 0
0
T taxes
S seignorage
A aid reciepts
G government spending
D Public net debt at time zero
Define government net worth as:
present value of primary surplus
(assuming fiscal ratios remain
constant) - debt
Dt
Wt Tt + S t + At − Gt
=
(r − g ) −
Yt
Yt
Yt
Solvency constraint is that W/Y≥0
Condition for intertemporal
budget constraint to be satisfied
assuming constant fiscal ratios
σ=T/Y+ A/Y + S/Y-G/Y
σ
D0
=
r − g Y0
The effect of growth on net worth
σt
∂W / Y
=
2
∂g
(r − g )
Evaluate at point of zero net worth
(just solvent)
∂W / Y D Y
=
(r − g)
∂g
Effect of growth on net
worth and change in
debt, 1975 and 1994
Highly indebted poor
countries
Not highly indebted poor
countries
Highly indebted middleincome countries
Not highly indebted
middle income countries
Industrial countries
Change
in debt
Growth rate
ratio 75
60-75 75-94
to 94
Growth
effect on
net
worth to
GDP
3.6% 1.8%
46%
-25%
3.7% 4.4%
13%
10%
4.9% 3.4%
29%
-21%
4.9% 3.4%
4.5% 2.4%
15%
30%
-7%
-23%
More data sources
• Government expenditures, taxes (IMF
Government Finance Statistics)
• Aid from World Bank project: Chang,
Fernandez-Arias, and Serven 1999
• Seignorage I calculate from IMF as
(g+π)/(1+g+π) *H/Y
Slow growth (suitably
instrumented) interacted with
initial debt explains number of
debt reschedulings in HIPCs and
HIMCs compared to other LDCs.
Results on debt rescheduling and
growth for developing countries
Dependent variable
Estimation method
# of debt reschedulings, 198094
TSLS
GMM
Coef- TCoef- Tficient statistic ficient statistic
2.1
1.87
2.8
3.08
Constant
Primary fiscal
surplus/GDP, 1980-94
2.7
0.08 -47.8 -2.02
PV Debt/GDP,1980
10.4
3.97 12.1
6.04
Growth8094* Debt/GDP
-272.2
-3.6 -292 -6.39
observations
49
49
Instruments for all equations: PV Debt/GDP 1980, Trading
partner growth*PV Debt/GDP, Africa dummy*PV
Debt/GDP, Latin America dummy*PV Debt/GDP, Trading
Partner Growth, Africa dummy, Latin America dummy
Define intertemporal fiscal imbalance as
difference between actual (permanent
component of) primary surplus and
required primary surplus for solvency
IFBt Tt + St + At − Gt
Tt + S t + At − Gt
Dt
=
−σ =
− (r − g )
Yt
Yt
Yt
Yt
Fiscal adjustment and
intertemporal fiscal
imbalance
Highly indebted poor
countries
Not highly indebted poor
countries
Highly indebted middleincome countries
Not highly indebted
middle income countries
Industrial countries
Primary Inter-temporal
surplus/
fiscal
GDP,
imbalance/
(permanent
GDP
1975 1994 1975 1994
-0.5% 4.3% -1.6% 0.4%
-1.6% 4.1% -2.3% 3.4%
-1.5% 5.6% -1.8% 4.1%
0.2% 3.8% 0.1% 3.2%
-2.2% 0.2% -2.7% -2.0%
Developing countries had
attained solvency by 1994,
industrial countries had not.
Industrial countries failed to
adjust to the fiscal consequences
of the growth slowdown.
The HIPCs were only solvent by 1994
because of increased aid flows and
inflation tax, not because of domestic fiscal
adjustment
Highly indebted poor
countries
Primary
surplus/ GDP,
Intertemporal
(permanent fiscal imbalance/
component)
GDP
1975 1994
1975
1994
Including aid and
inflation tax
-0.5% 4.3%
Excluding aid
-3.2% -2.2%
Excluding aid,
excluding inflation tax -4.1% -4.1%
-1.6%
-4.4%
0.4%
-6.2%
-5.3%
-8.1%
HIPC debt relief program may
reflect aid-weariness by donors,
desire to substitute once for all
debt relief for continuing flow of
aid
Richest countries have intertemporal fiscal
balance of 5.5 percentage points of GDP if
pension liabilities are included.
Auerbach and Gale 2000 estimate intertemporal
fiscal imbalance of 1.4 - 2.9 percent in US
(depending on whether a tax cut is
implemented)
Perhaps we now need a program
of debt relief for highly indebted
rich countries’ (HIRC).
(Just kidding)
When trouble arises & things
look bad, there is always one
individual who perceives a
solution & is willing to take
command.
Very often, that person is crazy.
--Aunt Marilyn
Growth implosions and debt
explosions: conclusions
• Growth slowdowns were a major contributing factor to the
HIPC debt crisis, the middle income debt crisis, industrial
countries’ debt crisis, and maybe a tangential factor in the
East Asian financial crisis.
• A negative growth shock is a fiscal shock to which
governments must adjust like other fiscal shocks
• Fiscal adjustment programs are myopic if they reduce
growth-enhancing public expenditures -- actions to
increase growth should be part of fiscal adjustment.