Debt erosion: Asymmetric response to demand and supply shocks

Oscar Valencia (), Juliana Gamboa-Arbeláez and Gustavo Sánchez

International Review of Economics & Finance, 2024, vol. 96, issue PA

Abstract: This paper explores the effect of inflation supply and demand shocks on government debt for a sample of 32 advanced economies and 24 emerging markets from 1970 to 2022. The shocks are identified using a sign-restricted structural vector autoregression model with quarterly data. Estimations of dynamic panel regressions and local projections suggest that supply shocks lead to persistent increases in government debt, while demand shocks result in long-lasting declines. Furthermore, high debt levels amplify the impacts of both supply and demand shocks by more than three times. Specifically, supply shocks contribute to an increase in debt through elevated borrowing costs and prolonged depreciation, whereas demand shocks erode debt through persistent improvements in the primary balance, driven by increased revenues.

Keywords: Debt; Inflation; Sovereign risk; SVAR; Local projections (search for similar items in EconPapers)
JEL-codes: C33 E31 G15 H63 (search for similar items in EconPapers)
Date: 2024
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Working Paper: Debt Erosion: Asymmetric Response to Demand and Supply Shocks (2023)
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Persistent link: https://EconPapers.repec.org/RePEc:eee:reveco:v:96:y:2024:i:pa:s105905602400580x

DOI: 10.1016/j.iref.2024.103588

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