Debt Is Not Free

Marialuz Moreno Badia, Paulo Medas, Pranav Gupta and Yuan Xiang

No 2020/001, IMF Working Papers from International Monetary Fund

Abstract: With public debt soaring across the world, a growing concern is whether current debt levels are a harbinger of fiscal crises, thereby restricting the policy space in a downturn. The empirical evidence to date is however inconclusive, and the true cost of debt may be overstated if interest rates remain low. To shed light into this debate, this paper re-examines the importance of public debt as a leading indicator of fiscal crises using machine learning techniques to account for complex interactions previously ignored in the literature. We find that public debt is the most important predictor of crises, showing strong non-linearities. Moreover, beyond certain debt levels, the likelihood of crises increases sharply regardless of the interest-growth differential. Our analysis also reveals that the interactions of public debt with inflation and external imbalances can be as important as debt levels. These results, while not necessarily implying causality, show governments should be wary of high public debt even when borrowing costs seem low.

Keywords: WP; fiscal crisis; interest-growth differential; crisis threshold; crisis observation; probability of a crisis (search for similar items in EconPapers)
Pages: 68
Date: 2020-01-03
New Economics Papers: this item is included in nep-big, nep-cmp and nep-mac
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Citations: View citations in EconPapers (7)

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Journal Article: Debt is not free (2022)
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