Can debt-reduction policies restore investment and economic growth in highly indebted countries? A macroeconomic framework applied to Argentina

Jacques Morisset ()

No 691, Policy Research Working Paper Series from The World Bank

Abstract: The author devised an analytical framework to examine the implications of debt-reduction operations for the economy of a typical middle-income, heavily indebted country. A major finding is that debt-reduction policies can succeed in restoring investment and, consequently, growth in debtor countries. Such policies combine a liquidity effect resulting from the reduction in debt service payments and an incentive effect resulting from debt relief. A simulation designed to analyze the effects of debt-reduction policies in Argentina showed that a 30 percent reduction in debt had a 2.4 percent positive effect on the level of GDP in the first year and a 5.4 percent effect in the fifth year. The model identifies various channels through which a reduction in foreign debt influences investment. The analysis includes a calculation of the debt-reduction and liquidity combination that maximizes Argentina's GDP. The purpose was to determine the best use of a potential loan to the country from international financial institutions. The empirical results suggest the tentative conclusion that a Brady Initiative debt and debt service reduction operation could establish the basis for sustainable growth in Argentina, if combined with appropriate domestic policies.

Keywords: Banks&Banking Reform; Settlement of Investment Disputes; Economic Theory&Research; Environmental Economics&Policies; Financial Intermediation (search for similar items in EconPapers)
Date: 1991-05-31
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