Interest-Growth Differentials and Debt Limits in Advanced Economies

April 6, 2018

Preview Citation

Format: Chicago

Philip Barrett. Interest-Growth Differentials and Debt Limits in Advanced Economies, (USA: International Monetary Fund, 2018) accessed November 21, 2024

Disclaimer: IMF Working Papers describe research in progress by the author(s) and are published to elicit comments and to encourage debate. The views expressed in IMF Working Papers are those of the author(s) and do not necessarily represent the views of the IMF, its Executive Board, or IMF management.

Summary

Do persistently low nominal interest rates mean that governments can safely borrow more? To addresses this question, I extend the model of Ghosh et al. [2013] to allow for persistent stochastic changes in nominal interest and growth rates. The key model parameter is the long-run difference between nominal interest and growth rates; if negative, maximum sustainable debts (debt limits) are unbounded. I show how both VAR- and spectral-based methods produce negative point estimates of this long-run differential, but cannot reject positive values at standard significance levels. I calibrate the model to the UK using positive but statistically plausible average interest-growth differentials. This produces debt limits which increase by only around 5% GDP as interest rates fall after 2008. In contrast, only a tiny change in the long-run average interest-growth differential – from the 95th to the 97.5th percentile of the distribution – is required to move average debt limits by the same amount.

Subject: Asset and liability management, Debt default, Debt limits, Debt sustainability, Econometric analysis, External debt, Public debt, Vector autoregression

Keywords: Critical value, Debt default, Debt level, Debt limits, Debt maturity, Debt price, Debt sustainability, Default premium, Fiscal policy, Global, Government Debt, Interest-growth differential, Nominal interest rate, Point estimate, Time series, Uncertainty, Upper bound, Vector autoregression, WP

Publication Details

Pages:

55
Volume:

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DOI:

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Issue:

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Series:

Working Paper No. 2018/082
Stock No:

WPIEA2018082
ISBN:

9781484350980
ISSN:

1018-5941

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