Lecture notes on debt (ch. 14)
So far we have looked at trade in goods and service.
People may also want to trade consumption today vs consumption next year -> have to
borrow and lend
Example: Norway lending to build up oil industry in 70s
What determines change in debt?
Balance of payment (BOP)
+
+
=
Exports
Imports
Net income on invest (loans, stocks, …)
Debt service payments (interests on debt)
Net transfers from abroad
Current account (CA) balance
+
=
Private foreig direct investments (FDI)
Take up of foreign loans - amortization
Purchase of foreign assets by banks
Residential capital outflow (capital flight)
Capital account balance
+
+
=
Current account balance
Capital account balance
Error (small)
Change in cash reserve account
If change in cash reserve account negative, we have deficit on BOP -> will have to pay
with something, spend currency reserves.
Or take up loans.
Simplified world:
Change in debt = CA
True if currency reserves, asset reserves, FDI, and capital outflow kept constant
=> Worsened CA (e.g. failing exports) -> Debt up
Basic transfers:
Net capital inflow – outflow (=payment of debt)
FN inflow; write FN=dD where d is percentage increase in debt allowed by creditors and
wanted by debitor.
Payment of interests rD
Basic transfer BT=FN-rD=dD-rD=(d-r)D
BT high if r low and d high
The debt crisis
During the 70s: Increase in lending
• oil revenues -> low interest rates
• private lenders into credit mkt
• recession in North -> borrow to withstand
The 80s
• Interest rates increase
• Failing export revenue due to low prices for many developing countries
=> problems repaying debt => need for further loans => cycle
Suggested solutions
1) Structural adjustment programs (IMF/World Bank) (Easterly 2005)
Description of first loan to Cote d’Ivoire :
The loan would be in support of the Government’s program of structural adjustment. The reforms
envisaged by the program are designed to improve the level of public savings and the efficiency in the use
of public resources; restructure the agricultural planning system and associated development institutions
so that an expanded, well designed investment program yielding high returns can be mounted in the sector;
reflect the costs of providing public services to the sector; assure that rational prices and world market
conditions would guide decisions to invest and produce; restructure public enterprise, management,
financing and accountability to ensure efficient market oriented operations; and restructure incentives, to
promote efficient export-oriented industrial investments.
This statement already contains the main features of what would characterize adjustment
lending for the next two decades for the IMF and World Bank: fiscal adjustment, getting
the prices right, trade liberalization, and, in general, a movement towards free markets
and away from state intervention.
See Tables at back of document.
2) Debt buy back
Debt valued at less then size of loan
Ex Bolivia in 1986: 6 cent for 1$ loan
Bough back about half of loan:
Size of debt
Price
Value of debt
Before buy back
$679 mil
0.06
$40.2 mil
After
$362 mil
0.11
$ 39.8 mil
Value of debt almost unchanged -> difficult to remove whole debt in this way.
3) Debt relief
Not tried out much yet; part of Millennium goals
Arguments pro:
Ö Hard to run country when debt payment takes up large part of budget, difficult to
undertake necessary investments
Ö Money was given to dictators in first place
Ö Incentive for lenders how to lend money (?)
Arguments against:
Ö Signal and incentive to debitors: Why ever pay back a loan
Ö What about current dictators
506
L. Dicks-Mireaux et al.r Journal of DeÕelopment Economics 61 (2000) 495–526
Table 2
Estimates of the GEE a
Target variable
Real GDP growth rate
Constant
Lagged
real GDP
growth rate
Lagged
inflation rate
Lagged
external debtr
service ratio
Lagged
fiscal balancer
GDP
Lagged
net domestic
asset growth
Lagged
percentage
change in NEER
Current
percentage
change in terms
of trade
Current
export market
growth
IMF program
dummy
R2
SEE
Number of
observations
Breusch–
Pagan test for
heteroschedasticity
Jarque–Bera
test for
normality of
residuals
y6.619 Žy1.71.
y1.107UU Žy17.96.
0.0005 Ž0.13.
Inflation rate
10.248 Ž1.08.
y0.764U Žy2.18.
y0.687UU Žy4.76.
External debtr
service ratio
22.258UU Ž3.98.
0.022 Ž0.09.
0.027 Ž1.09.
y0.376UU Žy3.09.
0.013 Ž0.74.
0.106Ž1.14.
y0.042 Žy1.37.
y0.467 Žy1.31.
0.097 Ž0.76.
0.004 Ž1.82.
y0.088 Žy1.47.
y0.020 Žy1.78.
y0.009 Žy1.03.
0.436U Ž2.12.
0.058 Ž1.05.
0.002 Ž0.21.
y0.104 Žy0.78.
y0.104UU Ž3.44.
0.090 Ž1.78.
0.293 Ž1.26.
y0.059 Žy0.30.
1.374U Ž2.18.
y3.330 Žy0.35.
y5.552 Žy1.75.
0.537
3.259
291
0.398
29.612
291
0.069
15.734
291
1.35
10.83U
26.57UU
28,231.00UU
23.71UU
7086.90UU
a
The regression estimates were obtained using an ordinary least squares procedure, with countryspecific dummies included in the specification. Standard errors and t-statistics of coefficients are
computed using White’s heteroschedasticity-consistent variance–covariance estimator. The figures in
parentheses are t-statistics; R 2 is the adjusted coefficient of determination; SEE is the standard error of
the regression. A single asterisk indicates statistical significance at the 5% level; two asterisks indicate
statistical significance at the 1% level.
Table 1
Successes and failures of repeated adjustment lending (all data refer to averages for period from first adjustment loan to 1999 for top 20 countries in adjustment loans)
Adjustment Fraction of time
Per capita Current
Government Black market Inflation Real overvaluation (+)/ Real interest
loans
under IMF program, growth
account
balance/GDP premium (%) rate (%) undervaluation ( )
rate (%)
1980–99
1980–99 (%)
rate (%) balance/GDP
(%)
2.30
2.10
1.80
1.60
1.40
0.20
0.10
0.10
0.10
0.10
1.20
2.30
7.6
12.3
7.3
6.3
6.7
11.1
9.9
9.4
8.5
3.5
4.2
7.4
Other developing countries (from worst to best growth rates)
Bolivia
17
68.8
Philippines
19
77.5
Jamaica
18
72.9
Mex
20
54.2
Argentina
30
69.2
Morocco
22
48.8
Bangladesh
18
48.3
Pakistan
20
61.3
min top 20
14
45.4
max top 20
30
83.8
average top 20
19
68.1
0.40
0.00
0.40
0.40
1.00
1.10
2.40
2.70
2.30
2.70
0.10
0.30
AVERAGE
(all developing countries)
7
29.2
2
58
17
5
6
23
4
7
5
14
32
50
19
135
25
5
62
1
4.5
4.5
1
3.1
2
77
21
2
2
38
3
85
2
15
36
96
94
20
9
48
47
15
10
9
10
13
3
11
3
9
8
16
18
6.8
2.8
5.4
1.9
2.4
3.3
2.8
3.4
12.3
1.9
6.1
1.6
2
12.6
3.9
1.8
5.7
0
6.9
13.4
0
4.6
31
6
20
10
23
4
93
12
2
96
26
91
11
20
41
164
6
6
8
2
164
24
36
21
2
36
11
4
41
48
48
135
3
20
6
7
3
5
2
7
1
20
15
1
6.0
4.6
32
32
1
0
13.4
3.5
3
1.3
7.8
6.5
W. Easterly / Journal of Development Economics 76 (2005) 1–22
Africa (ranked from worst to best growth rates)
Niger
14
61.7
Zambia
18
45.4
Madagascar
17
68.8
Togo
15
82.9
Cote d’Ivoire
26
75.4
Malawi
18
83.3
Mali
15
70.8
Mauritania
16
73.8
Senegal
21
83.8
Kenya
19
72.9
Ghana
26
61.3
Uganda
20
80.8
5
W. Easterly / Journal of Development Economics 76 (2005) 1–22
17
Table 6
Probit pooled regression results on individual indicators of macroeconomic distortions and adjustment lending
(clustered standard errors by country)
Dependent variable:
dummy variable for
extreme imbalance in:
Budget deficit/GDP
Right-hand side
variablesY
Marginal
Z-stat
Marginal
Z-stat
Marginal
Z-stat
Marginal
Z-stat
Current account
Marginal
deficit/GDP
Z-stat
Marginal
Z-stat
Marginal
Z-stat
Marginal
Z-stat
Inflation
Marginal
Z-stat
Marginal
Z-stat
Marginal
Z-stat
Marginal
Z-stat
Black market premium Marginal
Z-stat
Marginal
Z-stat
Marginal
Z-stat
Marginal
Z-stat
Real overvaluation
Marginal
Z-stat
Marginal
Z-stat
Marginal
Z-stat
Marginal
Z-stat
Real interest rate
Marginal
Z-stat
Marginal
Z-stat
Marginal
Z-stat
Marginal
Z-stat
probability
probability
Cumulative no. Cumulative time Time
of adjustment
spent in IMF
trend
loans
programs
0.020
2.410
0.010
1.080
probability
probability
probability
probability
probability
probability
probability
0.010
1.470
0.005
0.620
probability
probability
probability
probability
probability
1518
1518
1441
1442
0.0001076 1442
0.03
1173
1173
1181
0.013
2.540
1181
1100
0.008
1.350
0.022
2.440
0.014
1.080
probability
0.009
2.010
0.018
3.230
0.041
5.300
0.026
2.700
probability
935
1518
0.003
0.870
0.028
3.890
0.015
1.860
probability
0.017
2.870
1441
0.012
2.250
0.012
1.850
probability
935
0.004
0.830
0.004
0.980
0.003
0.520
probability
943
1518
0.005
0.670
0.013
1.370
probability
probability
0.016
2.730
0.003
0.520
0.001
0.150
probability
probability
943
0.028
2.910
0.010
0.870
probability
No. of
observations
0.012
2.820
0.008
1.540
1100
1100
0.007
1.080
1100
1249
0.008
2.270
0.025
4.320
0.021
3.070
1249
1257
0.004
1.120
1257