Working Paper: CEPR ID: DP14442
Authors: Wee Chian Koh; Ayhan Kose; Peter Nagle; Franziska Ohsorge; Naotaka Sugawara
Abstract: Emerging market and developing economies have experienced recurrent episodes of rapid debt accumulation over the past fifty years. This paper examines the consequences of debt accumulation using a three-pronged approach: an event study of debt accumulation episodes in 100 emerging market and developing economies since 1970; a series of econometric models examining the linkages between debt and the probability of financial crises; and a set of case studies of rapid debt buildup that ended in crises. The paper reports four main results. First, episodes of debt accumulation are common, with more than 500 episodes occurring since 1970. Second, around half of these episodes were associated with financial crises which typically had worse economic outcomes than those without crises—after 8 years, output per capita was typically 6-10 percent lower and investment 15-22 percent weaker in crisis episodes. Third, a rapid buildup of debt, whether public or private, increased the likelihood of a financial crisis, as did a larger share of short-term external debt, higher debt service, and lower reserves cover. Fourth, countries that experienced financial crises frequently employed combinations of unsustainable fiscal, monetary and financial sector policies, and often suffered from structural and institutional weaknesses.
Keywords: financial crises; currency crises; debt crises; banking crises; public debt; private debt; external debt
JEL Codes: E32; E61; G01; H12; H61; H63
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| debt accumulation (H63) | output per capita (E23) |
| debt accumulation (H63) | investment (G31) |
| unsustainable fiscal, monetary, and financial sector policies (E63) | likelihood of financial crisis (G01) |
| structural and institutional weaknesses (O17) | likelihood of financial crisis (G01) |
| debt accumulation (H63) | financial crises (G01) |
| rapid buildup of debt (F65) | likelihood of financial crisis (G01) |
| larger share of short-term external debt (F65) | likelihood of financial crisis (G01) |
| higher debt service costs (F34) | likelihood of financial crisis (G01) |
| lower reserves cover (G33) | likelihood of financial crisis (G01) |