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Boosting fiscal space: the roles of GDP-linked debt and longer maturities

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  • Jun Il Kim
  • Jonathan D Ostry

Abstract

SUMMARYThis paper assesses how issuance of GDP-linked debt and longer-maturity debt, in comparison to short-term debt, can help boost fiscal space for a given path of primary balances. By explicitly linking debt service to repayment capacity, GDP-linked debt helps to stabilize the debt ratio under growth uncertainty and reduces default risk through risk sharing with investors. Longer-maturity nominal debt also helps reduce default risk via state-contingent variation in the market price of debt. Reduced default risk in both cases lowers borrowing costs and results in higher maximum sustainable debt levels (and fiscal space given initial debt) for a given path of primary balances. Simulation results suggest sizable gains in fiscal space from the introduction of these instruments, though debtor moral hazard could militate against these benefits.

Suggested Citation

  • Jun Il Kim & Jonathan D Ostry, 2020. "Boosting fiscal space: the roles of GDP-linked debt and longer maturities," Economic Policy, CEPR, CESifo, Sciences Po;CES;MSH, vol. 35(104), pages 587-634.
    • Handle: RePEc:oup:ecpoli:v:35:y:2020:i:104:p:587-634.
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    File URL: http://hdl.handle.net/10.1093/epolic/eiaa024
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    Cited by:

    1. Julia Estefania‐Flores & Davide Furceri & Siddharth Kothari & Jonathan D. Ostry, 2023. "Worse than you think: Public debt forecast errors in advanced and developing economies," Journal of Forecasting, John Wiley & Sons, Ltd., vol. 42(3), pages 685-714, April.
    2. Kose, M. Ayhan & Kurlat, Sergio & Ohnsorge, Franziska & Sugawara, Naotaka, 2022. "A cross-country database of fiscal space," Journal of International Money and Finance, Elsevier, vol. 128(C).
    3. Emter, Lorenz & Herzberg, Valerie, 2018. "The rationale for GDP-linked bonds for the euro area," Economic Letters 10/EL/18, Central Bank of Ireland.
    4. Yongo Kwon, 2019. "Nominal GDP growth indexed bonds: Business Cycle and Welfare Effects within the Framework of New Keynesian DSGE model," National Institute of Economic and Social Research (NIESR) Discussion Papers 504, National Institute of Economic and Social Research.
    5. Kalamov, Zarko Y. & Zimmermann, Karl J., 2023. "GDP-linked bonds and economic growth," Journal of International Money and Finance, Elsevier, vol. 137(C).
    6. Ostry, Jonathan D. & Debrun, Xavier & Willems, Tim & Wyplosz, Charles, 2019. "Public Debt Sustainability," CEPR Discussion Papers 14010, C.E.P.R. Discussion Papers.
    7. Westerhout, Ed, 2022. "30 Years of Generational Accounting : A Critical Review," Discussion Paper 2022-021, Tilburg University, Center for Economic Research.
    8. Westerhout, Ed, 2022. "30 Years of Generational Accounting : A Critical Review," Other publications TiSEM 252a02fe-7374-499e-97c5-0, Tilburg University, School of Economics and Management.

    More about this item

    Keywords

    H62; H63;

    JEL classification:

    • H62 - Public Economics - - National Budget, Deficit, and Debt - - - Deficit; Surplus
    • H63 - Public Economics - - National Budget, Deficit, and Debt - - - Debt; Debt Management; Sovereign Debt

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