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The Liquidation of Government Debt

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  • Carmen M.

    ()
    (Peterson Institute for International Economics)

  • M. Belen Sbrancia

    ()
    (University of Maryland)

Abstract

Historically, periods of high indebtedness have been associated with a rising incidence of default or restructuring of public and private debts. A subtle type of debt restructuring takes the form of "financial repression." Financial repression includes directed lending to government by captive domestic audiences (such as pension funds), explicit or implicit caps on interest rates, regulation of cross-border capital movements, and (generally) a tighter connection between government and banks. In this paper, the authors describe some of the regulatory measures and policy actions that characterized the heyday of the financial repression era. In the heavily regulated financial markets of the Bretton Woods system, several restrictions facilitated a sharp and rapid reduction in public debt/GDP ratios from the late 1940s to the 1970s. Low nominal interest rates help reduce debt servicing costs while a high incidence of negative real interest rates liquidates or erodes the real value of government debt. Thus, financial repression is most successful in liquidating debts when accompanied by a steady dose of inflation. Inflation need not take market participants entirely by surprise and, in effect, it need not be very high (by historical standards). For the advanced economies in Reinhart and Sbrancia's sample, real interest rates were negative roughly half of the time during 1945–80. For the United States and the United Kingdom, their estimates of the annual liquidation of debt via negative real interest rates amounted on average to 3 to 4 percent of GDP a year. For Australia and Italy, which recorded higher inflation rates, the liquidation effect was larger (around 5 percent per annum).

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Bibliographic Info

Paper provided by Peterson Institute for International Economics in its series Working Paper Series with number WP11-10.

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Date of creation: Apr 2011
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Handle: RePEc:iie:wpaper:wp11-10

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Keywords: Public Debt; Financial Repression; Inflation; Interest Rates; Debt Liquidation; Default; Restructuring; Debt Reduction;

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References

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Blog mentions

As found by EconAcademics.org, the blog aggregator for Economics research:
  1. How public debt has been liquidated
    by Economic Logician in Economic Logic on 2012-01-17 15:07:00
  2. Lessons from the crisis
    by Alberto Bagnai in Goofynomics on 2013-12-27 22:36:00
  3. Lezioni dalla crisi: perché il Parlamento dovrebbe sfiduciare la Commissione
    by Alberto Bagnai in Goofynomics on 2013-12-28 18:32:00
  4. La loi de 1973 n'est pas la cause de l'endettement français ! Réponse à Etienne Chouard
    by contact@captaineconomics.fr (Le Captain') in Captain Economics on 2013-01-15 10:05:18
  5. Alimenter l’inflation pour réduire la dette publique ?
    by ? in D'un champ l'autre on 2014-06-14 17:29:00
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