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Multilateral indexed loans and debt sustainability

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  • Emanuele Bacchiocchi
  • Alessandro Missale

Abstract

We evaluate the benefits and costs of indexing multilateral loans to variables related to developing countries’ ability to pay; i.e. whether a reform of multilateral lending is feasible and economically justified. The analysis covers 40 International Development Association (IDA) countries from 1990 to 2010 and focuses on three types of debt: GDP-indexed loans; export-indexed loans; inflation-indexed loans denominated in local currency. The insurance that indexed debt might offer against macroeconomic shocks depends on the conditional covariances of GDP growth, real exchange-rate depreciation, and net exports that we estimate as the covariances of the forecast errors obtained from a vector autoregression (VAR) model. The analysis shows that both GDP-indexed loans and inflation-indexed local-currency loans would help to stabilize the debt ratio of the majority of IDA countries in our sample. However, the adverse policy incentives created by local currency debt tends to favour GDP-indexed debt. The cost of indexation would be small; the estimation of a capital asset pricing model (CAPM) suggests that loans indexed to GDP could be introduced at current interest rates since the estimated risk premium is less than 1 per cent. Any additional risk for multilateral lenders would be more than offset by a lower frequency of debt crises.

Suggested Citation

  • Emanuele Bacchiocchi & Alessandro Missale, 2015. "Multilateral indexed loans and debt sustainability," Oxford Review of Economic Policy, Oxford University Press, vol. 31(3-4), pages 305-329.
  • Handle: RePEc:oup:oxford:v:31:y:2015:i:3-4:p:305-329.
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    File URL: http://hdl.handle.net/10.1093/oxrep/grv028
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    Cited by:

    1. Jörg Mayer, 2013. "Towards More Balanced Growth Strategies In Developing Countries: Issues Related To Market Size, Trade Balances And Purchasing Power," UNCTAD Discussion Papers 214, United Nations Conference on Trade and Development.
    2. André Nassif & Carmem Feijó & Eliane Araújo, 2015. "Structural change and economic development: is Brazil catching up or falling behind?," Cambridge Journal of Economics, Oxford University Press, vol. 39(5), pages 1307-1332.
    3. Giovanni Andrea Cornia & Bruno Martorano, 2012. "Development Policies and Income Inequality in Selected Developing Regions, 1980–2010," UNCTAD Discussion Papers 210, United Nations Conference on Trade and Development.
    4. Giovanna Bua & Juan Pradelli & Andrea Filippo Presbitero, 2013. "Domestic public debt in low-income countries: trends and structure," Mo.Fi.R. Working Papers 85, Money and Finance Research group (Mo.Fi.R.) - Univ. Politecnica Marche - Dept. Economic and Social Sciences.
    5. Stephany Griffith-Jones, 2014. "A Brics Development Bank: A Dream Coming True?," UNCTAD Discussion Papers 215, United Nations Conference on Trade and Development.
    6. Andrew Cornford, 2014. "Macroprudential Regulation: Potential Implications For Rules For Cross-Border Banking," UNCTAD Discussion Papers 216, United Nations Conference on Trade and Development.
    7. Shigehisa Kasahara, 2013. "The Asian Developmental State And The Flying Geese Paradigm," UNCTAD Discussion Papers 213, United Nations Conference on Trade and Development.
    8. Filimonov, Vladimir & Bicchetti, David & Maystre, Nicolas & Sornette, Didier, 2014. "Quantification of the high level of endogeneity and of structural regime shifts in commodity markets," Journal of International Money and Finance, Elsevier, vol. 42(C), pages 174-192.

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