External Debt Dynamics in an Endogenous Growth Model

Economies experience periods of countercyclical borrowing in which the stock of external private debt is negatively correlated with output growth rates but also undergo periods of procyclical borrowing in which debt shows a positive correlation with growth.We find that a group of middle-income countries spend around one-half of the time in each of the two states. Weconstruct an open economy model with endogenous growth and stochastic productivity shocks to investigate this evidence, exhibiting a stochastic balanced growth path.We prove the existence of an invariant distribution for the debt-capital ratio and characterize its dynamical properties, stating the conditions under which the normalized debt stock is sustainable. In this economy, periods with high debt levels are consistent with decreasing and increasing debt patterns depending on the aggregate growth rate. The model is calibrated to Argentinian data, and the fit is surprisingly good.Our results also allow us to rationalize the variability of the correlation between the trade balance and output growth since the global approach used in the paper allows us to unravel the underlying dynamics of the stock of private debt.