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Improving the Government Debt Market Quality by Determining the Optimal Structure of Government Debt Portfolio

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  • Ahmad Danu Prasetyo

    (Graduate School of Economics, Keio University)

  • Naoyuki Yoshino

    (Graduate School of Economics, Keio University)

Abstract

Recently, there is anupward tendency for switching external debts to domestic borrowings in many developing countries. While the domestic government bonds market development could reduce the sovereign exposure to currency risk, there are also potential risks faced by the government; namely: higher domestic interest rates, maturity mismatch, and crowding out effect to the private issuers. In this paper we develop a simple general equilibrium model to determine the optimal share for domestic and external government bonds in a sovereign country. We emphasize the important role of the demand side in forming the optimal structure of government bonds. We found that, at ceteris paribus, domestic government bond correlates negatively to external government bond at a constant rate. In addition, the back testing simulation results that the government has to reduce the level of its external debt. Through a dynamic recursive simulation, it is suggested that, in the long run, the Indonesian government must not hold any external debt while the Debt-to-GDP ratio shall be maintained at 16%-17% level.

Suggested Citation

  • Ahmad Danu Prasetyo & Naoyuki Yoshino, 2013. "Improving the Government Debt Market Quality by Determining the Optimal Structure of Government Debt Portfolio," Keio/Kyoto Joint Global COE Discussion Paper Series 2012-038, Keio/Kyoto Joint Global COE Program.
    • Handle: RePEc:kei:dpaper:2012-038
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    References listed on IDEAS

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    1. Guimaraes, Bernardo, 2007. "Optimal external debt and default," CEPR Discussion Papers 6035, C.E.P.R. Discussion Papers.
    2. M. Arnone & A. F. Presbitero, 2007. "External Debt Sustainability and Domestic Debt in Heavily Indebted Poor Countries," Rivista Internazionale di Scienze Sociali, Vita e Pensiero, Pubblicazioni dell'Universita' Cattolica del Sacro Cuore, vol. 115(2), pages 187-213.
    3. Akemann, Michael & Kanczuk, Fabio, 2005. "Sovereign default and the sustainability risk premium effect," Journal of Development Economics, Elsevier, vol. 76(1), pages 53-69, February.
    4. Adam, Klaus, 2011. "Government debt and optimal monetary and fiscal policy," European Economic Review, Elsevier, vol. 55(1), pages 57-74, January.
    5. Wang, Jianxin, 2007. "Foreign equity trading and emerging market volatility: Evidence from Indonesia and Thailand," Journal of Development Economics, Elsevier, vol. 84(2), pages 798-811, November.
    6. Claudio M. LOSER, 2004. "External Debt Sustainability: Guidelines For Low- And Middle-Income Countries," G-24 Discussion Papers 26, United Nations Conference on Trade and Development.
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