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Avoiding Debt Traps: Financial Backstops and Structural Reforms

  • Pier Carlo Padoan
  • Urban Sila
  • Paul van den Noord

In this paper we develop a simple analytical framework to analyze “good” and “bad equilibria” in public-debt and growth dynamics. The “bad equilibrium” is characterised by the simultaneous occurrence, and adverse feedbacks between, high and growing fiscal deficits and debt, high risk premia on sovereign debt, slumping economic activity and plummeting confidence, whereas a “good equilibrium” is characterized by stable growth and debt and low risk premia. We use this framework to identify – both theoretically and empirically – the good and bad equilibrium levels of debt and policies that can help a country caught in a bad equilibrium to recover. The analysis shows that despite some output loss in the short run fiscal consolidation can help countries escape from the bad equilibrium trap. More broadly, we find that a combination of financial backstops, structural reform and fiscal consolidation is most effective in helping countries getting onto a sustainable path. Éviter les pièges de l'endettement : Assistance financière et réformes structurelles Dans ce document, nous élaborons un cadre d'analyse simple pour étudier les situations de « bon équilibre » et de « mauvais équilibre » dans le contexte de la dynamique de la dette publique et de la croissance. Un « mauvais équilibre » se caractérise par la conjonction des éléments suivants, et l'existence d'effets de rétroaction négatifs entre eux : un déficit budgétaire et une dette volumineux et croissants, des primes de risque élevées sur la dette souveraine, une chute de l'activité économique et un effondrement de la confiance. Inversement, un « bon équilibre » se caractérise par une croissance et une dette stables, conjuguées à des primes de risque faibles. Nous utilisons ce cadre pour cerner – tant sur le plan théorique qu'empirique – les niveaux d'endettement correspondant à ces situations de bon et de mauvais équilibre, ainsi que les mesures qui peuvent aider un pays ayant basculé dans un mauvais équilibre à redresser la situation. Nos analyses montrent que, malgré des pertes de production à court terme, l'assainissement des finances publiques peut aider les pays pris au piège d'une situation de mauvais équilibre à en sortir. De manière plus générale, nous parvenons à la conclusion que des mécanismes d'assistance financière conjugués à des réformes structurelles et à des mesures d'assainissement budgétaire constituent l'approche la plus efficace pour aider les pays à retrouver une trajectoire viable.

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Paper provided by OECD Publishing in its series OECD Economics Department Working Papers with number 976.

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Date of creation: 29 Jun 2012
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Handle: RePEc:oec:ecoaaa:976-en
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  1. Reinhart, Carmen M. & Rogoff, Kenneth, 2010. "Growth in a Time of Debt," CEPR Discussion Papers 7661, C.E.P.R. Discussion Papers.
  2. Bruce E. Hansen, 1997. "Threshold effects in non-dynamic panels: Estimation, testing and inference," Boston College Working Papers in Economics 365, Boston College Department of Economics.
  3. Reinhart, Carmen M. & Rogoff, Kenneth S., 2009. "The Aftermath of Financial Crises," Scholarly Articles 11129155, Harvard University Department of Economics.
  4. Thomas Laubach, 2009. "New Evidence on the Interest Rate Effects of Budget Deficits and Debt," Journal of the European Economic Association, MIT Press, vol. 7(4), pages 858-885, 06.
  5. Fabian Valencia & Luc Laeven, 2008. "Systemic Banking Crises; A New Database," IMF Working Papers 08/224, International Monetary Fund.
  6. Matteo Cacciatore & Romain Duval & Giuseppe Fiori, 2012. "Short-Term Gain or Pain? A DSGE Model-Based Analysis of the Short-Term Effects of Structural Reforms in Labour and Product Markets," OECD Economics Department Working Papers 948, OECD Publishing.
  7. Romain Bouis & Romain Duval, 2011. "Raising Potential Growth After the Crisis: A Quantitative Assessment of the Potential Gains from Various Structural Reforms in the OECD Area and Beyond," OECD Economics Department Working Papers 835, OECD Publishing.
  8. Romain Bouis & Romain Duval & Fabrice Murtin, 2011. "The Policy and Institutional Drivers of Economic Growth Across OECD and Non-OECD Economies: New Evidence from Growth Regressions," OECD Economics Department Working Papers 843, OECD Publishing.
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