The empirical dimension of overborrowing

Persistent current account deficits are common among low and middle income countries. We evaluate when this situation is dangerous. We find a critical value for the yearly current account deficit just before the crisis sets off and these findings give rise to an empirical measure of overborrowing: countries that have increased their external indebtedness by at least 26%-31% of the GDP in a time span of 3 to 5 years are more prone to be hit by a sudden stop. The typical crisis produces a consumption drop of 4% of GDP and a current account reversal of 2.5-4.5% of GDP. We also contribute to the structural characterization of sudden stops. Using a canonical model we are able to replicate these stylized facts. Moreover, we compute the corresponding ratio of net debt to GDP. This parameter is two or three times bigger than the benchmark value in the literature, a fact that improves the empirical performance of the model. From a policy perspective, our findings help to elaborate leading indicators to anticipate a sudden stop.