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Multilateral Indexed Loans And Debt Sustainability

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  • Alessandro Missale
  • Emanuele Bacchiocchi

Abstract

We study the potential for introducing indexation on loans provided by multilateral lenders to low income countries (LICs), and thus whether a reform of their lending policy is feasible and economically justified. To this end, we provide new evidence for a group of 40 international development association (IDA) countries over the 1990–2010 period for three types of debt: (i) foreign currency loans indexed to real gross domestic product (GDP); (ii) foreign currency loans indexed to the dollar value of exports; and (iii) inflation-indexed loans denominated in local currency. We find that both GDP indexation and domestic currency lending are feasible policies, since individual country risk could be easily diversified in a portfolio of loans to IDA countries. The estimation of capital asset pricing model (CAPM) beta coefficients suggests that, while the risk of export-indexed loans is difficult to hedge, loans indexed to GDP or denominated in local currencies could be introduced at current interest rates; their risk premium is no greater than one per cent. The insurance that indexed debt might offer to LICs against macroeconomic shocks threatening their debt sustainability 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 VAR model. The analysis shows that GDP-indexed or export-indexed loans would help to stabilize the debt ratio of the majority of IDA countries in our sample, but a larger number of them would benefit from a re-denomination of loans in local currency. A main lesson from our analysis is that a ‘one size fits all solution’ does not exist to the problem of stabilizing the debt ratio. This suggests that a reform of multilateral lending that is desirable to all LICs would be difficult to implement.

Suggested Citation

  • Alessandro Missale & Emanuele Bacchiocchi, 2012. "Multilateral Indexed Loans And Debt Sustainability," UNCTAD Discussion Papers 209, United Nations Conference on Trade and Development.
  • Handle: RePEc:unc:dispap:209
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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. 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.
    3. 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.
    4. Andrew Cornford, 2014. "Macroprudential Regulation: Potential Implications For Rules For Cross-Border Banking," UNCTAD Discussion Papers 216, United Nations Conference on Trade and Development.
    5. 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.
    6. Shigehisa Kasahara, 2013. "The Asian Developmental State And The Flying Geese Paradigm," UNCTAD Discussion Papers 213, United Nations Conference on Trade and Development.
    7. Stephany Griffith-Jones, 2014. "A Brics Development Bank: A Dream Coming True?," UNCTAD Discussion Papers 215, 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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