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Assessing debt sustainability in emerging market economies using stochastic simulation methods

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  • Hostland, Doug
  • Karam, Philippe

Abstract

The authors apply stochastic simulation methods to assess debt sustainability in emerging market economies and provide probability measures for projections of the external and public debt burden over the medium term. The vulnerability of public debt to adverse shocks is determined by a number of interrelated factors, including the volatility of output, financial fragility, the endogenous response of the risk premium, and sudden stops in private capital flows. The vulnerability of external debt is sensitive to the determination of the exchange rate and to the pricing of traded goods. The authors show that fiscal policy can act in a preemptive manner to prevent the debt burden from rising significantly over the medium term. This requires flexibility in fiscal planning, which many emerging market economies lack. Emerging market economies therefore face a difficult tradeoff between managing the risk of a debt crisis and pursuing other important fiscal policy objectives.

Suggested Citation

  • Hostland, Doug & Karam, Philippe, 2006. "Assessing debt sustainability in emerging market economies using stochastic simulation methods," Policy Research Working Paper Series 3821, The World Bank.
  • Handle: RePEc:wbk:wbrwps:3821
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    References listed on IDEAS

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    Cited by:

    1. Küçük, Ugur N., 2009. "Emerging Market Local Currency Bond Market, Too Risky to Invest?," MPRA Paper 21878, University Library of Munich, Germany.
    2. Paloma Acevedo & Enrique Alberola & Carmen Broto, 2007. "Local debt expansion... vulnerability reduction? An assessment for six crises-prone countries," Working Papers 0733, Banco de España;Working Papers Homepage.
    3. Jha, Shikha & Quising, Pilipinas & Camingue, Shiela, 2009. "Macroeconomic Uncertainties, Oil Subsidies, and Fiscal Sustainability in Asia," ADB Economics Working Paper Series 150, Asian Development Bank.
    4. Yýlmaz Akyüz, "undated". "Global Rules and Markets: Constraints over Policy Autonomy in Developing Countries," Working Papers 2007/5, Turkish Economic Association.
    5. Matvieieva Iuliia M., 2014. "Information Technology of Study of the State Foreign Debt in Developing Countries," Business Inform, RESEARCH CENTRE FOR INDUSTRIAL DEVELOPMENT PROBLEMS of NAS (KHARKIV, UKRAINE), Kharkiv National University of Economics, issue 3, pages 136-142.
    6. Jafri, Sabina Khurram, 2009. "External Debt Sustainability Analysis for the Medium Term: A Case Study," Economia Internazionale / International Economics, Camera di Commercio Industria Artigianato Agricoltura di Genova, vol. 62(3), pages 363-382.
    7. Aleksandar Zdravkovic & Aleksandra Bradic-Martinovic, 2012. "Public Debt Sustainability in Western Balkan Countries," Book Chapters, Institute of Economic Sciences.
    8. Philippe D Karam & A. R. Pagan, 2008. "A Small Structural Monetary Policy Model for Small Open Economies with Debt Accumulation," IMF Working Papers 08/64, International Monetary Fund.
    9. Ghazanchyan, Manuk, 2014. "Unraveling the Monetary Policy Transmission Mechanism in Sri Lanka," MPRA Paper 59444, University Library of Munich, Germany.
    10. Alexis CRUZ-RODRÍGUEZ, 2014. "Assessing fiscal sustainability in some selected countries," Theoretical and Applied Economics, Asociatia Generala a Economistilor din Romania - AGER, vol. 0(6(595)), pages 7-22, June.
    11. Charles Wyplosz, 2011. "Debt Sustainability Assessment: Mission Impossible," Review of Economics and Institutions, Università di Perugia, vol. 2(3).
    12. Carrera, Claudia Martínez & Vergara, Rodrigo, 2012. "Fiscal Sustainability: The Impact of Real Exchange Rate Shocks on Debt Valuation, Interest Rates and GDP Growth," World Development, Elsevier, vol. 40(9), pages 1762-1783.
    13. Akyüz, Yilmaz., 2008. "Global rules and markets : constraints over policy autonomy in developing countries," ILO Working Papers 994204053402676, International Labour Organization.
    14. Gabriel Di Bella, 2008. "A Stochastic Framework for Public Debt Sustainability Analysis," IMF Working Papers 08/58, International Monetary Fund.
    15. Charles Wyplosz, 2007. "Debt Sustainability Assessment: The IMF Approach and Alternatives," IHEID Working Papers 03-2007, Economics Section, The Graduate Institute of International Studies.
    16. Bedford, Paul & Irwin, Gregor, 2008. "Financial Stability Paper No 4: Reforming the IMF's Lending-into-Arrears Framework," Bank of England Financial Stability Papers 4, Bank of England.
    17. Evan Tanner & Issouf Samake, 2008. "Probabilistic Sustainability of Public Debt: A Vector Autoregression Approach for Brazil, Mexico, and Turkey," IMF Staff Papers, Palgrave Macmillan, vol. 55(1), pages 149-182, April.
    18. Philippe D Karam & Douglas Hostland, 2006. "Specification of a Stochastic Simulation Model for Assessing Debt Sustainability in Emerging Market Economies," IMF Working Papers 06/268, International Monetary Fund.
    19. Paret, Anne-Charlotte, 2017. "Debt sustainability in emerging market countries: Some policy guidelines from a fan-chart approach," Economic Modelling, Elsevier, vol. 63(C), pages 26-45.
    20. Sabina Khurram Jafri, 2008. "External Debt Sustainability Analysis for Pakistan: Outlook for the Medium Term," SBP Working Paper Series 27, State Bank of Pakistan, Research Department.
    21. repec:ilo:ilowps:420405 is not listed on IDEAS
    22. Muhanji, Stella & Ojah, Kalu, 2011. "External shocks and persistence of external debt in open vulnerable economies: The case of Africa," Economic Modelling, Elsevier, vol. 28(4), pages 1615-1628, July.
    23. E. H. Gardner & Julian Di Giovanni, 2008. "A Simple Stochastic Approach to Debt Sustainability Applied to Lebanon," IMF Working Papers 08/97, International Monetary Fund.
    24. Muhanji, Stella & Malikane, Christopher & Ojah, Kalu, 2013. "Price and liquidity puzzles of a monetary shock: Evidence from indebted African economies," Economic Modelling, Elsevier, vol. 33(C), pages 620-630.
    25. Paloma Acevedo & Enrique Alberola & Carmen Broto, 2008. "Local debt expansion and vulnerability reduction: an assessment for six crisis-prone countries," BIS Papers chapters,in: Bank for International Settlements (ed.), New financing trends in Latin America: a bumpy road towards stability, volume 36, pages 88-109 Bank for International Settlements.

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    Keywords

    Economic Theory&Research; Strategic Debt Management; Settlement of Investment Disputes; Macroeconomic Management; External Debt;

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