Economic Growth After Debt Surges

Debt levels, both private and public, were already at record highs before the Covid-19 pandemic, and surged further in 2020. The high indebteness raises concerns whether it will undermine future growth prospects. This paper contributes to the ongoing debate by examining what happens to economic growth after debt surges. We apply a local projection method to a new dataset of debt surges in 190 countries between 1970 and 2020. Our results show that the relationship between debt surges and economic growth are complex. Debt surges tend to be followed by weaker economic growth and persistently lower output. However, this negative relationship does not always hold. Surges in public debt tend to have the most negative impact on future growth prospects. This is particularly the case if the economy is already operating with a large positive output gap. Debt surges also tend to be followed by weaker economic growth if the initial debt levels are high, especially for private debt surges. Our results also show how debt surges impact future growth. Public debt surges are associated with especially weaker private and public investment, although both private and public consumption are also negatively affected. Surges in corporate debt are followed by lower private and public investment.

Many countries find themselves with elevated debt levels, increased debt vulnerabilities, and tight financing conditions, while also facing increased spending needs for development and transition to a greener economy. This paper aims to place the current debt landscape in a historical context and investigate the drivers of debt surges, to what degree they result in a crisis as well as examine post-surge debt trajectories and under what conditions debt follows a non-declining path. We find that fiscal policy and stock-flow adjustments play important roles in debt dynamics with the valuation effects arising from currency depreciation explaining more than half of stock flow adjustments in LICs. Debt surges are estimated to result in a financial crisis with a probability of 11–20 percent and spending-driven fiscal expansions during debt surges tend to result in a high probability of non-declining debt path.

The global economy has experienced four waves of rapid debt accumulation over the past 50 years. The first three debt waves ended with financial crises in many emerging market and developing economies. During the current wave, which started in 2010, the increase in debt in these economies has already been larger, faster, and broader-based than in the previous three waves. Current low interest rates mitigate some of the risks associated with high debt. However, emerging market and developing economies are also confronted by weak growth prospects, mounting vulnerabilities, and elevated global risks. A menu of policy options is available to reduce the likelihood that the current debt wave will end in crisis and, if crises do take place, will alleviate their impact.

This paper explores the impact of high public debt on long-run economic growth. The analysis, based on a panel of advanced and emerging economies over almost four decades, takes into account a broad range of determinants of growth as well as various estimation issues including reverse causality and endogeneity. In addition, threshold effects, nonlinearities, and differences between advanced and emerging market economies are examined. The empirical results suggest an inverse relationship between initial debt and subsequent growth, controlling for other determinants of growth: on average, a 10 percentage point increase in the initial debt-to-GDP ratio is associated with a slowdown in annual real per capita GDP growth of around 0.2 percentage points per year, with the impact being somewhat smaller in advanced economies. There is some evidence of nonlinearity with higher levels of initial debt having a proportionately larger negative effect on subsequent growth. Analysis of the components of growth suggests that the adverse effect largely reflects a slowdown in labor productivity growth mainly due to reduced investment and slower growth of capital stock.

We revisit the empirical relationship between private/public debt and output, and build a model that reproduces it. In the model, the government provides financial assistance to credit-constrained agents to mitigate deleveraging. As we observe in the data, surges in private debt are potentially more damaging for the economy than surges in public debt. The model suggests two policy implications. First, capping leverage leads to milder recessions, but also implies more muted expansions. Second, with fiscal buffers, financial assistance to credit-constrained agents helps avoid stagnation. The growth returns from intervention decline as the government approaches the fiscal limit.

This paper investigates the short-term effects of fiscal consolidation on economic activity in OECD economies. We examine the historical record, including Budget Speeches and IMFdocuments, to identify changes in fiscal policy motivated by a desire to reduce the budget deficit and not by responding to prospective economic conditions. Using this new dataset, our estimates suggest fiscal consolidation has contractionary effects on private domestic demand and GDP. By contrast, estimates based on conventional measures of the fiscal policy stance used in the literature support the expansionary fiscal contractions hypothesis but appear to be biased toward overstating expansionary effects.

High public debt often produces the drama of default and restructuring. But debt is also reduced through financial repression, a tax on bondholders and savers via negative or belowmarket real interest rates. After WWII, capital controls and regulatory restrictions created a captive audience for government debt, limiting tax-base erosion. Financial repression is most successful in liquidating debt when accompanied by inflation. For the advanced economies, real interest rates were negative 1⁄2 of the time during 1945–1980. Average annual interest expense savings for a 12—country sample range from about 1 to 5 percent of GDP for the full 1945–1980 period. We suggest that, once again, financial repression may be part of the toolkit deployed to cope with the most recent surge in public debt in advanced economies.

What can prosperity possibly mean in a world of environmental and social limits? The publication of Prosperity without Growth was a landmark in the sustainability debate. Tim Jackson’s piercing challenge to conventional economics openly questioned the most highly prized goal of politicians and economists alike: the continued pursuit of exponential economic growth. Its findings provoked controversy, inspired debate and led to a new wave of research building on its arguments and conclusions. This substantially revised and re-written edition updates those arguments and considerably expands upon them. Jackson demonstrates that building a ‘post-growth’ economy is a precise, definable and meaningful task. Starting from clear first principles, he sets out the dimensions of that task: the nature of enterprise; the quality of our working lives; the structure of investment; and the role of the money supply. He shows how the economy of tomorrow may be transformed in ways that protect employment, facilitate social investment, reduce inequality and deliver both ecological and financial stability. Seven years after it was first published, Prosperity without Growth is no longer a radical narrative whispered by a marginal fringe, but an essential vision of social progress in a post-crisis world. Fulfilling that vision is simply the most urgent task of our times.