Deuda publica, solvencia fiscal e incertidumbre macroeconomica en America Latina: los casos de Brasil, Colombia, Costa Rica y Mexico.

Summary

---

Report

See the full content of this document

Extract

---

Deuda publica, solvencia fiscal e incertidumbre macroeconomica en America Latina: los casos de Brasil, Colombia, Costa Rica y Mexico.

Public Debt, Fiscal Solvency and Macroeconomic Uncertainty in Latin America

The Cases of Brazil, Colombia, Costa Rica and Mexico

Introduction

Comparing recent figures with those at the beginning of the 1990s reveals Comparing that public debt-to-GDP ratios have been rising steadily in Latin America during the last 15 years (see figure 1). In particular, the Colombian and Brazilian debt ratios increased by 15.7 and 11.5 percentage points; in Mexico, before a recent decrease, the debt ratio had risen from 41 per cent in 1990 to 50 per cent in 2003, and the Costa Rican public debt has been fluctuating around 50 percentage points of GDP for more than 10 years. Given that growing public debt has traditionally been an indicator of financial weakness and vulnerability to economic crisis in the region, there is concern for assessing whether the observed high levels of debt are in line with the solvency of the public sector, or should be taken as a warning signal that requires policy intervention.

The goal of this paper is to assess the consistency of public debt ratios in Brazil, Colombia, Costa Rica and Mexico, with the conditions required to maintain fiscal solvency. The debt dynamics in these countries are also compared with the recent polar experiences in Chile and Argentina, two Latin American countries that had approximately the same debt-to-GDP ratio at the beginning of the 1990s, and that ended in opposite extremes by the mid 2000s (see figure 1b). Whereas the Chilean stock of public debt fell down to zero, the Argentine debt ratio leapt above 100 per cent before the country defaulted on its debt in 2001.

The fiscal solvency assessment conducted in this paper is based on the framework proposed by Mendoza and Oviedo (2007). In particular, this paper applies a variant of their model that abstracts from the behavior of the private sector to focus on a simplified version of the government's problem, characterized by exogenous government-expenditure rules. This methodology produces estimates of the short- and long-run dynamics of public debt ratios, in a setup in which public revenues are subject to random shocks and the government aims to maintain its outlays relatively smooth. The government is handicapped in its efforts to play this insurer's role, because it can only issue non-state contingent debt.

Mendoza and Oviedo (2007) show that in this environment with incomplete contingent-claims markets, a government averse to a collapse in its public outlays and facing revenue uncertainty will impose on itself a "natural debt limit" (NDL), determined by the growth-adjusted annuity value of the primary balance in a state of "fiscal crisis". The state of fiscal crisis is the state at which a country arrives after experiencing a sufficiently long sequence of adverse shocks to public revenues on one side, and after adjusting the fiscal outlays to a minimum admissible level on the other.

An important implication of the NDL is that it allows the government to offer its creditors a credible commitment to remain able to repay "almost surely" at all times, even during fiscal crises. This commitment is not an ad hoc assumption, but an implication of the assumptions that a) the government is averse to suffering a collapse of its outlays, b) public revenues are stochastic, and c) markets of contingent claims are incomplete. However, the commitment is in terms of an "ability-to-pay criterion", and as such it does not rule out default scenarios that may result from "willingness-to-pay" or strategic reasons.

[FIGURE 1 OMITTED]

The NDL sets the upper bound for public debt, but is not, in general, the same as the "sustainable" or equilibrium level of debt. The model does not require public debt to remain constant at the level of the NDL. Indeed, in Mendoza and Oviedo's (2007) model, while the government's NDL is equal to 132 per cent of GDP, the long-run average of the debt ratio is equal to 52 per cent of GDP. In the short-run, the dynamics of the distribution of public debt are driven by the government budget constraint, and depends on the initial debt and revenue conditions, the probabilistic process driving revenues, and the policy rules governing public outlays.

Under the limiting assumption made here that the government keeps an invariant level of non-interest fiscal outlays, except when it faces the state of fiscal crisis, in the long run the government can end up paying off all its debt, or hitting the debt limit. Which long-run equilibrium will be reached depends on the alternative sequences of realizations of public revenues, and the in...

See the full content of this document

---