Debt Versus Development

When a government needs a lot of the available credit, investment and private spending will slow down, reducing economic growth.

Friday, May 17, 2013

From the Blog 'Pulso Bursátil' by Aldesa:

Earlier this year we witnessed in Costa Rica evidence of a phenomenon known as private sector squeezing. What is this?

As the government's deficit was financed entirely in the domestic market, interest rates in colones experienced a sharp rise not seen in years. When a government takes a lot of the available credit, investment and private spending will slow down, reducing economic growth. That was not the case in Costa Rica, as the debt level is still relatively low (51% of GDP in December 2012) and it is easy for financial institutions to acquire foreign loans.

But when does a county's debt begin to affect growth?

This question has been answered by the famous economists Carmen Reinhart and Kenneth Rogoff in a study that took into account data from 200 years ago. The researchers found that a country should worry about when its debt, as a percentage of GDP, when it reaches 90%, which is when, according to historical data, growth stops immediately.

This could have been just another economic study, however, it has resonated strongly in the eurozone and has been the hallmark of the defenders of the theory that the only way out of the crisis is through aggressive spending cuts to levels below the famous 90% mark. This behavior, pushed hard by Germany, has been one of the causes of the longest recession in history in Europe (six quarters), more serious than that of 2008. Unemployment in Spain is over 25% and in Germany, the well known European engine, is barely growing.

Recently, a replication of the study, conducted by two researchers from the University of Massachusetts, found that Rogoff and Reinhart made mistakes that affected their results. Among these errors is the exclusion of important cases (countries with high growth rates and debt). When making modifications they found that growth slows down, but the country is not necessarily in recession. Growth is moderate, on average, at a rate of 2.2%. Rogoff and his partner have agreed to study some of the errors and pointed out that the figures may be different, but the message of both studies is the same: high debt produces low growth.

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More on this topic

Negative Outlook for Costa Rica's Debt

January 2018

Fitch Ratings has changed the outlook from stable to negative, due to "diminished flexibility to finance its rising budget deficits and public debt burden, as well as persistent institutional gridlock preventing progress on reforms to correct the fiscal imbalance."


End of Macroeconomic Stability in Guatemala?

September 2014

Increased borrowing costs, a disincentive to foreign investment and distrust of economic performance, are part of the expected scenario if public debt growth is not controlled. reports that "... The draft budget for 2015 presented by the Ministry of Finance, amounting to $9.250 million (Q71 thousand 840.8 million), contemplates taking on new debt of about $2 billion (Q15 billion), of which $1.6 billion (Q12 thousand 334 million) came from bonds and loans. "

Central America's Fiscal Lens No. 6

November 2013

With the exception of Nicaragua, fiscal deficits are growing in the rest of the isthmus, along with public debt.

From the editorial of Central America's Fiscal Lens No. 6:

Central America faces an economic slowdown during 2013: on the isthmus, all countries project growth rates which are lower than last year.

Sustainability of Public Debt in Central America

June 2013

The Central American Institute for Fiscal Studies has concluded that only the public debts of Panama and Nicaragua, using official data, are sustainable in the medium term.

The main theme of the fifth edition of the 'Lente Fiscal Centroamericano' (Central American Fiscal Lens) is an analysis of debt sustainability in Central America, which depends greatly on interest payments on debt, economic growth, inflation, revaluation and management of the fiscal deficit.