## 2.1  Debt Buildups Amplify Recessions in Both EMEs and AEs

## Source details

**Canonical URL:** [2.1  Debt Buildups Amplify Recessions in Both EMEs and AEs](https://www.imf.org/-/media/files/publications/wp/2017/wp1761.pdf)

## Other formats

- [Markdown version](/-/media/files/publications/wp/2017/wp1761.pdf.md)
- [Structured JSON version](/-/media/files/publications/wp/2017/wp1761.pdf.json)

---

### Context and motivation
- Recent years saw significant private and public debt accumulation in emerging market economies (EMEs), with private debt increasing before and accelerating after the 2007-09 global financial crisis and public debt rising due to softer growth and worsening fiscal balances.
- Advanced economies (AEs) differ: private deleveraging has started post-crisis while public debt surged in some countries; AEs are past pre-crisis private debt buildups while many EMEs show no clear slowdown in debt accumulation.
- Existing literature links rapid private debt buildups to financial crises and deeper downturns; this section assesses whether similar patterns hold for EMEs and how public debt interacts with private debt.

### Methodology and empirical specification
- Data:
  - IFS data on bank credit to the private sector (proxy for private debt).
  - IMF data on public debt.
  - Business cycle peaks identified with the Bry and Boschan (1971) algorithm.
- Empirical framework:
  - Local Projection Method (LPM) following Jordà (2005) and applied as in Jordà, Schularick and Taylor (2016).
  - Baseline local projection model:
    - ∆h yi,p+h / yi,p = θh + βPRh (∆̄5 PRYi,p) + βPUh (∆̄5 PUYi,p) + βPRPUh (∆̄5 PRYi,p ∆̄5 PUYi,p) + Σl=0^L γh,l Yi,p−l + αhi + ui,p+h , for h = 1,...,5.
  - Variable measurement:
    - ∆̄5 PRY and ∆̄5 PUY measure average annual change in private and public debt ratios over the five years preceding a downturn; all variables in real per-capita terms.
  - Controls include annual growth rates of GDP, private debt, public debt, and government expenditures.
  - Lags: L = 2 (three lags used in baseline specification).
  - Standard errors: clustered at country-level.
- Interpretation conventions:
  - RHS variables are demeaned so θh measures GDP path in “average-debt” recessions.
  - βPRh and βPUh measure deviations when entering recession with larger-than-average private or public debt accumulation.
  - βPRPUh measures the marginal additional effect when both debt buildups occur simultaneously.
  - Illustrative simulations use debt buildups amounting to five percentage points (same 5 percentage points across comparisons).

### Key empirical findings
- Sample coverage: estimations use information from a set of more than 300 recessions in 80 countries.
- Baseline recession dynamics:
  - Advanced Economies (AEs):
    - average recession lasts for one year;
    - -2 percent peak-to-trough in real per capita GDP;
    - recovery by year 3; year 5: +5.5 percent relative to peak.
  - Emerging Market Economies (EMEs):
    - recession reaches -3 percent peak-to-trough;
    - recovery completes at year 4; year 5: +2.2 percent relative to peak.
- Effects of pre-crisis private debt buildups:
  - Entering recession after a rapid private debt buildup: AEs recover at year 4; EMEs have not completed recovery by year 5.
- Effects of pre-crisis public debt buildups:
  - Public debt buildups generate similar asymmetric effects; in EMEs the GDP drop can remain below prerecession level five years after start.
- Joint private and public debt buildups:
  - When both buildups are present, prospects deteriorate further; AEs recover around year 5, while GDP remains persistently lower than pre-crisis levels in EMEs.
- Overall conclusion: rapid debt accumulation prior to recessions, both private and public, predicts deeper recessions and slower recoveries in both AEs and EMEs; the interaction is particularly strong in EMEs.

### Interpretation: Why effects are stronger in EMEs
- Structural vulnerabilities in EMEs relative to AEs:
  - Greater exposure to external-currency borrowing (“original sin”), increasing vulnerability to sudden stops.
  - Less developed financial systems, potentially making credit booms more likely to trigger financial crises.
  - Limited capacity to deploy effective countercyclical monetary and fiscal policies during crises.
- In EMEs, higher pre-crisis private and public debt buildups are associated with lower available external financing when a crisis hits, which restricts government capacity to support the economy and amplifies the downturn.
- By contrast, AEs are able to run counter-cyclical fiscal policy during financial crises; in AEs debt constrains the private sector primarily, whereas in EMEs excessive private and public debt also constrain the public sector.

### Quantitative parameters and specifics preserved from the analysis
- Window for measuring pre-crisis debt growth: five years (∆̄5 PRY, ∆̄5 PUY); similar results using four-year or six-year windows noted.
- Illustrative debt buildup simulated: 5 percentage points.
- Local projection horizons: h = 1,...,5 (years after peak).
- Lags used in baseline specification: L = 2.
- Recession statistics explicitly reported:
  - AE average recession: 1 year duration; -2 percent peak-to-trough in real per capita GDP; year 5: +5.5 percent relative to peak.
  - EME average recession: -3 percent peak-to-trough; recovery completed at year 4; year 5: +2.2 percent relative to peak.
- Sample size: more than 300 recessions in 80 countries.

### Banking crisis prediction and amplification
- Logistic model for banking crisis probability:
  - ln P(B_{i,t}=1) / (1−P(B_{i,t}=1)) = α + α_i + β_PR(∆̄5 PRY_{i,t−1}) + β_PU(∆̄5 PUY_{i,t−1}) + u_{i,t}.
  - Crisis episode sources: Reinhart and Rogoff (2009), Jordà, Schularick and Taylor (2016), and Laeven and Valencia (2013); merging rule uses any source reporting a crisis, earliest year if within one year.
- Key quantitative findings on crisis prediction:
  - Private debt buildups:
    - For every percentage point increase in the average annual change of private debt-to-GDP, the predicted probability of a banking crisis goes up by about 0.35 – 0.72 percentage points.
    - Effect estimated with high precision: passes the 3-standard deviations threshold.
  - Public debt buildups:
    - Effect associated to an increase in the average annual change of public debt-to-GDP is slightly negative, around -0.25 – -0.04 percentage points.
    - This negative effect is significantly different from zero at the one-standard deviation level.
  - Interpretation notes:
    - Negative coefficient on public debt may reflect public debt rising sharply after crises (timing bias) or pre-emptive recapitalizations that raise public debt while reducing crisis probability.
- Amplification in financial vs non-financial recessions:
  - Modified local projection interacts parameters with financial peak indicator F_{i,p}; classification counts a peak as financial if a banking crisis erupts at the peak or start of recession (robust to allowing crisis up to two years before).
  - Financial recessions are considerably more painful than non-financial recessions in both EMEs and AEs.
  - Private debt buildups:
    - More toxic in financial crises; play prominent role in slowing recovery.
    - Do not have significant effect in amplifying GDP fall during non-financial recessions.
  - Public debt buildups:
    - Significantly exacerbate non-financial recessions via post-crisis fiscal constraints.
  - Combined private and public buildups:
    - Entering a banking crisis recession with rapid debt accumulations in both sectors further deteriorates performance and slows recovery; marginal effects especially strong in EMEs.
- Quantified macroeconomic amplification:
  - Three years after the recession starts, the drop in GDP for a country entering a financial recession with both debt buildups is:
    - -16 percent in EMEs
    - -8 percent in AEs

### Limited fiscal support in EMEs and transmission mechanisms
- Fiscal pro-cyclicality in EMEs: fiscal policy often pro-cyclical in EMEs; monetary policy may be constrained or limited in effectiveness.
- Evolution of public debt during recessions:
  - Recessions typically associated with increases in public debt, larger during banking crises.
  - Increase in public debt is more marked in AEs than in EMEs, both for banking crises and for non-financial recessions.
  - If a country enters a recession with higher private debt buildups, the increase in public debt tends to be larger—suggesting relocation of debt from private to public balance sheets, especially in financial recessions.
  - Caveat: rising public debt during a recession does not by itself identify discretionary fiscal stance.
- Real per-capita government spending as fiscal-stance indicator:
  - Used as best available indicator in EMEs given CAPB and output-gap limitations.
  - Findings:
    - In AEs, non-financial and financial recessions are typically associated with relatively large increases in real government spending.
    - In EMEs, dynamics are more muted.
    - Large buildups of both private and public debt are associated in EMEs with significant negative growth of real government spending after the crisis starts.
    - During financial crises with public and private debt overhangs, fiscal policy reacts asymmetrically: AEs increase government spending, EMEs decrease it pro-cyclically.
- Financing constraints and IMF credit:
  - IMF credit (net outstanding debt toward the IMF, including normal and exceptional financing under all IMF facilities) used to measure official emergency credit use.
  - LHS scaling: ∆h (v i,p+h / pub i,p) where pub i,p is pre-downturn level of public debt.
  - Empirical findings:
    - Use of IMF credit, scaled by pre-downturn public debt, is higher in EMEs, especially during financial recessions.
    - IMF credit is particularly high in financial recessions with high private and public debt buildups.
    - Interpretation: market borrowing could not fully meet financing needs; resort to the IMF often the only way to secure financing, limiting ability to run counter-cyclical fiscal policy and forcing spending restraint.
  - Note: IMF credit use does not imply IMF programs caused spending cuts; counterfactual of no available financing would likely have led to even larger spending reductions; evidence shows IMF-supported programs have a neutral effect on education and health spending once other factors are controlled for (Nozaki, Clements and Gupta, 2011).
- Investment, credit contraction, and amplification:
  - Gross fixed capital formation used as proxy for investment (includes private and public investment; mainly driven by private investment).
  - Findings:
    - Countries with the most rapid debt accumulations before recessions experience the highest reductions in gross fixed capital formation once the crisis starts.
    - Effect particularly significant after large private debt accumulations.
    - Confirms GDP declines after pre-crisis debt buildups are accompanied by severe declines in investment, particularly in EMEs.
    - Comparison with AEs: investment falls considerably in both, but EMEs’ fiscal response tends to be pro-cyclical or less supportive than in AEs.

### Conclusions and policy implications
- Main empirical conclusions:
  - Debt buildups amplify recessions in both EMEs and AEs: larger-than-average private and public debt accumulations prior to a recession deepen the extent and extend the duration of the GDP drop in the following five years.
  - Effects particularly strong in EMEs, even restricting to recessions following banking crises.
  - Fiscal policy heterogeneity: AEs tend to increase government expenditures during recessions (supporting demand), while EMEs face tighter borrowing constraints that reduce ability to use fiscal policy for stabilization—especially when entering recessions with larger-than-average private and public debt buildups.
- Policy implications emphasized:
  - Importance of accumulating debt at a moderate and sustainable pace.
  - Need to build fiscal buffers in normal times to avoid simultaneous retrenchment of private and public sector borrowing in crises.
  - Graduation from debt intolerance requires institutional reforms and renewed creditworthiness and “may take decades or even centuries” (Reinhart, Rogoff and Savastano, 2003).
  - Even with accumulated foreign exchange reserves, it is difficult to foresee these being sufficient to shield EMEs from significant capital outflows and sudden stops in a crisis.
- Call for further research to reach a comprehensive view on causes and implications of recessions and financial crises in emerging economies.

### Data coverage and selected numeric details
- Private debt proxy: IFS data on banks’ claims on the private sector (line 22d in IFS) for 36 AEs and 77 EMEs, starting as early as 1950 and, on average, from 1964.
- BIS coverage comparison: 27 AEs and 14 EMEs.
- Loans accounted, on average, for 98 percent of bank claims in countries reporting to the IFS Standardized Reporting Forms in 2015.
- Public debt data: updated IMF historical debt dataset (Abbas et al., 2010) with April 2015 WEO updates; data cover 37 AEs and 87 EMEs, starting, on average, in 1940.
- The analysis uses data spanning the past sixty years.
- Figure 2 reported AE θh values by year: -2.05, -1.49, 0.82, 2.78, 5.56 with robust standard errors (0.06), (0.11), (0.13), (0.17), (0.22).
- Figure 2 reported EME θh values by year: -2.82, -2.14, -0.74, 0.75, 2.22 with robust standard errors (0.07), (0.14), (0.17), (0.27), (0.32).
- Table 1 marginal effects (private debt βPR): 0.35, 0.35, 0.39, 0.72 with standard errors (0.09), (0.09), (0.22), (0.19).
- Table A1 summary statistics for debt variables used in local projection models:
  - Peaks: 125125152152
  - Mean: 0.82 -0.71 0.30 -0.91
  - Std. Dev: 4.25 3.54 2.45 5.29
  - 95%: 7.95 3.27 4.11 8.18
  - 99%: 15.61 6.07 7.23 14.94

*Source: IMF working paper section titled "2.1  Debt Buildups Amplify Recessions in Both EMEs and AEs" from wp1761.*

### 2.1  Debt Buildups Amplify Recessions in Both EMEs and AEs  . . . . . . .    9

### 2.1  Debt Buildups Amplify Recessions in Both EMEs and AEs  . . . . . . .    9

### Context and motivation
- Recent years have seen significant private and public debt accumulation in emerging market economies (EMEs), with private debt increasing before and accelerating after the 2007-09 global financial crisis and public debt rising due to softer growth and worsening fiscal balances.
- Advanced economies (AEs) differ: private deleveraging has started post-crisis while public debt surged in some countries; AEs are past pre-crisis private debt buildups while many EMEs show no clear slowdown in debt accumulation.
- Existing literature (e.g., Mian and Sufi 2010; Jordà, Schularick and Taylor 2013) links rapid private debt buildups to financial crises and deeper downturns, but most empirical evidence focuses on AEs; this section assesses whether similar patterns hold for EMEs and how public debt interacts with private debt.

### Methodology and empirical specification
- Data: IFS data on bank credit to the private sector and IMF data on public debt; business cycle peaks identified with the Bry and Boschan (1971) algorithm.
- Empirical framework: Local Projection Method (LPM) following Jordà (2005) and applied as in Jordà, Schularick and Taylor (2016).
- Baseline local projection model (as presented):
  - ∆h yi,p+h / yi,p = θh + βPRh (∆̄5 PRYi,p) + βPUh (∆̄5 PUYi,p) + βPRPUh (∆̄5 PRYi,p ∆̄5 PUYi,p) + Σl=0^L γh,l Yi,p−l + αhi + ui,p+h , for h = 1,...,5.
  - Variables: ∆̄5 PRY and ∆̄5 PUY measure average annual change in private and public debt ratios over the five years preceding a downturn; all variables in real per-capita terms.
  - Controls include annual growth rates of GDP, private debt, public debt, and government expenditures.
  - Lags: L = 2 (three lags used in baseline specification).
  - Standard errors: clustered at country-level.
- Interpretation conventions:
  - RHS variables are demeaned so θh measures GDP path in “average-debt” recessions.
  - βPRh and βPUh measure deviations when entering recession with larger-than-average private or public debt accumulation.
  - βPRPUh measures the marginal additional effect when both debt buildups occur simultaneously.
  - Illustrative simulations use debt buildups amounting to five percentage points (same 5 percentage points across comparisons).

### Key empirical findings
- Sample coverage: estimations use information from a set of more than 300 recessions in 80 countries.
- Baseline recession dynamics (solid lines, baseline):
  - In AEs: an average recession lasts for one year and is associated with a 2 percent decrease in real per capita GDP; between years 2 and 3 output fully recovers; at year 5 output is 5.5 percent higher than at the peak.
  - In EMEs: recession reaches -3 percent (slightly deeper); recovery completes at year 4; at year 5 output is 2.2 percent higher than pre-peak level.
- Effects of pre-crisis private debt buildups (dotted lines, left panel):
  - When entering recession after a rapid private debt buildup, AEs recover at year 4; EMEs have not completed recovery by year 5.
- Effects of pre-crisis public debt buildups (dotted lines, middle panel):
  - Public debt buildups generate similar asymmetric effects; in EMEs the GDP drop can remain below prerecession level five years after start.
- Joint private and public debt buildups (dotted lines, right panel):
  - When both private and public buildups are present, prospects deteriorate further; AEs recover around year 5, while GDP remains persistently lower than pre-crisis levels in EMEs.
- Overall conclusion: rapid debt accumulation prior to recessions, both private and public, predicts deeper recessions and slower recoveries in both AEs and EMEs; the interaction is particularly strong in EMEs.

### Interpretation: Why effects are stronger in EMEs
- EMEs face structural vulnerabilities relative to AEs:
  - Greater exposure to external-currency borrowing (“original sin”), increasing vulnerability to sudden stops.
  - Less developed financial systems, potentially making credit booms more likely to trigger financial crises.
  - Limited capacity to deploy effective countercyclical monetary and fiscal policies during crises.
- In EMEs, higher pre-crisis private and public debt buildups are associated with lower available external financing when a crisis hits, which restricts government capacity to support the economy and amplifies the downturn.
- By contrast, AEs are able to run counter-cyclical fiscal policy during financial crises; in AEs debt constrains the private sector primarily, whereas in EMEs excessive private and public debt also constrain the public sector.

### Quantitative parameters and specifics preserved from the analysis
- Window for measuring pre-crisis debt growth: five years (∆̄5 PRY, ∆̄5 PUY); similar results using four-year or six-year windows noted.
- Illustrative debt buildup simulated: 5 percentage points.
- Local projection horizons: h = 1,...,5 (years after peak).
- Lags used in baseline specification: L = 2.
- Recession statistics explicitly reported:
  - AE average recession: 1 year duration; -2 percent peak-to-trough in real per capita GDP; year 5: +5.5 percent relative to peak.
  - EME average recession: -3 percent peak-to-trough; recovery completed at year 4; year 5: +2.2 percent relative to peak.
- Sample size: more than 300 recessions in 80 countries.

*Source: IMF working paper section titled "2.1  Debt Buildups Amplify Recessions in Both EMEs and AEs" from wp1761.*

### 2011. A drawback of this approach is that it is not clear to what extent crises that

### wp1761 - 2011. A drawback of this approach is that it is not clear to what extent crises that

### Public Debt Buildups Do Not Predict Banking Crises...
- Empirical approach
  - Follow Jordà, Schularick and Taylor (2016) and estimate a logistic model:
    - ln P(B_{i,t}=1) / (1−P(B_{i,t}=1)) = α + α_i + β_PR(∆ ̄5 PRY_{i,t−1}) + β_PU(∆ ̄5 PUY_{i,t−1}) + u_{i,t}
    - ln-odds ratio of a banking crisis for country i at year t.
    - ∆ ̄5 PRY_{i,t−1} and ∆ ̄5 PUY_{i,t−1} measure the average annual change in the private and public debt ratios over the five years before year t.
    - Financial crisis episodes B_{i,t} are taken from Reinhart and Rogoff (2009), Jordà, Schularick and Taylor (2016), and Laeven and Valencia (2013).
  - Data merging rule: when at least one source documents the presence of a banking crisis, it is taken; if alternative sources document starting years that differ by one year, the earliest one is used.
  - Robustness checks: qualitatively similar results obtained if the first 4-8 years after the start of each financial crisis are dropped.

- Key quantitative findings on crisis prediction
  - Private debt buildups:
    - For every percentage point increase in the average annual change of private debt-to-GDP, the predicted probability of a banking crisis goes up by about 0.35 – 0.72 percentage points.
    - This effect is estimated with high precision: it passes the 3-standard deviations threshold.
  - Public debt buildups:
    - The effect associated to an increase in the average annual change of public debt-to-GDP is slightly negative, around -0.25 – -0.04 percentage points.
    - This negative effect is significantly different from zero at the one-standard deviation level.
  - Interpretation notes:
    - The negative coefficient on public debt may reflect public debt rising sharply after crises (timing bias) or pre-emptive recapitalizations that raise public debt while reducing crisis probability.

### ...But Exacerbate Non-financial and Financial Recessions
- Modified local projection specification to isolate effects during banking crises
  - Change to benchmark local projection model: each parameter of interest is interacted with a 0-1 financial peak indicator F_{i,p} and its complement (1−F_{i,p}).
  - All RHS variables are centered with respect to their means in the non-financial and financial recession bins, respectively.
  - Classification: a peak is financial if a banking crisis erupts at the peak of the business cycle or at the start of the recession; robustness tested allowing crisis up to two years before start of recession without major changes.

- Dynamics and marginal effects
  - Financial recessions are considerably more painful than non-financial recessions in both EMEs and AEs.
  - Private debt buildups:
    - Pre-recession private debt buildups are more toxic in financial crises; when private debt is the underlying problem, it plays a more prominent role in slowing recovery.
    - Private debt accumulations do not have a significant effect in amplifying the GDP fall during non-financial recessions.
  - Public debt buildups:
    - Pre-recession public debt accumulations significantly exacerbate non-financial recessions; constraints from a pre-crisis loose fiscal stance can be significant after the crisis starts.
  - Combined private and public debt buildups:
    - Entering a banking crisis recession with rapid debt accumulations in both sectors further deteriorates economic performance and slows recovery.
    - Marginal effects are especially strong in EMEs.

- Quantified macroeconomic amplification
  - Three years after the recession starts, the drop in GDP for a country entering a financial recession with both debt buildups is:
    - -16 percent in EMEs
    - -8 percent in AEs

- Summary implications
  - Rapid private debt buildups predict higher probability of banking crises and amplify downturns especially in financial recessions.
  - Rapid public debt buildups do not predict banking crises in the same way, but they can amplify non-financial recessions through post-crisis fiscal constraints.
  - Joint private and public debt buildups during financial recessions produce the largest amplification, with effects markedly stronger in EMEs.

*Source: wp1761 (PDF chapter/section provided).*

### 4.1  Limited Fiscal Support in EMEs...

### 4.1  Limited Fiscal Support in EMEs...

### Fiscal pro-cyclicality in EMEs: background and motivation
- Economic history and empirical studies suggest fiscal policy often tends to be pro-cyclical in EMEs (Gavin and Perotti, 1997; Lane, 2003; Kaminsky, Reinhart and Végh, 2004), whereas in AEs fiscal policy is usually a-cyclical or countercyclical.
- Monetary policy in EMEs is often constrained (for example, by an exchange rate policy) or limited in effectiveness (because financial systems are small or interest-rate transmission is poor).
- As a result, fiscal policy is frequently the main tool to address cyclical considerations in many EMEs.
- The analysis links pro-cyclicality during crisis to pre-crisis debt accumulation by examining fiscal variables during non-financial and financial recessions in EMEs and AEs.

### Evolution of public debt during recessions
- LHS variables (real per-capita government spending or real per capita public debt) are scaled by yi,p, the level of real per capita GDP at the peak; the LHS variable is ∆h (vi,p+h / yi,p). 
- Three main empirical results from Figure 4:
  - Recessions are typically associated with increases in public debt, which tend to be larger during banking crises.
  - The increase in public debt is more marked in AEs than in EMEs, both for banking crises and for non-financial recessions.
  - If a country enters a non-financial or financial recession with higher private debt buildups, the increase in public debt tends to be larger—suggesting relocation of debt from private to public balance sheets, especially in financial recessions.
- Caveat: public debt dynamics are influenced by pre-crisis fiscal positions; rising public debt during a recession does not by itself identify the discretionary fiscal stance.

### Real per-capita government spending as fiscal-stance indicator
- Real per-capita government spending is used as the best available indicator to assess the discretionary fiscal stance in EMEs (Kaminsky, Reinhart and Végh, 2004), because CAPB is often unavailable and output-gap estimates are highly uncertain in volatile EMEs.
- Findings from Figure 5:
  - In AEs, non-financial and financial recessions are typically associated with relatively large increases in real government spending.
  - In EMEs, the corresponding dynamic is more muted.
  - Large buildups of both private and public debt are associated in EMEs with significant negative growth of real government spending after the start of the crisis.
  - During financial crises with public and private debt overhangs, fiscal policy reacts asymmetrically: AEs increase government spending, EMEs decrease it pro-cyclically.
- Interpretation: fiscal stance can act as an amplifier of debt–recession cycles, particularly in EMEs. The authors caution that government spending is not completely exogenous from GDP dynamics, so evidence is more correlational than strictly causal. The identification exploits banking crises as exogenous triggers of recessions.

### Financing constraints, IMF credit, and transmission mechanism
- Hypothesis: countries entering a financial recession with larger private and public debts are more constrained in financing government deficits once the crisis starts and therefore are forced to contain public spending more.
- To test financing constraints, the analysis uses IMF credit (net outstanding debt toward the IMF, including normal and exceptional financing under all IMF facilities) as a measure of official emergency credit use; regressions follow equation (3) with lagged controls of the dependent variable.
- LHS variable in scaled regressions for IMF credit is ∆h (v i,p+h / pub i,p) where pub i,p is pre-downturn level of public debt; this scaling allows fair evaluation of loan amount.
- Empirical findings (Figure 6):
  - Use of IMF credit, scaled by pre-downturn public debt, is higher in EMEs, especially during financial recessions.
  - IMF credit is particularly high in financial recessions with high private and public debt buildups.
  - Interpretation: during these recessions government financing needs could not be fully met by market borrowing; resort to the IMF was often the only way to secure financing, limiting ability to run counter-cyclical fiscal policy and forcing spending restraint.
- Note: IMF credit use does not imply IMF programs caused spending cuts; the counterfactual of no available financing would likely have led to even larger spending reductions. Evidence shows IMF-supported programs have a neutral effect on education and health spending once other factors are controlled for (Nozaki, Clements and Gupta, 2011).

### Investment, credit contraction, and amplification
- Gross fixed capital formation (national accounts series) is used as a proxy for investment (includes both private and public investment; mainly driven by private investment).
- Figure 7 findings:
  - Countries with the most rapid debt accumulations before recessions experience the highest reductions in gross fixed capital formation once the crisis starts.
  - This effect is particularly significant after large private debt accumulations.
  - Confirms that GDP declines after pre-crisis debt buildups are accompanied by severe declines in investment, particularly in EMEs.
- Comparison with AEs: transmission is similar in that investment falls considerably; it differs because EMEs’ fiscal response tends to be pro-cyclical or less supportive than in AEs.

### Conclusions and policy implications (from Section 5)
- Main empirical conclusions:
  - Debt buildups amplify recessions in both EMEs and AEs: larger-than-average private and public debt accumulations prior to a recession deepen the extent and extend the duration of the GDP drop in the following five years.
  - These effects are particularly strong in EMEs, even restricting to recessions following banking crises.
  - A key heterogeneity source is fiscal policy: AEs tend to increase government expenditures during recessions (supporting demand), while EMEs face tighter borrowing constraints that reduce their ability to use fiscal policy for stabilization—especially when entering recessions with larger-than-average private and public debt buildups.
- Policy implications emphasized:
  - Importance of accumulating debt at a moderate and sustainable pace.
  - Need to build fiscal buffers in normal times to avoid simultaneous retrenchment of private and public sector borrowing in crises.
  - Graduation from debt intolerance requires institutional reforms and renewed creditworthiness and “may take decades or even centuries” (Reinhart, Rogoff and Savastano, 2003).
  - Even with accumulated foreign exchange reserves, it is difficult to foresee these being sufficient to shield EMEs from significant capital outflows and sudden stops in a crisis.
- Call for further research to reach a comprehensive view on causes and implications of recessions and financial crises in emerging economies.

### Data coverage and relevant numeric details (from Appendix A and B)
- Private debt proxy: IFS data on banks’ claims on the private sector (line 22d in IFS) for 36 AEs and 77 EMEs, starting as early as 1950 and, on average, from 1964.
- BIS coverage comparison: 27 AEs and 14 EMEs.
- Loans accounted, on average, for 98 percent of bank claims in countries reporting to the IFS Standardized Reporting Forms in 2015.
- Public debt data: updated IMF historical debt dataset (Abbas et al., 2010) with April 2015 WEO updates; data cover 37 AEs and 87 EMEs, starting, on average, in 1940.
- Figure 1 averages start in 2002; private debt in AEs started to decline after the global financial crisis; in EMEs private debt continued to increase; in EMEs public debt increased rapidly after the global financial crisis.
- The analysis uses data spanning the past sixty years.
- Table A1 (summary statistics for debt variables used in local projection models) reports:
  - Peaks: 125125152152
  - Mean: 0.82 -0.71 0.30 -0.91
  - Std. Dev: 4.25 3.54 2.45 5.29
  - 95%: 7.95 3.27 4.11 8.18
  - 99%: 15.61 6.07 7.23 14.94

*Source: wp1761 - 4.1  Limited Fiscal Support in EMEs... (IMF Working Paper content).*

### References

### References

### Scholarly foundations cited
- Abbas, S. M. Ali; Nazim Belhocine; Asmaa A ElGanainy; and Mark Horton, 2010, “A Historical Public Debt Database,” IMF Working Paper, 10/245.
- Barro, Robert J. and Charles J. Redlick, 2011, “Macroeconomic Effects From Government Purchases and Taxes,” The Quarterly Journal of Economics, 126 (1), 51–102.
- Bernanke, Ben S. and Mark Gertler, 1989, “Agency Costs, Net Worth, and Business Fluctuations,” American Economic Review, 79 (1), 14–31.
- Boissay, Frédéric; Fabrice Collard; and Frank Smets, 2016, “Booms and Banking Crises,” Journal of Political Economy, 124 (2), 489–538.
- Bry, Gerhard and Charlotte Boschan, Cyclical Analysis of Time Series: Selected Procedures and Computer Programs, National Bureau of Economic Research, Inc, 1971.
- Chudik, Alexander; Kamiar Mohaddes; M. Hashem Pesaran; and Mehdi Raissi, forthcoming, “Is There a Debt-threshold Effect on Output Growth?,” Review of Economics and Statistics.
- Eggertsson, Gauti B. and Paul Krugman, 2012, “Debt, Deleveraging, and the Liquidity Trap: A Fisher-Minsky-Koo Approach,” The Quarterly Journal of Economics, 127 (3), 1469–1513.
- Eichengreen, Barry; Ricardo Hausmann; and Ugo Panizza, 2007, “Currency Mismatches, Debt Intolerance, and Original Sin: Why They Are Not the Same and Why It Matters,” in “Capital Controls and Capital Flows in Emerging Economies: Policies, Practices and Consequences,” National Bureau of Economic Research, Inc, pp. 121–170.
- Frankel, Jeffrey A.; Carlos A. Vegh; and Guillermo Vuletin, 2013, “On Graduation from Fiscal Procyclicality,” Journal of Development Economics, 100 (1), 32–47.
- Gavin, Michael and Roberto Perotti, 1997, “Fiscal Policy in Latin America,” NBER Macroeconomics Annual, 12/1997, 11–72.
- Gourinchas, Pierre-Olivier and Maurice Obstfeld, 2012, “Stories of the Twentieth Century for the Twenty-First,” American Economic Journal: Macroeconomics, 4 (1), 226–65.
- Hall, Robert E., 2009, “By How Much Does GDP Rise If the Government Buys More Output?,” Brookings Papers on Economic Activity, 40 (2), 183–249.
- Ilzetzki, Ethan, 2011, “Rent-seeking Distortions and Fiscal Procyclicality,” Journal of Development Economics, 96 (1), 30–46.
- International Monetary Fund, 2016, “Debt: Use it Wisely,” Fiscal Monitor.
- Jordà, Òscar, 2005, “Estimation and Inference of Impulse Responses by Local Projections,” American Economic Review, 95 (1), 161–182.
- Jordà, Òscar; Moritz Schularick; and Alan M. Taylor, 2011, “Financial Crises, Credit Booms, and External Imbalances: 140 Years of Lessons,” IMF Economic Review, 59 (2), 340–378.
- Jordà, Òscar; Moritz Schularick; and Alan M. Taylor, 2013, “When Credit Bites Back,” Journal of Money, Credit and Banking, 45 (s2), 3–28.
- Jordà, Òscar; Moritz Schularick; and Alan M. Taylor, 2016, “Sovereigns Versus Banks: Credit, Crises, and Consequences,” Journal of the European Economic Association, 14 (1), 45–79.
- Kaminsky, Graciela L.; Carmen M. Reinhart; and Carlos A. Végh, 2004, “When It Rains, It Pours: Procyclical Capital Flows and Macroeconomic Policies,” NBER Macroeconomics Annual, 19/2004, 11–82.
- Laeven, Luc and Fabian Valencia, 2013, “Systemic Banking Crises Database,” IMF Economic Review, 61 (2), 225–270.
- Lane, Philip R., 2003, “Business Cycles and Macroeconomic Policy in Emerging Market Economies,” International Finance, 6 (1), 89–108.
- Mauro, Paolo; Rafael Romeu; Ariel Binder; and Asad Zaman, 2015, “A Modern History of Fiscal Prudence and Profligacy,” Journal of Monetary Economics, 76 (C), 55–70.
- Mian, Atif R.; Amir Sufi; and Emil Verner, 2015, “Household Debt and Business Cycles Worldwide,” NBER Working Paper, 21581.
- Mian, Atif R. and Amir Sufi, 2010, “Household Leverage and the Recession of 2007-09,” IMF Economic Review, 58 (1), 74–117.
- Nozaki, Masahiro; Benedict J. Clements; and Sanjeev Gupta, 2011, “What Happens to Social Spending in IMF-Supported Programs?,” IMF Staff Discussion Note, 11/15.
- Pescatori, Andrea; Damiano Sandri; and John Simon, 2014, “Debt and Growth; Is There a Magic Threshold?,” IMF Working Paper, 14/34.
- Reinhart, Carmen M. and Kenneth S. Rogoff, This Time Is Different: Eight Centuries of Financial Folly, Princeton University Press, 2009.
- Reinhart, Carmen M. and Kenneth S. Rogoff, 2010, “Growth in a Time of Debt,” American Economic Review, 100 (2), 573–578.
- Reinhart, Carmen M.; Kenneth S. Rogoff; and Miguel A. Savastano, 2003, “Debt Intolerance,” Brookings Papers on Economic Activity, 2003 (1), 1–74.
- Reinhart, Carmen M.; Vincent R. Reinhart; and Kenneth S. Rogoff, 2012, “Public Debt Overhangs: Advanced-Economy Episodes since 1800,” Journal of Economic Perspectives, 26 (3), 69–86.

### Figures and tables: empirical summaries and key statistics
- Figure 1: Private and Public Debt Dynamics in AEs and EMEs, 2002-15.
  - Series plotted: Private Debt−to−GDP and Public Debt−to−GDP for Advanced Economies and Emerging Market Economies.
  - Note: The figure shows cross-country simple averages. Similar trajectories are obtained using cross-country medians.

- Figure 2: Debt Buildups and Recessions in Advanced and Emerging Economies.
  - Dynamics of real per capita GDP starting from the year preceding a recession (peak).
  - Advanced Economies θh values by year: -2.05, -1.49, 0.82, 2.78, 5.56.
    - Robust standard errors (parentheses): (0.06), (0.11), (0.13), (0.17), (0.22).
  - Emerging Market Economies θh values by year: -2.82, -2.14, -0.74, 0.75, 2.22.
    - Robust standard errors: (0.07), (0.14), (0.17), (0.27), (0.32).
  - βP R h values: -0.06, -0.26, -0.40, -0.52, -0.72 (AEs) and -0.28, -0.51, -0.53, -1.08, -1.18 (EMEs).
    - Standard errors: (0.09), (0.15), (0.18), (0.25), (0.28) and (0.14), (0.39), (0.50), (0.47), (0.55).
  - βP U h values: -0.05, -0.05, -0.27, -0.26, -0.10 (AEs) and -0.09, -0.28, -0.49, -0.72, -0.78 (EMEs).
    - Standard errors: (0.09), (0.22), (0.26), (0.35), (0.43) and (0.07), (0.14), (0.19), (0.17), (0.19).
  - βP RP U h values: 0.01, 0.01, -0.04, -0.05, -0.04 (AEs) and 0.00, -0.02, 0.00, -0.03, -0.03 (EMEs).
    - Standard errors: (0.02), (0.04), (0.04), (0.06), (0.07) and (0.02), (0.04), (0.05), (0.05), (0.06).
  - R2 by year: 0.73, 0.52, 0.51, 0.58, 0.66 (AEs) and 0.69, 0.42, 0.42, 0.45, 0.54 (EMEs).
  - Observations: 125, 125, 125, 124, 110 (AEs); 152, 152, 152, 148, 133 (EMEs).
  - Note: Robust standard errors, clustered by country, are reported in parentheses.

- Table 1: Marginal Effects of Debt Buildups on the Probability of a Banking Crisis.
  - Predicted probability P(Bi,t = 1) and %P(Bi,t = 1) %.
  - βP R reported: 0.35, 0.35, 0.39, 0.72.
    - Standard errors: (0.09), (0.09), (0.22), (0.19).
  - βP U reported: -0.08, -0.04, -0.25, -0.18.
    - Standard errors: (0.15), (0.17), (0.12), (0.13).
  - Observations reported: 1239, 1417, 1178, 1548, 1470, 1259.
  - Note: Marginal effects are percent changes for every percentage point increase in the average annual change of private credit-to-GDP and public debt-to-GDP over five years. Predicted probabilities calculated with predictors at mean values. Robust standard errors in parentheses.

- Figure 3: Non-financial and Financial Recessions.
  - Dynamics of real per capita GDP starting from year preceding non-financial (blue) and financial (red) recessions.
  - θN h (AEs): -1.92, -0.68, 2.01, 4.46, 7.89 with standard errors (0.12), (0.17), (0.22), (0.27), (0.40).
  - θF h (AEs): -2.52, -4.48, -3.65, -3.37, -2.79 with standard errors (0.38), (0.58), (0.66), (1.05), (1.77).
  - θN h (EMEs): -2.50, -1.52, -0.13, 1.35, 2.85 with standard errors (0.17), (0.20), (0.32), (0.49), (0.46).
  - θF h (EMEs): -4.69, -6.08, -4.79, -3.71, -1.23 with standard errors (0.84), (1.02), (1.87), (2.44), (2.56).
  - Multiple β coefficients (NP R h, F P R h, NP U h, F P U h, NP RP U h, F P RP U h) reported with year-by-year point estimates and standard errors; R2 by year: 0.74, 0.62, 0.64, 0.68, 0.77 (AEs) and 0.74, 0.50, 0.47, 0.49, 0.56 (EMEs).
  - Observations: 125, 125, 125, 124, 110 (AEs); 152, 152, 152, 148, 133 (EMEs).

- Figure 4: Public Debt Dynamics.
  - Dynamics of real per capita public debt starting from the year preceding non-financial (blue) and financial (red) recessions.
  - θN h (AEs): 2.95, 6.14, 9.16, 12.33, 15.60 with standard errors (0.25), (0.36), (0.52), (0.65), (0.73).
  - θF h (AEs): 4.95, 10.63, 18.58, 23.66, 26.36 with standard errors (0.74), (1.05), (1.94), (2.35), (2.60).
  - θN h (EMEs): 1.14, 2.77, 2.46, 3.84, 4.76 with standard errors (0.41), (0.74), (0.88), (0.79), (1.03).
  - θF h (EMEs): 5.22, 8.77, 11.09, 12.02, 13.33 with standard errors (2.41), (4.04), (5.04), (4.51), (5.19).
  - Selected β coefficients (NP R h, F P R h, NP U h, F P U h, NP RP U h, F P RP U h) reported with point estimates and standard errors.
  - R2 by year: 0.73, 0.84, 0.85, 0.86, 0.88 (AEs) and 0.46, 0.46, 0.47, 0.50, 0.54 (EMEs).
  - Observations: 125, 125, 125, 124, 110 (AEs); 152, 151, 151, 147, 132 (EMEs).

- Figure 5: Government Spending Dynamics.
  - Dynamics of real per capita government spending starting from the year preceding non-financial (blue) and financial (red) recessions.
  - θN h (AEs): 0.91, 1.95, 2.67, 4.03, 6.40 with standard errors (0.12), (0.17), (0.29), (0.28), (0.35).
  - θF h (AEs): 1.82, 3.20, 3.89, 2.13, 1.31 with standard errors (0.30), (0.50), (1.40), (1.22), (1.25).
  - θN h (EMEs): -0.01, 0.35, 0.86, 1.40, 1.46 with standard errors (0.13), (0.15), (0.19), (0.28), (0.35).
  - θF h (EMEs): -0.04, -0.41, -0.41, -1.40, 0.14 with standard errors (0.65), (0.67), (1.17), (1.66), (1.37).
  - β coefficient series (NP R h, F P R h, NP U h, F P U h, NP RP U h, F P RP U h) with point estimates and standard errors.
  - R2 by year: 0.60, 0.69, 0.66, 0.64, 0.71 (AEs) and 0.51, 0.53, 0.53, 0.45, 0.46 (EMEs).
  - Observations: 125, 125, 124, 123, 109 (AEs); 152, 152, 151, 147, 132 (EMEs).

- Figure 6: IMF Credit Dynamics.
  - Dynamics of real per-capita IMF credit starting from the year preceding non-financial (blue) and financial (red) recessions.
  - θN h (AEs): 0.54, 0.81, 0.81, 0.13, 0.47 with standard errors (0.14), (0.24), (0.21), (0.19), (0.29).
  - θF h (AEs): 1.13, 0.25, 1.37, 2.23, 3.07 with standard errors (0.36), (0.60), (0.87), (1.28), (2.00).
  - θN h (EMEs): 0.01, 0.33, 0.60, 1.21, 1.48 with standard errors (0.54), (0.79), (0.74), (0.67), (0.33).
  - θF h (EMEs): 3.41, 6.07, 5.78, 6.25, 5.56 with standard errors (1.14), (1.83), (1.68), (1.48), (1.39).
  - β series (NP R h, F P R h, NP U h, F P U h, NP RP U h, F P RP U h) with point estimates and standard errors.
  - R2 by year: 0.78, 0.70, 0.71, 0.84, 0.72 (AEs) and 0.71, 0.74, 0.73, 0.69, 0.66 (EMEs).
  - Observations: 125, 125, 125, 124, 110 (AEs); 152, 152, 152, 148, 133 (EMEs).

- Figure 7: Capital Formation Dynamics.
  - Dynamics of real per-capita capital formation starting from the year preceding non-financial (blue) and financial (red) recessions.
  - θN h (AEs): -1.60, -1.99, -1.37, -0.84, -0.22 with standard errors (0.09), (0.14), (0.18), (0.22), (0.26).
  - θF h (AEs): -2.10, -4.51, -5.16, -5.58, -6.30 with standard errors (0.28), (0.41), (0.43), (0.59), (0.85).
  - θN h (EMEs): -0.46, -0.85, -0.05, -0.29, 0.07 with standard errors (0.21), (0.26), (0.30), (0.46), (0.63).
  - θF h (EMEs): -2.82, -5.21, -5.22, -4.88, -3.32 with standard errors (0.83), (1.08), (1.15), (1.55), (2.01).
  - β series (NP R h, F P R h, NP U h, F P U h, NP RP U h, F P RP U h) with point estimates and standard errors.
  - R2 by year: 0.83, 0.83, 0.78, 0.70, 0.68 (AEs) and 0.69, 0.64, 0.59, 0.49, 0.41 (EMEs).
  - Observations: 124, 124, 124, 123, 108 (AEs); 134, 130, 129, 118, 110 (EMEs).

*Content unit: wp1761 - References*

---


_Source: https://www.imf.org/-/media/files/publications/wp/2017/wp1761.pdf_