Default in Today's Advanced Economies: Unnecessary, Undesirable, and Unlikely
IMF Staff Position Notes, September 1, 2010
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Bibliographic details
- Authors: Carlo Cottarelli, Paolo Mauro, Lorenzo Forni, Jan Gottschalk
- Published: September 1, 2010
- Series: IMF Staff Position Notes
- DOI: https://doi.org/10.5089/9781455261307.004
Summary
- This IMF Staff Position Note summarizes the main arguments put forward by some market commentators who argue that default is inevitable, and presents a rebuttal for each argument in turn.
- The note emphasizes that the challenge for advanced economies stems mainly from large primary deficits; default would lower the interest bill while triggering the need to move to primary balance or a small primary surplus, and thus would not significantly reduce the need for major fiscal adjustment.
- By contrast, the emerging economies that defaulted in recent decades did so primarily as a result of high debt servicing costs, often in the context of major external shocks.
- Conclusion: default would be ineffective and undesirable in today’s advanced economies.
Main arguments addressed and rebuttals
- Argument: Default is inevitable because of the size of the required fiscal adjustment.
- Rebuttal: The core problem is large primary deficits; default reduces the interest bill but still requires moving to primary balance or a small primary surplus, so it would not materially reduce the overall adjustment needed.
- Argument: Market concerns reflected in government bond spreads signal inevitability of default.
- Rebuttal: Spreads reflect market perceptions but do not imply that default is the only or best policy response; fiscal consolidation aimed at primary deficits addresses the fundamental problem.
Comparative evidence and context
- Advanced economies versus recent emerging-economy defaulters:
- Emerging economies that defaulted in recent decades typically faced high debt servicing costs and major external shocks.
- Advanced economies’ difficulties are characterized mainly by large primary deficits rather than prohibitive debt servicing costs.
Conclusions and policy implications
- Default in today’s advanced economies would be:
- Unnecessary: because policy can address large primary deficits without resorting to default.
- Undesirable: because default would be ineffective in substantially reducing the need for fiscal adjustment and could carry adverse consequences.
- Unlikely: given the nature of advanced-economy fiscal challenges compared with historical emerging-market default episodes.
- Policy implication: Focus fiscal adjustment on reducing primary deficits and managing interest burdens rather than pursuing or relying on default as a solution.
Carlo Cottarelli, Paolo Mauro, Lorenzo Forni, Jan Gottschalk; September 1, 2010; IMF Staff Position Note No. 2010/012; Pages: 25; DOI: https://doi.org/10.5089/9781455261307.004