The Struggle to Manage Debt

IMF Blog, March 1, 2018

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Global growth is picking up and IMF forecasts have been ratcheted up.
Government coffers are filling and demand for public social support is receding as more people are at work.
Debt levels remain close to historic highs despite the cyclical upswing.
Estimates of underlying growth potential have hardly budged.
Interest rates—the cost of servicing all this debt—are starting to rise, which will eventually make it harder to refinance bonds and loans.
The latest edition of F&D examines these issues through various lenses.

A general limit such as "60 percent of GDP" (as in the EU Maastricht Treaty) no longer makes sense because it does not capture:
- enduringly low interest rates and nominal growth,
- countries’ complex circumstances,
- credibility with financial markets.
Country capacity to carry debt varies (example comparison: Japan vs. Egypt).
Few deny the urgency of debt that is high and rising.

Low-income economies may be at greatest risk.
Many low-income countries traditionally borrowed from official creditors at below-market rates.
In recent years, many took advantage of rock-bottom interest rates to increase commercial debt exposure.
Higher global rates could divert budget resources to debt servicing away from infrastructure projects and social services.
Strengthening tax capacity is especially important for these countries.

Postcrisis experience offers lessons on when to tackle debt and when not to:
- Spending cuts and tax hikes during a recession may amplify the economic decline.
- It is much less painful to revamp tax and benefit systems when the economy is on an upswing and as part of a multiyear adjustment.
Research shows that the stimulatory effect of fiscal expansion is weak when the economy is close to capacity.
- Therefore, increasing budget deficits now would be counterproductive in most countries.
- Conversely, taking actions now to raise budget balances toward their medium-term targets can be achieved at little cost to economic activity.

Raise revenue by:
- simplifying the tax code,
- broadening the tax base,
- improving collection capacity.
Reduce unproductive spending by:
- cutting unproductive current expenses (for instance, on an inefficient civil service),
- eliminating subsidies (for instance, on energy consumption).
Protect and prioritize:
- growth-enhancing infrastructure investments,
- crucial social services such as health and education.
Well-designed fiscal policy can address inequality and stimulate growth.

"The time to fix the fiscal roof is now, while the sun is shining." Policymakers should use the current upswing to tackle debt, heed lessons learned, and implement reforms that improve fiscal balances without harming economic activity.

Christoph Rosenberg, March 1, 2018 — The Struggle to Manage Debt