1

2

Advanced Economies: Public Debt-to-GDP Ratio, 1880-2016

0

20

40

60

80

100

120

140

160

18

80

18

83

18

86

18

89

18

92

18

95

18

98

19

01

19

04

19

07

19

10

19

13

19

16

19

19

19

22

19

25

19

28

19

31

19

34

19

37

19

40

19

43

19

46

19

49

19

52

19

55

19

58

19

61

19

64

19

67

19

70

19

73

19

76

19

79

19

82

19

85

19

88

19

91

19

94

19

97

20

00

20

03

20

06

20

09

20

12

20

15

WWI

WWII

Great Depression

Global financial

crisis

Public debt-to-GDP ratio(in percent, 2015)

3

0

50

100

150

200

250

300

Holdings of public debt by residents(in percent of total public debt, 2015)

4

0

10

20

30

40

50

60

70

80

90

100

5

-50

0

50

100

150

200

Ko

rea

Un

ited

Sta

tes

Net

her

lan

ds

New

Ze

alan

d

Bel

giu

m

Swit

zerl

and

Po

rtu

gal

Luxe

mb

ou

rg

Icel

and

Spai

n

No

rway

Ger

man

y

Au

stri

a

Au

stra

lia

Slo

ven

ia

Irel

and

Fin

lan

d

Lith

uan

ia

Can

ada

Un

ited

Kin

gdo

m

Jap

an

Ital

y

Ho

ng

Ko

ng

SAR

Slo

vak

Rep

ub

lic

Cze

ch R

epu

blic

Isra

el

Sin

gap

ore

6

Fran

ce

Den

mar

k

Mal

ta

Cyp

rus

Esto

nia

Swed

en

Latv

ia

Pension and healthcare entitlement debt(in percent of GDP)

1 Net present value of increases in public spending for healthcare (red) and pension (blu) as projected

by the IMF Fiscal Monitor for 2016-2050

Source: IMF Fiscal Monitor April 2016, Table A23

1

1.Exposure to a roll over crisis

2.Lower long term growth

6

Why is high public debt a problem?

Exposure to a roll over crisis

7

8

Charles Ponzi(Lugo di Romagna, 1882 – Rio de Janeiro 1949)

❖Emerging economies: 70 percent of GDP

❖Advanced economies: 85 percent of GDP (high risk)

❖Advanced economies: 120 percent of GDP(unsustainable debt?)

9

IMF Public debt sustainability thresholds

10

Spread dell’Italia sulla Germania(rendimento differenziale a 10 anni BTP-BUND)

Monetary base Central Bank’s credit to government

Surge in money base1

1 In national currency

0

1000

2000

3000

4000

5000

USA

0

100000

200000

300000

400000

JAPAN

0

50000

100000

150000

200000

250000

300000

350000

400000

UK

0

500

1000

1500

2000

2500

EURO AREA

11

Lower long term GDP growth

12

13

Why does high public debt lower long-term growth?

1. Crowding out:

Olivier Blanchard, “Current and anticipated deficits, interest rates and economic activity” NBER WP n. 1265, 1984

2. Higher Taxes

“I have a long argued that paying down the national debt is beneficial for the economy: it keeps interest rate lower than they otherwise would be and frees savings to finance increases in the capital stock, thereby boosting productivity and real incomes.” Speech held by Alan Greenspan on April 27, 2001

David Ricardo

Annual average growth rate(in percent, 1990-2015)

14

0,0%

1,0%

2,0%

3,0%

4,0%

5,0%

6,0%

7,0%

Sin

gap

ore

Ko

rea

Taiw

an P

rovi

nce

of

Ch

ina

Irel

and

Isra

el

Lith

uan

ia*

Latv

ia*

Esto

nia

*

Ho

ng

Ko

ng

SAR

Slo

vak

Rep

ub

lic*

Luxe

mb

ou

rg

Au

stra

lia

Ne

w Z

eala

nd

Icel

and

Cyp

rus

Slo

ven

ia*

Un

ited

Sta

tes

No

rway

Cze

ch R

epu

blic

*

Can

ada

Swed

en

Spai

n

Un

ited

Kin

gdo

m

Ne

ther

lan

ds

Au

stri

a

Be

lgiu

m

Fin

lan

d

Swit

zerl

and

Fran

ce

Den

mar

k

Ger

man

y

Po

rtu

gal

Jap

an

Gre

ece

Ital

y

* Data for these countries are available since 1995

15

➢ Kumar, M., and J. Woo, 2010, ―Public

Debt and Growth,‖ IMF Working Paper No.

10/174.

➢ Checherita, C. and P. Rother, 2010, ―The impact of high

and growing government debt on economic growth an

empirical investigation for the euro area,‖ IMF Working

Paper No. 1237

➢ Cecchetti, S. G., M. S. Mohanty and F.

Zampolli, 2011, ―The Real Effects of

Debt,‖ BIS Working Paper No. 352.

➢ Reinhart, C. and K. Rogoff, 2010, ―Growth

in a Time of Debt,‖ NBER Working Paper

No. 15639.

High public debt lowers potential growth

16

Rea

l pe

r ca

pit

a G

DP

gro

wth

rat

e

Public debt/GDP

-1 percentage point

+60 percentage points

Source: Kumar M., Woo J., Public Debt and Growth, IMF Working Paper, 2010

Relationship between public debt level and GDP growth

How to lower public debt

17

1. Printing money

2. Financial repression

3. Debt repudiation

4. Debt mutualization

5. Privatiziation18

Shortcuts

19

1. Printing money: what monetary policy can do to alleviate the effects of high public debt

•Printing money to temporarily finance the government if the demand for liquidity surges (current situation; see above)

•Stand ready to provide liquidity at times of market pressure (fighting self-fulfilling expectations). (See de Grauwe, Paul and Ji, Yuemei (2016) Flexibility versus stability: a difficult tradeoff in the Eurozone, Credit and Capital Markets)

•Risk Inflation

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1. Printing money: Inflation as a solution to the public debt problem

• How much inflation?• It depends on whether the

Fisher effect holds• If the FE holds, moderate

inflation is not enough

• Costs: - inflation is a tax

- inflation genie out of the bottle

- the case of Turkey

• An inflation outburst (20-25 percent for 2 years would be needed)

• Altogether: not a great idea

Source: IMF Fiscal Monitor, April 2013

21

Should Euro Area countries leave the euro area?

Nobel Prize winners against the euro

Paul KrugmanJoseph Stiglitz Amartya Sen

Milton Friedman Christopher Pissarides James Mirrlees

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100,0

110,0

120,0

130,0

140,0

150,0

160,0

170,0

180,0

1980 1983 1986 1989 1992 1995 1998 2001 2004 2007 2010 2013

Italy

Rest of the Euro Area

Source: Eurostat

Real GDP per capita, 1980-2015(index 1980 = 100)

23

95,0

100,0

105,0

110,0

115,0

120,0

125,0

130,0

135,0

140,0

145,0

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015

Italy

Portugal

Germany

Spain

France

Source: Eurostat

Nominal unit labor costs per person, 2000-2015

(index 2000 = 100)

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2. Financial repression

Reinhart, C. M., M. B. Sbrancia, The liquidation of government debt, IMF Working Paper 16893M

• Accidental financial repression?- surge in base money- tight bank regulation (equity requirenments)- lower interest rates and low bank profits- will it last?

3. Debt repudiation

a. Reputational costs• Borensztein, E., and U. Panizza, The Costs of Sovereign Default, IMF Staff

Papers 2009, 56 (4): 683–741.• Cruces, J. J., C. Trebesch, Sovereign Defaults: The Price of Haircuts

American Economic Journal: Macroeconomics 2013, 5(3): 85–117

b. Not alternative to austerityc. High spillover effects

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Italian public debt in euro

Grecee 2011 = 356 billion

Italy 2016 = 2219 billion

4. Debt mutualization

❖Pulling together public debt in the euro area (to replace the debt of individual states) would be nice but...

❖ … it will not happen…

❖…because it does not happen even in monetary areas that achieved political union (federal states)

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5. Privatization

Privatization may be good

❖But there is not enough left to privatize

❖Italy: optimistic estimates: 15 percent of GDP in 10 years (against a public debt of >130 percent of GDP and average privatization revenues of 0.25 of GDP in 2011-15).

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The highway:

1. Structural reforms to boost growth

2. A moderate level of fiscal austerity

28

1. The effect of growth on the public debt-to-GDP ratio

29

60%

70%

80%

90%

100%

110%

120%

130%

140%

1 2 3 4 5 6 7 8 9 10 11 12 13 14 15

baseline

+1% (growth increase if revenues are not saved)

+1% growth

130.0%

-16.5%

-58.1%

-10.8%

-28.6%

years

debt ratio

30

How can we boost growth?

- Pulling oneself up by one’s bootstraps (higher deficit)?

- Plain vanilla version does not work (temporary growth impact,

permanent deficit impact, public debt may initially decline but then

increases)

- Non plain vanilla stories (Left wing version):

o Temporary increases in spending raises potential output

permanently (lower hysteresis) (Romer, de Long, Summers)

o Temporary increases in public spending boost not only real GDP

but also the inflation for a while (IMF, the 3C approach)

o Problematic assumptions: (i) interest rates do not rise; (ii)

spending increases are reversed at the right time.

- Non plain vanilla stories (right wing version):

o Reaganomics, Trumponomics: tax cuts raise potential growth

o Problem: it does not work (public debt increased under Reagan)

➔ you need structural reforms to boost growth (but it takes time)

1. The effect of growth on the public debt-to-GDP ratio

31

60%

70%

80%

90%

100%

110%

120%

130%

140%

1 2 3 4 5 6 7 8 9 10 11 12 13 14 15

baseline

+1% (growth increase if revenues are not saved)

+1% growth

130.0%

-16.5%

-58.1%

-10.8%

-28.6%

years

debt ratio

2. A moderate level of fiscal austerity (the case of Italy)

What is needed? (March 2016 scenario)

1. Freezing of primary public spending in real terms at the 2016 level

2. Balancing the budget by 2019-20

3. Maintaining a balanced budget (in cyclically adjusted terms thereafter)

32

Primary spending, revenues and fiscal deficit

33

-2,0%

-1,0%

0,0%

1,0%

2,0%

3,0%

4,0%

5,0%

6,0%

2007 2009 2011 2013 2015 2017 2019 2021 2023 2025 2027 2029

% d

el P

IL

Fiscal deficit

Balanced budget

620

640

660

680

700

720

740

760

780

2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021

Bill

ion

of

eu

ro

Real revenues

Real primary spending

Balanced budget

1

1 Based on the April 2016 medium-term fiscal plan (Documento di Economia e Finanza, Aprile 2016)

Public debt-to-GDP ratio (2007-45)

34

405060708090

100110120130140

20

07

20

09

20

11

20

13

20

15

20

17

20

19

20

21

20

23

20

25

20

27

20

29

20

31

20

33

20

35

20

37

20

39

20

41

20

43

20

45

2027

2034

2046

SGP debt rule

35

Initialpublic debt(in % of GDP)

Change of the

Detb-to-GDP ratio

Period

Number of years of

decline in the debt ratio

Annualaverage

reduction(in % of GDP)

Average primary surplus

Averagecontribution

of r-g and other

(percentagepoints)

Average GDP

growthrate

Ireland 94.6 -59.1 1991-01 10 -5.9 4.5 -1.4 7.8

Sweden 82.0 -43.2 1998-08 10 -4.3 4.3 -- 3.0

Finland 57.7 -23.8 1996-08 12 -2.0 5.5 3.5 3.8

Denmark 69.2 -42.1 1996-07 11 -3.8 5.4 1.6 2.1

Belgium 134.1 -50.1 1993-07 14 -3.6 4.9 1.3 2.5

Canada 101.7 -35.2 1996-07 11 -3.2 7.1 3.9 3.3

Netherlands 78.5 -27.8 1993-01 8 -3.5 2.8 -0.7 3.7

New Zealand 76.0 -44.0 1987-01 14 -3.1 3.4 0.3 2.5

Spain 67.5 -31.2 1996-07 11 -2.9 2.4 -0.5 3.9

Episodes of strong decline in public debt in advanced economies during the last 30 years

36

Can it be done with low growth?(Primary surplus and growth in episodes of strong decline of public debt

0,0

1,0

2,0

3,0

4,0

5,0

6,0

7,0

8,0

0,0 1,0 2,0 3,0 4,0 5,0 6,0 7,0 8,0 9,0

Growth

Pri

mar

y su

rplu

s

37

If the public debt ratio is declining, a high public debt ratio is less of a problem

❑ Bassanetti A., Cottarelli, C. and Presbitero, A. F. (2016), Lost and Found: Market Access and Public Debt Dynamics, Mimeo, presented at the Sovereign Debt Restructuring Workshop (CIGI and University of Glasgow, 29-30 September 2016).

❑ Pescatori, A., D. Sandri, J. Simon, Debt and Growth: Is There a Magic Threshold?, ‖IMF Working Paper No. 1434

THANK YOU FOR YOUR ATTENTION!

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