Examination Of Interest Rate-Growth Differential And Government Debt Sustainability Dynamics Under Multiple Regimes

Abstract

This study examines the debt sustainability of the 141-countries based on their democratic credentials and subsequent categorization into the liberal, electoral (flawed), hybrid, and autocratic regimes. The facts documented in this study-spanning from 1971 to 2018 reveals that as the democratic credentials decline, debt sustainability levels decline, and conversely, as we move from liberal democracy to autocratic regimes, unsustainability levels start to surge. On the contrary, in the context of GFC, this trend was reversed. The autocratic regimes were the least-worst sufferers among all four groups-with a plunge of 18% (sustainability) and a surge in the unsustainability of 26%. Its significant impact on liberal democracies is obvious from staggering proportional decline (-62.89%) in sustainability, examined over the 6-years before and 6-years after the GFC. Observations with r - 9 < 0 represent, merely 36.11 % of the sample and significantly higher values of standard deviation for all four groups depicts the high volatility in r - 9 < 0 differential. High SD means, r - 9 < 0 can be either positive or negative, proving it cannot be used as a norm, and its lower value in the last decade or so is a result of failure in the recovery of global economic meltdown in liberal democracies. The results for the proportion of deficit changes depending on the sign of r - g consolidate the notion that primary deficits matter and are of supreme importance, in-espective of the democratic credentials of the regimes. The Liberal democratic group is the only group with a negative con-elation coefficient of -0.05%. On the contrary, the electoral democracies (0.10), hybrid regimes (0.10) and the autocratic countries (0.16) also demonstrate positive con-elation coefficients. There exists a potential risk that flawed, hybrid and autocratic countries, may opt for the pro-cyclical policies and end up badly hurting their underlying economies. The external shocks and unexpected swings in the differential r - 9 < o pose catastrophic consequences for the electoral democracies and hybrid regimes, in particular. Amid squeezed fiscal space, and the existence of a tradeoff between debt accumulation and interest rate differential and deficit bias leads to a surge in primary deficits and sudden positive r - 9 offers misguided fiscal policies, potentially pushing countries into debt traps, especially, if investors lose confidence (due to self-fulfilling crises).