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It isn't just external debt that makes developing countries so susceptible to debt crises. It is highly "inverted" balance sheets, Funding domestic costs with external debt is just one of the ways in which balance sheets can be inverted.
wsj.com
It isn't just external debt that makes developing countries so susceptible to debt crises. It is highly "inverted" balance sheets, Funding domestic costs with external debt is just one of the ways in which balance sheets can be inverted.
wsj.com
2/7
Other ways include funding long-term investment with short-term (or floating rate) debt, or using land and other assets whose prices have soared to collateralize borrowing for operational purposes.
Other ways include funding long-term investment with short-term (or floating rate) debt, or using land and other assets whose prices have soared to collateralize borrowing for operational purposes.
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An inverted balance sheet is one in which debt-servicing costs automatically decline when underlying economic conditions improve, and also automatically rise when underlying economic conditions deteriorate. It is the opposite of hedged borrowing.
An inverted balance sheet is one in which debt-servicing costs automatically decline when underlying economic conditions improve, and also automatically rise when underlying economic conditions deteriorate. It is the opposite of hedged borrowing.
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External debt is dangerous because when the economy is strong and money pours into the economy, the real value of the currency rises, causing debt-servicing costs drop and making it increasingly attractive for businesses and governments to borrow in foreign currency.
External debt is dangerous because when the economy is strong and money pours into the economy, the real value of the currency rises, causing debt-servicing costs drop and making it increasingly attractive for businesses and governments to borrow in foreign currency.
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But of course this also means that the cost of servicing the debt soars at precisely the wrong moment, when the underlying economy is in trouble and money is fleeing the country. External debt, like all inverted debt, automatically exacerbates both good and bad times.
But of course this also means that the cost of servicing the debt soars at precisely the wrong moment, when the underlying economy is in trouble and money is fleeing the country. External debt, like all inverted debt, automatically exacerbates both good and bad times.
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Short-term local currency debt can work in the same way. Rapidly declining interest rates when conditions are good encourage businesses and governments to borrow short, so that when weaker economic prospects cause rates to soar, these borrowers are squeezed at both ends.
Short-term local currency debt can work in the same way. Rapidly declining interest rates when conditions are good encourage businesses and governments to borrow short, so that when weaker economic prospects cause rates to soar, these borrowers are squeezed at both ends.
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In the end a well-structured balance sheet is one in which financing costs rise and fall in line with changes in revenues. Anything else is risky, and this is especially a problem in highly volatile developing countries.
In the end a well-structured balance sheet is one in which financing costs rise and fall in line with changes in revenues. Anything else is risky, and this is especially a problem in highly volatile developing countries.
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