World Bank official says public spending cuts causes debt crises

08 June 2001

William Easterly, a member of the World Bank's Economic Growth Research Group writes* that cuts in infrastructure have negative effects on growth and exacerbate the level of debts.He cites the case of Zambia where he argues, lower growth rates were due to cuts in transport and communications made from the 1970s to the 1990s.

Poor countries are pushed to reduce their debt burdens through cuts in infrastructure which he says may "provoke the public debt crisis they are meant to avoid".

The author says that slower growth rates are one of the causes that trigger public debt crises. He also notes that "an additional percentage point of growth reduces the amount of fiscal adjustment needed for solvency more in a high debt country than in a low debt country." This implies that a mistake in the growth rate forecasts for poor countries has more devastating effects on their economies than on those of rich countries.

The author says that growth is very important in determining how much adjustment or relief a country needs. However, growth slowdowns are seldom taken into account in adjustment packages, despite the greater impact of every percentage of growth in the economies of the heavily indebted countries.

Growth, he then argues, is fundamental to curing the debt malaise. However economic growth declined over the period of neo-liberal economic dominance (1975-94). World average GDP growth fell from 5% between 1960-75 to 3% during the period 1975-94. Countries that are part of the Highly Indebted Poor Countries Initiative (HIPC) grew only by 1.8% over the same period.

The author argues that countries in the last 20 years kept borrowing at the same rate of the previous period when growth rates were higher, therefore increasing their debts. HIPC countries, the author says, have accumulated a large debt despite some fiscal improvements made during the last three decades. This is due to their low level of growth.

He also observes that fiscal improvements were actually due to aid flows. He says that "The HIPC debt initiative may reflect aid-weariness by the major donors, and the desire to substitute debt forgiveness for continuing heavy aid flows."     

"Growth implosions and debt explosions: do growth slowdowns cause public debt crises" Macroeconomic Vol. 1 Article 1 http://www.worldbank.org/research/growth/pdfiles/growth%20implosions2.pdf