Global Debt Crisis

Debt can be a useful tool for governments to finance their development projects, protect and invest in their people, and pave the way to a better future. But when debt becomes excessive, or its costs outweigh the benefits, it can become a crisis. This is what happened in many developing countries after an era of record low interest rates encouraged too many of them to spend beyond their means. This was compounded by a series of natural and man-made disasters that drove their debt-to-GDP ratios into unsustainable territory.

The global economic recovery is under way and the price of oil has fallen, which may ease some of the pressures on developing countries’ external public debt. But these developments won’t resolve the fundamental problem. It will take a sustained period of economic growth and reduced debt-service payments to bring debt back into sustainable levels for most countries, especially in the poorest regions.

Bringing debt down to the estimated ‘prudent’ level of 52-54% of GDP requires discipline, but it is an achievable goal. Gradual fiscal consolidation, focused on improving spending efficiency rather than drastic cuts, could mitigate negative impacts on growth and social programs and actually enhance long-term economic prospects by creating room for productive investments. The model also explores nonlinear interactions, showing that high initial debt levels magnify the effects of negative shocks such as slowing growth or rising interest rates. This underscores the need for stronger debt-workout mechanisms that support payment suspensions and longer lending terms.