Debt sustainability and procyclical fiscal policies in Latin America

Abstract

The computation of structural primary balances for the nine main Latin American countries and their comparison of their changes with their cyclical position during the period 1981-2004 confirms that fiscal policy is procyclical in the region. From this evidence, the paper shows strong evidence that the fiscal behaviour is closely linked to the financial vulnerability position of the economies and in particular to the perception on the sustainability of debt. The current threshold balance, defined as the primary balance which would render the debt stable under the existing economic and financial conditions, is used as our gauge for measuring debt sustainability at each point in time. The empirical analysis reveals that the fiscal stance tightens when the debt sustainability perceptions worsen, and that this effect is stronger the less sustainable debt is perceived. The results are robust to different specifications and estimation methods. [resumen de autor]