How Inflation eroded governments’ debts and why it matters | Beyond the Headlines

I’m Gabriel Sterne, Head of Global Emerging markets at Oxford EconomicsrnrnQuestion: During your entire career, what is the comment you have heard most at economics events you have attended?rnrnFor me, no question…its “Governments will eventually inflate away their debt”rnrnToday Im going to speak about that with reference to my recently published research “How inflation eroded governments’ debts and why it matters”rnrnMy narrow focus is on extent to which governments seized that opportunity in the supply shocks era (2020-23).rnrnAfter all, there was rampant inflation and you couldn’t really blame most governments for it… Surely this was the moment for inflation erosion opportunists.rnrnBut the anatomy of what actually happened may surprise you.rnrnIn the average Emerging Market, inflation erosion 3.7% of GDP over the whole period; for the average for advanced economy it was actually twice that.rnrnIts that way simply because AEs have much bigger piles of debtrnrnThat’s how the inflation tax works, its impact on debt is the fall in real effective interest rates multiplied by the initial debt stockrnrnFor both EMs and AEs the decline in the real effective interest rate was about the same, 2.5% lower in 2020-23 relative to 2019rnrnWhy does it matter?rnu003colu003ern tu003cliu003eThe period turned preconceptions upside down regarding the location of safe havens for global bonds; EM policymakers got ahead of the curve and enhanced credibility relative to advanced economies.rnu003culu003ern tu003cliu003eAverage returns for safe havens Switzerland, US and Japan were -13%; in contrast the four riskier sovereigns (Mexico, Brazil, South Africa and Colombia) it was +11%.u003c/liu003ernu003c/ulu003ernu003c/liu003ernu003c/olu003ernu003culu003eu003c/ulu003ernu003col start=u00222u0022u003ern tu003cliu003eThe period offers little support for those predicting that one day governments will inflate away their debt problems.rnu003cul start=u00222u0022u003ern tu003cliu003eInflation erosion of debt has been associated with very high economic costs,u003c/liu003ern tu003cliu003eOh, and government debt-to-GDP ratios did actually increase overall, lest we forget.u003c/liu003ern tu003cliu003eIts certainly not a good advert for inflation erosion as a policy choice.u003c/liu003ernu003c/ulu003ernu003c/liu003ernu003c/olu003ernu003culu003eu003c/ulu003ernThanks, and see you next time!