Abstract
The idea of GDP-linked securities was first advanced by Robert Shiller (Macro Markets: Creating Institutions for Managing Society’s Largest Economic Risks. Clarendon Press, 1993), so those following his proposal are dubbed RS-variant. Some years later Eduardo Borensztein and Paolo Mauro proposed a different version of GDP-linked securities (dubbed BM), and during a meeting in the UN in 2005 Daniel Schydlowsky made yet another proposal (dubbed DS). The chapter recalls the academic debate about these proposals. Meanwhile the financiers were incorporating GDP warrants in many of the debt reconstructions that occurred as countries sought an exit from the debt crisis. Because warrants have only been used in debt reconstructions, the use of GDP in defining debt has acquired a stigma.
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Notes
- 1.
It is true that the return on an equity can also be influenced by policies of management like the payout ratios and who they take over, but if they deviate far from the stream of dividends permitted by profits the management is liable to find itself out of a job.
- 2.
In the old days one would have said investment bank , but they have more or less ceased to exist since the financial crisis; their functions have been taken over by the financial supermarkets that bought out those that didn’t go bust. They will be referred to below as a financial intermediary.
- 3.
It was suggested in the Bank of England conference that it is important for certain investors that the security sells at par on the day of issue, for which purpose a “principal factor” adjustment is introduced in the term sheet that was discussed. If this is done, then the δ introduced in the text would be zero.
- 4.
Her study, which is referred to further in Chap. 9, considered whether Colombia and Malaysia would have had a cyclically helpful change in the timing of their payments if part of their 1995 sovereign debt had consisted of BM bonds with a = 8.44 for Colombia and 7.08 for Malaysia , b = 1, and the average expected future growth rate was the same as the actual recorded average growth rate of 1980–1994, 3.71% for Colombia and 7.02% for Malaysia . It compared actual interest payments over 1996–2004 with those that would have been due had half the debt been swapped into GDP-linked securities with the features described above, under two different scenarios about the timing of interest payments. Under one scenario, growth rates are measured annually, so that 1996 payments are based on 1995 growth. Under the other scenario, growth is measured every six months and there is a lag of six months from the end of the reporting period before interest is paid, so one payment based on growth for the first half of 1995 is already made at the end of 1995 and included in the 1995 figures.
The study implies that the more prompt payments due under the second scenario would have been of major benefit in ensuring that the cyclical variation of the payouts was beneficial. It is not in fact clear that there would have been much benefit in terms of a counter-cyclical impact at all under the first scenario: for example, Colombia’s big fiscal saving would have come in 2000 rather than the year of recession 1999, while it would still have had a net saving in the boom year 2003 because of the sub-par growth in 2002. In contrast, payment on the basis of six-monthly GDP figures with a six-month lag of publication leads to a much more satisfactory time profile, with most of the fiscal savings in the big recession year 1999 and above-average payments already in 2003.
One problem with making debt-service payments promptly so as to ensure that they vary anti-cyclically is that it obliges debtors to call a relatively early halt to the GDP revisions on which they base payments. This is a problem addressed by Borensztein and Mauro (2004, pp. 199–200), who conclude after an empirical exercise that the resulting errors would not be major. If investors still worried about this problem, a solution would be to employ the Schydlowsky scheme at the margin. That is, the borrower would make its debt-service payments at specific times, say six months after the end of the reporting period, but then further revisions would be capitalized. So if the borrower paid out debt service of x percent on the basis of a reported growth rate of 5%, and the growth rate were subsequently revised up to 6%, an additional 1% would be added to the value of the debt that would ultimately fall due. This would safeguard the anti-cyclical impact of the proposal (except possibly the repayment of the principal, a problem further discussed in Chap. 6) while simultaneously safeguarding investors against malpractices like the borrower delaying the announcement of unexpectedly high growth rates until after the payment had been made.
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Williamson, J. (2017). History and Precedents. In: Growth-Linked Securities . Palgrave Macmillan, Cham. https://doi.org/10.1007/978-3-319-68333-1_2
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DOI: https://doi.org/10.1007/978-3-319-68333-1_2
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