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Debt sustainability, public investment, and natural resources in developing countries: The DIGNAR model

Melina, G., Yang, S-C. S. and Zanna, L-F. (2016). Debt sustainability, public investment, and natural resources in developing countries: The DIGNAR model. Economic Modelling, 52(B), pp. 630-649. doi: 10.1016/j.econmod.2015.10.007

Abstract

Policymakers in resource-rich developing countries often face complicated fiscal choices to manage natural resource revenues. While investing resource revenues in public capital may promote economic growth, spending without saving or borrowing against future revenues can expose the economy to debt sustainability risks. This paper presents the Debt, Investment, Growth, and Natural Resources (DIGNAR) model for analyzing the macroeconomic and debt sustainability effects of scaling up public investment in resource-rich developing countries. It captures pervasive problems of these countries that may be aggravated during scaling-ups, including investment inefficiency and limited absorptive capacity. It also allows for flexible fiscal specifications: investment can be jointly financed by resource revenues and debt; a resource fund may be used as a buffer; and distorting fiscal adjustments are subject to feasibility constraints. The application to an average low-income country shows that, when fiscal adjustment is implementable, a delinked public investment approach combined with the resource fund - such that government spending is a-cyclical with respect to resource revenues - can reduce macroeconomic instability relative to a spend-as-you-go approach. However, even with the fund, ambitious frontloading public investment plans combined with more borrowing can induce debt sustainability risks, especially with declining investment efficiency or when future resource revenues turn out to be lower than expected.

Publication Type: Article
Additional Information: © 2016, Elsevier. Licensed under the Creative Commons Attribution-NonCommercial-NoDerivatives 4.0 International http://creativecommons.org/licenses/by-nc-nd/4.0/
Publisher Keywords: Natural resource; Public investment; Debt sustainability; Small open DSGE model; DIGNAR; Developing countries
Subjects: H Social Sciences > HB Economic Theory
Departments: School of Arts & Social Sciences > Economics
URI: http://openaccess.city.ac.uk/id/eprint/13942
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