What if countries could have some built-in flexibility in repaying their debts: specifically, what if the repayment of the debt was linked to whether the domestic economy was growing? Thus, the burden of debt payments would fall in a recession, which is when government sees tax revenues fall and social expenditures rise. Imagine, for example, how the the situation of Greece with government debt would have been different if the country’s lousy economic performance had automatically restructured its debt burden in away that reduced current payments. Of course, the tradeoff is that when the economy is going well, debt payments are higher–but presumably also easier to bear.

There have been some experiments along these lines in recent decades, but the idea is now gaining substantial interest,  James Benford, Jonathan D. Ostry, and Robert Shiller have edited a 14-paper collection of papers on James Benford, Jonathan D. Ostry, and Robert Shiller have edited a 14-paper collection of papers on  (March 2018, Centre forEconomic Policy Research, available with free registraton here).

For a taste of the arguments, here are a few thoughts from the opening essay: “Overcoming the obstacles to adoption of GDP-linked debt,” by Eduardo Borensztein, Maurice Obstfeld, and Jonathan D. Ostry.They provide an overview of issues like: Would borrowers have to pay higher interest rates for GDP-linked borrowing? Or would the reduced risk of default counterbalance other risks? What measure of GDP would be used as part of such a debt contract? They write:

“Elevated sovereign debt levels have become a cause for concern for countries across the world. From 2007 to 2016, gross debt levels shot up in advanced economies – from 24 to 89% of GDP in Ireland, from 35 to 99% of GDP in Spain, and from 68 to 128% of GDP in Portugal, for example. The increase was generally more moderate in emerging economies, from 36 to 47% of GDP on average, but the upward trend continues. …

“GDP-linked bonds tie the value of debt service to the evolution of GDP and thus keep it better aligned with the overall health of the economy. As public sector revenues are closely related to economic performance, linking debt service to economic growth acts as an automatic stabiliser for debt sustainability. ..While most efforts to reform the international financial architecture over the past 15 years have aimed at facilitating defaults, for example through a sovereign debt restructuring framework (SDRM), the design of a sovereign debt structure that is less prone in the first place to defaults and their associated costs  would be a more straightforward policy initiative. GDP-linked debt is an attractive instrument for this purpose because it can ensure that debt stays in step with the growth of the economy in the long run and can create fiscal space for countercyclical policies during recessions. …