with high debt, investor concerns in the event of an adverse shock could raise borrowing cost. Economic and budget projections in the United States suggest, according to Auerbach, Gale, and Krupkin (2019), Henderson (2019), and Riedl (2019), rising interest cost on government debt.<sup>2</sup> The contribution of this paper to the literature is two-fold. First, it discusses benefits and costs of debt in the context of EMDEs. The earlier literature mainly presents this benefitcost discussion in the context of advanced economies, or more specifically, the United States. Declines in interest rates have been observed not only in advanced economies but also in EMDEs. As noted above, many EMDEs have borrowed heavily, especially since the global financial crisis. The tradeoffs EMDEs face are even starker, in light of their history of severe debt crises and their more pressing current spending needs to achieve development goals and improve living standards.

The second contribution is that, in examining debt sustainability, this paper goes beyond the discussion of interest rate-growth differentials. It uses a metric of sustainability gaps that depend on fiscal balances, long-term interest rates as well as output growth (Kose et al. 2017). Debt is not sustainable—despite interest rates below output growth—if new debt accumulation is rapid, i.e. primary deficits are large. This echoes the study of Wyplosz (2019) who finds that, when interest rates fall below output growth, debt falls in only one-half of his sample of OECD countries.

The paper is structured as follows. Section 2 overviews the evolution of debt in EMDEs since 2000. Benefits of debt are discussed in Section 3. Section 4 reviews costs associated with debt. Section 5 presents a brief review of the literature on the optimal level of debt. Section 6 concludes.

# 2. Evolution of EMDE debt since 2000

Prior to the global financial crisis, rapid growth helped narrow fiscal deficits and reduce government debt ratios, especially in EMDEs (Figure 1.A and 1.B; Kose et al. 2017). In addition to robust growth, debt relief under the Multilateral Debt Relief Initiative and Heavily Indebted Poor Countries (HIPC) Initiative contributed to the decline in debt in low-income countries (LICs) and lower middle-income countries. Fiscal deficits that reached 3 percent of GDP in EMDEs, on average, in 2001 turned into fiscal surpluses amounting to 0.7 percent of GDP, on average, by 2007. Over the same period, EMDE government debt fell by 12 percentage points of GDP to 36 percent of GDP. In LICs, government debt declined by 59 percentage points to 41 percent of GDP from 2001 to 2007.

> 2 Adverse consequences of high and rising debt are also discussed by CRFB (2019), using data for the United States. The study argues that high and rising debt weighs on income growth, limits the scope for fiscal policy, raises interest rates, raise the fiscal burden for future generations, and increases the risk of crises. Alcidi and Gros (2019) show that countries with high debt pay a risk premium. Additional debt accumulation increases a risk premium and raise the cost of the entire stock of debt. This could lead to a feedback loop between high debt levels and high risk premia, resulting in explosive debt dynamics. Boskin (2020) presents a detailed critique of Blanchard (2019). He analyzes fiscal projections in the United States and concludes that substantial increases in debt levels could lead to higher taxes and lower future incomes.

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