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https://www.bis.org/publ/work550.pdf

page 7 extract

"Third, the distinction between external and internal debt is important. External debt, long seen as a key driver of financial crises in EMEs (Al-Saffar et al (2013)), is more dangerous than internal debt.5 If the assets corresponding to the debt are also internal, then domestic assets rise and this helps to support domestic demand. In addition, there is a fiscal advantage because the holders of such assets can be taxed. Another reason is that domestically-held assets are less likely to “flee”. And the government can also induce regulated financial institutions within their own jurisdiction to hold domestic assets. Nonetheless, foreign currency internal debts – and especially the foreign currency loans of domestic banks to residents – do create risks"

Can you explain why external debt is more dangerous than internal for EM economies and clarify if they mean internal debt in foreign currency?

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  • $\begingroup$ I think they see three levels of danger: external debt in foreign currency (most dangerous, and this is long established in EM economics), internal debt in foreign currency (somewhat dangerous, has advantages mentioned above) and internal debt in domestic currency (safest). The authors believe this 3 part distinction is better than the traditional internal/external distinction. $\endgroup$ – noob2 Mar 4 at 16:47

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