Abstract
The world debt problem continues to pose the greatest threat to international financial stability since World War II. This article reviews the contribution of economic theory to analysis of the debt problem. The textbook model of country borrowing is found to identify limits on borrowing that are considerably weaker than those likely to be faced in the real world. In particular, too little attention has been paid in the literature to uncertainty about key assumptions, to limits on the ability of governments to tax domestic resources and to the ability of debtor countries to generate foreign exchange. The article also looks at the application of banking models to country lending.
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