Pricing Growth-Indexed Bonds

Abstract

Growth-indexed bonds have been suggested as a way of reducing the procyclicality of emerging-market countries` fiscal policies and the likelihood of costly debt crises. Investor attitude surveys suggest that pricing difficulties are seen as a considerable obstacle. In an effort to reduce such concerns, this article presents a simple way of pricing growth-indexed bonds. As a pleasant by-product, the analysis tracks the quantitative implications of an increase in the share of growth-indexed bonds in total debt, measuring the ensuing decline in the probability of default and the reduction in the spreads at which standard bonds can be issued.

Keywords: Emerging markets, GDP-indexed bonds, Monte-Carlo simulation

JEL Classification: F33, F34, F36, G13, G15