A Consumption-based Theory of Debt Intolerance

Sovereign debt crises have been a persistent challenge in the global economy, often leading to severe economic and financial disruptions. While traditional analyses of sovereign debt sustainability emphasize macroeconomic fundamentals such as fiscal balances, economic growth, and external shocks, this research introduces a consumption-based perspective on debt intolerance. We argue that economic development leads to systematic shifts in consumption patterns—specifically, an increased demand for non-tradable goods and services—combined with non-homothetic preferences, which in turn affect a country’s debt capacity and borrowing costs. These consumption dynamics can amplify the effects of economic shocks, heighten default risks, and influence the sustainable level of debt. By incorporating the structural evolution of economies into debt analysis, this framework offers new insights into why similar countries may exhibit differing levels of debt tolerance and provides a novel approach to understanding sovereign debt sustainability.