Portfolio diversification is as important to debt management as it is to asset management. In this paper, we focus on diversification of sovereign debt issuance through greater reliance on inflation-indexed bonds for a representative emerging economy, Colombia. Using an arbitrage-free dynamic term structure model of fixed-coupon and inflation-indexed bond prices, we account for inflation and liquidity risk premia and calculate the net benefit of issuing inflation-indexed bonds over nominal bonds. Our results suggest that the Colombian government could lower its funding costs by as much as 0.69 percent by increasing its issuance of inflation-indexed debt, in particular at long maturities.
Cardozo, Cristhian Hernando Ruiz, and Jens H. E. Christensen. 2023. “The Benefit of Inflation-Indexed Debt: Evidence from an Emerging Bond Market,” Federal Reserve Bank of San Francisco Working Paper 2023-04. Available at https://doi.org/10.24148/wp2023-04