**3.4 Risks to financial stability in the presence of substantial public and private forex debt**

In many emerging markets, such as LA countries and Eastern European economies, a non-negligible part of both the public and the private debt is denominated in forex. In the past, the debt was usually owed to financial centers in developed economies. This phenomenon is known as "the original sin." In some of the financial crises described in Section 2, persistent inflation differentials between such an EM and the economies of the lenders, or any other adverse shock to the domestic economy, may trigger downward pressures on the local currency. This risk is mitigated by persistent balance-of-payments surpluses and adequate forex reserves. However, previous experience suggests that in the absence of such cushions, an EM is likely to experience capital outflows, increases in the cost of debt, shortening of maturities, and downward pressures on the exchange rate. On the other, a new data set suggests that in many EMs, this risk is currently substantially lower than in the past for several reasons. External financing has shifted from forex debt to foreign direct investments

(FDI), portfolio equity investments, and local currency debt, and most EMs possess now larger amounts of forex currency assets (details appear in Ref. [14]).
