This paper examines the role of primary fiscal balances as a signaling device in a

world in which investors are uncertain about the nature of the sovereign debt issuer.

Based on the Drudi-Prati model that rationalizes debt accumulation and delayed

stabilization, we verify the existence of a rating (sovereign spreads) function that

depends negatively (positively) on the debt ratio and negatively (positively) on the

primary balance. This relationship, however, is non-monotonic and is conditioned on

a threshold debt level. At low debt levels, the primary balance has an ambiguous

relationship with sovereign spreads, but as debt increases, the primary balance?s

effect on spreads is magnified. At low debt levels, both dependable and weak

governments may generate a deficit. But at high debt levels, when default risk

becomes relevant, the dependable government will generate higher primary balance

surpluses to signal to investors its true type. Using individual country data for

Argentina, Brazil, and Turkey, we show that the model describes well the Brazilian

and Turkish experiences during their most recent volatility periods, characterizing

those governments as dependable (in Drudi-Prati?s terminology). Argentina followed

a different adjustment pattern. Pooling the country data and allows verification of

the relationship. The explanatory power of the model improves by allowing

heteroskedasticity in the shocks to each country and heterogeneity in the values of

the estimated coefficients. Hence though spreads react to debt levels and primary

balances in the dependable government cases, they do so with different intensity.

These results imply that, given current debt levels, relaxing the fiscal stance would be

costly for any of these countries, and if they wish to achieve sovereign spreads

compatible with investment grade ratings, further fiscal tightening may be required.

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