Slow Moving Debt Crises
What circumstances or policies leave sovereign borrowers at the mercy of self-fulfilling increases in interest rates? To answer this question, we study the dynamics of debt and interest rates in a model where default is driven by insolvency. Fiscal deficits and surpluses are subject to shocks but in...
| Main Authors: | , |
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| Format: | Working Paper |
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Cambridge, MA: Department of Economics, Massachusetts Institute of Technology
2013
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| Online Access: | http://hdl.handle.net/1721.1/81817 |
| _version_ | 1826213280209698816 |
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| author | Lorenzoni, Guido Werning, Ivan |
| author_facet | Lorenzoni, Guido Werning, Ivan |
| author_sort | Lorenzoni, Guido |
| collection | MIT |
| description | What circumstances or policies leave sovereign borrowers at the mercy of self-fulfilling increases in interest rates? To answer this question, we study the dynamics of debt and interest rates in a model where default is driven by insolvency. Fiscal deficits and surpluses are subject to shocks but influenced by a fiscal policy rule. Whenever possible the government issues debt to meet its current obligations and defaults otherwise. We show that low and high interest rate equilibria may coexist. Higher interest rates, prompted by fears of default, lead to faster debt accumulation, validating default fears. We call such an equilibrium a slow moving crisis, in contrast to rollover crises where investor runs precipitate immediate default. We investigate how the existence of multiple equilibria is affected by the fiscal policy rule, the maturity of debt, and the level of debt. |
| first_indexed | 2024-09-23T15:46:34Z |
| format | Working Paper |
| id | mit-1721.1/81817 |
| institution | Massachusetts Institute of Technology |
| last_indexed | 2024-09-23T15:46:34Z |
| publishDate | 2013 |
| publisher | Cambridge, MA: Department of Economics, Massachusetts Institute of Technology |
| record_format | dspace |
| spelling | mit-1721.1/818172019-04-12T21:25:09Z Slow Moving Debt Crises Lorenzoni, Guido Werning, Ivan debt crises, multiplicity, self-fulfilling crisis, sovereign debt What circumstances or policies leave sovereign borrowers at the mercy of self-fulfilling increases in interest rates? To answer this question, we study the dynamics of debt and interest rates in a model where default is driven by insolvency. Fiscal deficits and surpluses are subject to shocks but influenced by a fiscal policy rule. Whenever possible the government issues debt to meet its current obligations and defaults otherwise. We show that low and high interest rate equilibria may coexist. Higher interest rates, prompted by fears of default, lead to faster debt accumulation, validating default fears. We call such an equilibrium a slow moving crisis, in contrast to rollover crises where investor runs precipitate immediate default. We investigate how the existence of multiple equilibria is affected by the fiscal policy rule, the maturity of debt, and the level of debt. 2013-10-28T23:29:05Z 2013-10-28T23:29:05Z 2013-06-30 Working Paper http://hdl.handle.net/1721.1/81817 Working paper, Massachusetts Institute of Technology;13-18 application/pdf Cambridge, MA: Department of Economics, Massachusetts Institute of Technology |
| spellingShingle | debt crises, multiplicity, self-fulfilling crisis, sovereign debt Lorenzoni, Guido Werning, Ivan Slow Moving Debt Crises |
| title | Slow Moving Debt Crises |
| title_full | Slow Moving Debt Crises |
| title_fullStr | Slow Moving Debt Crises |
| title_full_unstemmed | Slow Moving Debt Crises |
| title_short | Slow Moving Debt Crises |
| title_sort | slow moving debt crises |
| topic | debt crises, multiplicity, self-fulfilling crisis, sovereign debt |
| url | http://hdl.handle.net/1721.1/81817 |
| work_keys_str_mv | AT lorenzoniguido slowmovingdebtcrises AT werningivan slowmovingdebtcrises |