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Dollar Debt in Developing Countries: Too Much of a Good Thing?

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Author Info
Damien Besancenot (LEM and University of Paris 2, 92 rue d'Assas, 75006 Paris, France)
Radu Vranceanu (ESSEC Business School, BP 50105, 95021 Cergy, France)

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Abstract

In the early 2000s, many developing countries in Eastern Europe, Latin America and Asia presented substantial corporate dollar debts. This paper suggests an explanation for this worrisome phenomenon, which builds on the traditional signaling approach. The model brings into the picture specific institutional characteristics of the credit market in these countries. If lenders have no direct possibility to infer a firm's financial status, sound firms might want to borrow dollars and bear a high clearance cost -- connected to the grant procedure -- just in order to signal their type. The success of this policy depends on the behavior of bad firms. When dollar borrowing clearance costs are relatively small with respect to the clearance cost of borrowing in the local currency, the whole corporate sector would opt for liability dollarization. In this most inefficient case, the signaling effect vanishes, while all firms bear high clearance costs. We also put forward the necessary conditions for a separating equilibrium to occur.

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Publisher Info
Article provided by International Trade and Finance Association in its journal Global Economy Journal.

Volume (Year): 6 (2007)
Issue (Month): 1 ()
Pages: 3
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Handle: RePEc:bep:glecon:6:2007:1:3

Note: oai:bepress.com:gej-1097
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Related research
Keywords: liability dollarization corporate debt emerging economies signaling perfect Bayesian equilibrium

References listed on IDEAS
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  1. Aghion, Philippe & Bacchetta, Philippe & Banerjee, Abhijit, 2001. "Currency crises and monetary policy in an economy with credit constraints," European Economic Review, Elsevier, vol. 45(7), pages 1121-1150. [Downloadable!] (restricted)
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  2. Guillermo A. Calvo & Carmen M. Reinhart, 2002. "Fear Of Floating," The Quarterly Journal of Economics, MIT Press, vol. 117(2), pages 379-408, May. [Downloadable!] (restricted)
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  3. Kenneth Rogoff, 1999. "International Institutions for Reducing Global Financial Instability," NBER Working Papers 7265, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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  4. Paul Krugman, 2000. "Crises : the price of globalization?," Proceedings, Federal Reserve Bank of Kansas City, pages 75-106. [Downloadable!]
  5. Jeanne, Olivier, 2000. "Foreign currency debt and the global financial architecture," European Economic Review, Elsevier, vol. 44(4-6), pages 719-727, May. [Downloadable!] (restricted)
  6. Ricardo J. Caballero & Arvind Krishnamurthy, 2003. "Excessive Dollar Debt: Financial Development and Underinsurance," Journal of Finance, American Finance Association, vol. 58(2), pages 867-894, 04. [Downloadable!] (restricted)
  7. Besancenot, Damien & Vranceanu, Radu, 2003. "Financial Instability under Floating Exchange Rates," ESSEC Working Papers DR 03011, ESSEC Research Center, ESSEC Business School. [Downloadable!]
  8. Greenwald, Bruce & Stiglitz, Joseph E & Weiss, Andrew, 1984. "Informational Imperfections in the Capital Market and Macroeconomic Fluctuations," American Economic Review, American Economic Association, vol. 74(2), pages 194-99, May. [Downloadable!] (restricted)
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  9. Barry Eichengreen & Ricardo Hausmann, 1999. "Exchange Rates and Financial Fragility," NBER Working Papers 7418, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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  10. Carmen M. Reinhart & Kenneth S. Rogoff & Miguel A. Savastano, 2003. "Addicted to Dollars," NBER Working Papers 10015, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
  11. Cowan, kevin & Quy-Toan Do, 2003. "Financial dollarization and central bank credibility," Policy Research Working Paper Series 3082, The World Bank. [Downloadable!]
  12. Spence, A Michael, 1973. "Job Market Signaling," The Quarterly Journal of Economics, MIT Press, vol. 87(3), pages 355-74, August. [Downloadable!] (restricted)
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