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Dynamics of International Debt Overhang with Two Lender Banks

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  • Jacek Prokop

Abstract

This paper presents a dynamic formalization of the behavior of creditor banks in the presence of the secondary market for debts. We formulate the problem as an infinite horizon game with two banks as players where each bank decides in every period either to sell its loan exposure to the debtor country at the present secondary market price, or to wait and keep its exposure to the next period. We show that there exist three types of subgame perfect equilibria with the property called the time continuation. We consider the relationship between our equilibria and those of the Kaneko-Prokop (1991) one-period approach to the same problem and show that their one-period approach does not lose much of the dynamic nature of the problem. In every equilibrium, each bank waits in every period with high probability, and the probability is close to 1 when the interest rate is small. If the price function of debt is approximated by some homogeneous function for large values of debt, then the central equilibrium probability becomes stationary in the long run. The stationary probability is relatively high as long as the interest rate is low. These results are interpreted as a tendency for the problem of debt overhang to remain almost unchanged.

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File URL: http://hdl.handle.net/10.1111/1468-5876.00075
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Bibliographic Info

Article provided by Japanese Economic Association in its journal Japanese Economic Review.

Volume (Year): 49 (1998)
Issue (Month): 2 (06)
Pages: 119-137

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Handle: RePEc:bla:jecrev:v:49:y:1998:i:2:p:119-137

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References

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  1. Jeremy Bulow & Kenneth Rogoff, 1988. "The Buyback Boondoggle," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 19(2), pages 675-704.
  2. Jeffrey Sachs & Harry Huizinga, 1987. "U.S. Commercial Banks and the Developing-Country Debt Crisis," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 18(2), pages 555-606.
  3. Mamoru Kaneko & Jacek Prokop, 1993. "A game theoretical approach to the international debt overhang," Journal of Economics, Springer, vol. 58(1), pages 1-24, February.
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Cited by:
  1. Mamoru Kaneko & Jacek Prokop, 1991. "A Game Theoretical Approach to the International Debt Overhang," Discussion Papers 945, Northwestern University, Center for Mathematical Studies in Economics and Management Science.
  2. Jacek Prokop, 1991. "Duration of Debt Overhang with Two Lender Banks," Discussion Papers 949, Northwestern University, Center for Mathematical Studies in Economics and Management Science.
  3. Prokop, Jacek & Baranowska-Prokop, Ewa, 2012. "The Efficiency of Foreign Borrowing: The Case of Poland," MPRA Paper 44976, University Library of Munich, Germany.
  4. Prokop, Jacek, 2012. "Bargaining over debt rescheduling," MPRA Paper 44315, University Library of Munich, Germany.
  5. Prokop, Jacek, 1995. "Organized debt buybacks: No cure for free riding?," Journal of Development Economics, Elsevier, vol. 47(2), pages 481-496, August.

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