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Sudden Stops, Time Inconsistency, and the Duration of Sovereign Debt

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  • Juan Carlos Hatchondo
  • Leonardo Martinez

Abstract

We study the sovereign debt duration chosen by the government in the context of a standard model of sovereign default. The government balances off increasing the duration of its debt to mitigate rollover risk and lowering duration to mitigate the debt dilution problem. We present two main results. First, when the government decides the debt duration on a sequential basis, sudden stop risk increases the average duration by 1 year. Second, we illustrate the time inconsistency problem in the choice of sovereign debt duration: governments would like to commit to a duration that is 1.7 years shorter than the one they choose when decisions are made sequentially.

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File URL: http://hdl.handle.net/10.1080/10168737.2013.796112
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Bibliographic Info

Article provided by Taylor & Francis Journals in its journal International Economic Journal.

Volume (Year): 27 (2013)
Issue (Month): 2 (June)
Pages: 217-228

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Handle: RePEc:taf:intecj:v:27:y:2013:i:2:p:217-228

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References

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  1. Juan Carlos Hatchondo & Leonardo Martinez & Francisco Roch, 2012. "Fiscal rules and the sovereign default premium," Working Paper 12-01, Federal Reserve Bank of Richmond.
  2. Harold L. Cole & Timothy J. Kehoe, 1998. "Self-fulfilling debt crises," Staff Report 211, Federal Reserve Bank of Minneapolis.
  3. Juan Carlos Hatchondo & Leonardo Martinez, 2009. "Long-duration bonds and sovereign defaults," Working Paper 08-02, Federal Reserve Bank of Richmond.
  4. Javier Bianchi & Juan Carlos Hatchondo & Leonardo Martinez, 2013. "International Reserves and Rollover Risk," IMF Working Papers 13/33, International Monetary Fund.
  5. Cristina Arellano & Ananth Ramanarayanan, 2012. "Default and the Maturity Structure in Sovereign Bonds," Journal of Political Economy, University of Chicago Press, vol. 120(2), pages 187 - 232.
  6. Juan Carlos Hatchondo & Leonardo Martinez & Horacio Sapriza, 2010. "Quantitative properties of sovereign default models: solution methods matter," Working Paper 10-04, Federal Reserve Bank of Richmond.
  7. Forbes, Kristin J. & Warnock, Francis E., 2012. "Capital flow waves: Surges, stops, flight, and retrenchment," Journal of International Economics, Elsevier, vol. 88(2), pages 235-251.
  8. Leonardo Martinez & Cesar Sosa Padilla & Juan Hatchondo, 2012. "Debt dilution and sovereign default risk," 2012 Meeting Papers 974, Society for Economic Dynamics.
  9. Niepelt, Dirk, 2008. "Debt Maturity without Commitment," CEPR Discussion Papers 7093, C.E.P.R. Discussion Papers.
  10. Eaton, Jonathan & Gersovitz, Mark, 1981. "Debt with Potential Repudiation: Theoretical and Empirical Analysis," Review of Economic Studies, Wiley Blackwell, vol. 48(2), pages 289-309, April.
  11. Fernando Broner & Guido Lorenzoni & Sergio L. Schmukler, 2011. "Why Do Emerging Economies Borrow Short Term?," Working Papers 308, Barcelona Graduate School of Economics.
  12. Satyajit Chatterjee & Burcu Eyigungor, 2010. "Maturity, indebtedness, and default risk," Working Papers 10-12, Federal Reserve Bank of Philadelphia.
  13. David Benjamin, 2008. "Recovery Before Redemption," 2008 Meeting Papers 531, Society for Economic Dynamics.
  14. Leonardo Martinez & Horacio Sapriza & Juan Carlos Hatchondo, 2010. "Quantitative Properties of Sovereign Default Models," IMF Working Papers 10/100, International Monetary Fund.
  15. Cristina Arellano, 2008. "Default Risk and Income Fluctuations in Emerging Economies," American Economic Review, American Economic Association, vol. 98(3), pages 690-712, June.
  16. Yue, Vivian Z., 2010. "Sovereign default and debt renegotiation," Journal of International Economics, Elsevier, vol. 80(2), pages 176-187, March.
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Cited by:
  1. Hatchondo, Juan Carlos & Martinez, Leonardo & Sosa Padilla, César, 2014. "Voluntary sovereign debt exchanges," Journal of Monetary Economics, Elsevier, vol. 61(C), pages 32-50.

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