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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 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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Bibliographic Info

Paper provided by Federal Reserve Bank of Richmond in its series Working Paper with number 13-08.

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Date of creation: 2013
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Handle: RePEc:fip:fedrwp:13-08

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Keywords: Debt;

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  1. 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.
  2. Hatchondo, Juan Carlos & Martinez, Leonardo, 2009. "Long-duration bonds and sovereign defaults," Journal of International Economics, Elsevier, vol. 79(1), pages 117-125, September.
  3. Juan Carlos Hatchondo & Francisco Roch & Leonardo Martinez, 2012. "Fiscal Rules and the Sovereign Default Premium," IMF Working Papers 12/30, International Monetary Fund.
  4. Satyajit Chatterjee & Burcu Eyigungor, 2012. "Maturity, Indebtedness, and Default Risk," American Economic Review, American Economic Association, vol. 102(6), pages 2674-99, October.
  5. Javier Bianchi & Juan Carlos Hatchondo & Leonardo Martinez, 2013. "International Reserves and Rollover Risk," IMF Working Papers 13/33, International Monetary Fund.
  6. Yue, Vivian Z., 2010. "Sovereign default and debt renegotiation," Journal of International Economics, Elsevier, vol. 80(2), pages 176-187, March.
  7. Fernando Broner & Guido Lorenzoni & Sergio L. Schmukler, 2011. "Why Do Emerging Economies Borrow Short Term?," Working Papers 308, Barcelona Graduate School of Economics.
  8. Dirk Niepelt, 2008. "Debt Maturity without Commitment," CESifo Working Paper Series 2500, CESifo Group Munich.
  9. 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.
  10. Cristina Arellano, 2008. "Default Risk and Income Fluctuations in Emerging Economies," American Economic Review, American Economic Association, vol. 98(3), pages 690-712, June.
  11. Harold L. Cole & Timothy J. Kehoe, 1998. "Self-Fulfilling Debt Crises," Levine's Working Paper Archive 114, David K. Levine.
  12. 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.
  13. Leonardo Martinez & Horacio Sapriza & Juan Carlos Hatchondo, 2010. "Quantitative Properties of Sovereign Default Models," IMF Working Papers 10/100, International Monetary Fund.
  14. Leonardo Martinez & Cesar Sosa Padilla & Juan Hatchondo, 2012. "Debt dilution and sovereign default risk," 2012 Meeting Papers 974, Society for Economic Dynamics.
  15. David Benjamin, 2008. "Recovery Before Redemption," 2008 Meeting Papers 531, Society for Economic Dynamics.
  16. 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.
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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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