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International Financial Integration, Sovereignty, and Constraintson Macroeconomic Policies

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  • Kenneth Kletzer

Abstract

This paper considers the consequences of international financial market integration for national fiscal and monetary policies that derive from the absence of an international sovereign authority to define and enforce contractual obligations across borders. The sovereign immunity of national governments serves as a fundamental constraint on international finance and is used to derive intertemporal budget constraints for sovereign nations and their governments. It is shown that the appropriate debt limit for a country allows for state-contingent repayment. With noncontingent debt instruments, debt renegotiation occurs in equilibrium with positive probability. A model of tax smoothing is adopted to show how information imperfections lead to conventional bond contracts that are renegotiated when a critical level of indebtedness is reached. Renegotiation is interpreted in terms of nominal and real denominated bonds, and implications are drawn about the intertemporal borrowing constraint for monetary policies, the accumulation of reserve assets, and current account sustainability.

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Bibliographic Info

Paper provided by International Monetary Fund in its series IMF Working Papers with number 06/79.

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Length: 26
Date of creation: 01 Mar 2006
Date of revision:
Handle: RePEc:imf:imfwpa:06/79

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Keywords: Economic models; bonds; repayments; public debt; debt renegotiation; bond; present value; current account; domestic currency; financial market; debt contracts; bondholders; bond contracts; public finance; discount rate; debt management; reserve currency; sovereign debt; financial markets; government debt; reserve assets; international financial markets; debt reduction; sovereign bonds; conventional bonds; public debt management; international finance; external debt; nominal bonds; nominal interest rate; currency debt; government bonds; stock of debt; denominated bonds; sovereign bond; domestic financial markets; bond restructuring; moral hazard; domestic creditors; domestic absorption; current account balances; international debt; debtor government; private creditors; individual bondholders; financial assets; international lending; domestic saving; international borrowing; domestic savings; central bank; current account deficits; rate bonds; current account surplus; public debts; financial system; outstanding bonds; government bond; debt burden; financial instruments; debt maturity; financial repression; debt dynamics; net external debt; stock of money; private debts; private debtors; term bonds; debt holder; current account balance; public borrowing; international financial system; bond principal; market debt; financial sector; short-term bonds; debt holders;

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