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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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Bibliographic Info

Paper provided by International Monetary Fund in its series IMF Working Papers with number 13/174.

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Length: 17
Date of creation: 19 Jul 2013
Date of revision:
Handle: RePEc:imf:imfwpa:13/174

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Keywords: Sovereign debt; Borrowing; Economic models; default; sudden stops; debt dilution; time inconsistency; debt maturity; bond; bonds; sovereign default; bond price; debt obligations; long-term debt; sovereign bonds; reserve bank; debt renegotiation; debt contracts; access to debt; sovereign defaults; access to debt markets; debt default; debt renegotiations; term bonds; long-term bonds; international lending; debt management; government bond; international reserves; short-term debt; bond prices; sovereign debt renegotiations; risk-free interest rate; debt problems; debt crises;

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References

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  1. Kristin J. Forbes & Francis E. Warnock, 2011. "Capital Flow Waves: Surges, Stops, Flight, and Retrenchment," NBER Working Papers 17351, National Bureau of Economic Research, Inc.
  2. Harold L. Cole & Timothy J. Kehoe, 1998. "Self-Fulfilling Debt Crises," Levine's Working Paper Archive 114, David K. Levine.
  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, 2009. "Maturity, Indebtedness, and Default Risk," Koç University-TUSIAD Economic Research Forum Working Papers, Koc University-TUSIAD Economic Research Forum 0901, Koc University-TUSIAD Economic Research Forum.
  5. David Benjamin, 2008. "Recovery Before Redemption," 2008 Meeting Papers 531, Society for Economic Dynamics.
  6. Javier Bianchi & Juan Carlos Hatchondo & Leonardo Martinez, 2013. "International Reserves and Rollover Risk," IMF Working Papers 13/33, International Monetary Fund.
  7. Dirk Niepelt, 2008. "Debt Maturity without Commitment," Working Papers 08.05, Swiss National Bank, Study Center Gerzensee.
  8. Cristina Arellano & Ananth Ramanarayanan, 2012. "Default and the Maturity Structure in Sovereign Bonds," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 120(2), pages 187 - 232.
  9. Leonardo Martinez & Cesar Sosa Padilla & Juan Hatchondo, 2012. "Debt dilution and sovereign default risk," 2012 Meeting Papers, Society for Economic Dynamics 974, Society for Economic Dynamics.
  10. Broner, Fernando A & Lorenzoni, Guido & Schmukler, Sergio, 2007. "Why Do Emerging Economies Borrow Short Term?," CEPR Discussion Papers, C.E.P.R. Discussion Papers 6249, C.E.P.R. Discussion Papers.
  11. Juan Carlos Hatchondo & Leonardo Martinez, 2009. "Long-duration bonds and sovereign defaults," Working Paper, Federal Reserve Bank of Richmond 08-02, Federal Reserve Bank of Richmond.
  12. Eaton, Jonathan & Gersovitz, Mark, 1981. "Debt with Potential Repudiation: Theoretical and Empirical Analysis," Review of Economic Studies, Wiley Blackwell, Wiley Blackwell, vol. 48(2), pages 289-309, April.
  13. Yue, Vivian Z., 2010. "Sovereign default and debt renegotiation," Journal of International Economics, Elsevier, Elsevier, vol. 80(2), pages 176-187, March.
  14. Cristina Arellano, 2008. "Default Risk and Income Fluctuations in Emerging Economies," American Economic Review, American Economic Association, American Economic Association, vol. 98(3), pages 690-712, June.
  15. Juan Carlos Hatchondo & Leonardo Martinez & Horacio Sapriza, 2010. "Quantitative properties of sovereign default models: solution methods matter," Working Paper, Federal Reserve Bank of Richmond 10-04, Federal Reserve Bank of Richmond.
  16. Leonardo Martinez & Horacio Sapriza & Juan Carlos Hatchondo, 2010. "Quantitative Properties of Sovereign Default Models," IMF Working Papers 10/100, International Monetary Fund.
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Cited by:
  1. Juan Carlos Hatchondo & Leonardo Martinez & Cesar Sosa-Padilla, 2014. "Debt Dilution and Sovereign Default Risk," Department of Economics Working Papers 2014-06, McMaster University.
  2. Juan Carlos Hatchondo & Leonardo Martinez & Cesar Sosa Padilla, 2013. "Voluntary Sovereign Debt Exchanges," Department of Economics Working Papers 2013-13, McMaster University.

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