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Debt Valuation Effects when there is Foreign Currency-Denominated Debt

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  • Claudia Martínez; Rodrigo Vergara.
  • Rodrigo Vergara.

Abstract

This paper discusses the way in which the existence of debt denominated in both domestic and foreign currency affects debt-sustainability analyses. Ignoring valuation issues can lead to misleading conclusions regarding fiscal sustainability. We show that a devaluation of the domestic currency can significantly change the path of a sustainable fiscal policy. In our model, the adjustment not only comes through the change in the value of the foreign currency-denominated public debt, but also though the effects on the interest rate and growth. We find that the required fiscal adjustment to achieve fiscal sustainability after a devaluation increases with the size of the devaluation, the length of the adjustment period, the effect on interest rates and growth, and the share of public debt that is denominated in foreign currency.

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Bibliographic Info

Paper provided by Instituto de Economia. Pontificia Universidad Católica de Chile. in its series Documentos de Trabajo with number 363.

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Date of creation: 2009
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Handle: RePEc:ioe:doctra:363

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Keywords: Public debt; valuation effects; debt management;

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  1. Alejandro Izquierdo, 2002. "Sudden Stops, the Real Exchange Rate and Fiscal Sustainability in Argentina," The World Economy, Wiley Blackwell, vol. 25(7), pages 903-923, 07.
  2. Ricardo Hausmann & Ugo Panizza & Ernesto H. Stein, 2000. "Why Do Countries Float the Way They Float?," Research Department Publications 4205, Inter-American Development Bank, Research Department.
  3. Reinhart, Carmen & Calvo, Guillermo, 2002. "Fear of floating," MPRA Paper 14000, University Library of Munich, Germany.
  4. Assaf Razin & Gian-Maria Milesi-Ferretti, 1996. "Current Account Sustainability," IMF Working Papers 96/110, International Monetary Fund.
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