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Internal Debt Crises and Sovereign Defaults

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  • Cristina Arellano
  • Narayana R. Kocherlakota

Abstract

In this paper, we use data from developing countries to argue that sovereign defaults are often caused by fiscal pressures generated by large-scale domestic defaults. We argue that these systemic domestic defaults are caused by shocks best interpreted as being non-fundamental. We construct a model that is consistent with these observations. The key ingredient of the model is that it is impossible to liquidate large amounts of entrepreneurial assets. This restriction generates the possibility of a domestic coordinated default crisis, in which domestic borrowers find it optimal to default because all other borrowers are also defaulting. We conclude that avoiding sovereign defaults requires better internal institutions, not better external ones.

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Bibliographic Info

Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 13794.

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Date of creation: Feb 2008
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Handle: RePEc:nbr:nberwo:13794

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  1. Harold L. Cole & Timothy J. Kehoe, 1998. "Self-Fulfilling Debt Crises," Levine's Working Paper Archive 114, David K. Levine.
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  4. Narayana R. Kocherlakota, 2000. "Risky collateral and deposit insurance," Staff Report 274, Federal Reserve Bank of Minneapolis.
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Citations

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Cited by:
  1. Gennaioli, Nicola & Martin, Alberto & Rossi, Stefano, 2010. "Sovereign Default, Domestic Banks and Financial Institutions," CEPR Discussion Papers 7955, C.E.P.R. Discussion Papers.
  2. Enrique G. Mendoza & Vivian Z. Yue, 2012. "A General Equilibrium Model of Sovereign Default and Business Cycles," The Quarterly Journal of Economics, Oxford University Press, vol. 127(2), pages 889-946.
  3. Enrique G. Mandoza & Vivian Z. Yue, 2008. "A solution to the default risk-business cycle disconnect," International Finance Discussion Papers 924, Board of Governors of the Federal Reserve System (U.S.).
  4. Wang, Alan T. & Yang, Sheng-Yung & Yang, Nien-Tzu, 2013. "Information transmission between sovereign debt CDS and other financial factors – The case of Latin America," The North American Journal of Economics and Finance, Elsevier, vol. 26(C), pages 586-601.
  5. Satyajit Chatterjee & Burcu Eyigungor, 2011. "A quantitative analysis of the U.S. housing and mortgage markets and the foreclosure crisis," Working Papers 11-26, Federal Reserve Bank of Philadelphia.
  6. Carmen M. Reinhart & Kenneth S. Rogoff, 2008. "The Forgotten History of Domestic Debt," NBER Working Papers 13946, National Bureau of Economic Research, Inc.
  7. Enrique G. Mendoza & Vivian Z. Yue, 2008. "A Solution to the Disconnect between Country Risk and Business Cycle Theories," NBER Working Papers 13861, National Bureau of Economic Research, Inc.
  8. Aitor Erce Domiguez, 2010. "Debtor Discrimination During Sovereign Debt Restructurings," 2010 Meeting Papers 1324, Society for Economic Dynamics.
  9. Aitor Erce, 2012. "Selective sovereign defaults," Globalization and Monetary Policy Institute Working Paper 127, Federal Reserve Bank of Dallas.
  10. Bertrand Gruss & Karel Mertens, 2009. "Regime Switching Interest Rates and Fluctuations in Emerging Markets," Economics Working Papers ECO2009/22, European University Institute.
  11. Ureche-Rangau, Loredana & Burietz, Aurore, 2013. "One crisis, two crises…the subprime crisis and the European sovereign debt problems," Economic Modelling, Elsevier, vol. 35(C), pages 35-44.

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