Sovereign Defaults and Banking Crises
AbstractEpisodes of sovereign default feature three key empirical regularities in connection with the banking systems of the countries where they occur: (i) sovereign defaults and banking crises tend to happen together, (ii) commercial banks have substantial holdings of government debt, and (iii) sovereign defaults result in major contractions in bank credit and production. This paper provides a rationale for these phenomena by extending the traditional sovereign default framework to incorporate bankers that lend to both the government and the corporate sector. When these bankers are highly exposed to government debt a default triggers a banking crisis which leads to a corporate credit collapse and subsequently to an output decline. When calibrated to Argentina's 2001 default episode the model produces default on equilibrium with a frequency in line with actual default frequencies, and when it happens credit experiences a sharp contraction which generates an output drop similar in magnitude to the one observed in the data. Moreover, the model also matches several moments of the cyclical dynamics of macroeconomic aggregates.
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Bibliographic InfoPaper provided by University Library of Munich, Germany in its series MPRA Paper with number 41074.
Date of creation: 2012
Date of revision:
Sovereign Default; Banking Crisis; Credit Crunch; Optimal Fiscal Policy; Markov Perfect Equilibrium; Endogenous Cost of Default; Domestic Debt;
Other versions of this item:
- E62 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Fiscal Policy
- F34 - International Economics - - International Finance - - - International Lending and Debt Problems
This paper has been announced in the following NEP Reports:
- NEP-ALL-2012-09-16 (All new papers)
- NEP-BAN-2012-09-16 (Banking)
- NEP-DGE-2012-09-16 (Dynamic General Equilibrium)
- NEP-MAC-2012-09-16 (Macroeconomics)
- NEP-RMG-2012-09-16 (Risk Management)
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