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North-South Lending with Moral Hazard and Repudiation Risk

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Author Info
Philip Lane

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Abstract

We show that the joint presence of moral hazard and repudiation risk generates an importnat interaction effect. In order to provide the proper incentives to borrowers, the optimal financial contract under moral hazard calls for all available resources to be paid to the lender in the event of a poor realization for output. Repudiation risk limits the size of this transfer, as the debtor has the option to default. This upper bound on the resource transfer exacerbates the moral hazard problem, reducing lending and the equilibrium level of investment and output.

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File URL: http://www.tcd.ie/Economics/TEP/1998/989.pdf
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Paper provided by Trinity College Dublin, Department of Economics in its series Economics Technical Papers with number 989.

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Date of creation: 1998
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Handle: RePEc:tcd:tcduet:989

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Postal: Trinity College, Dublin 2
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Find related papers by JEL classification:
E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy
F21 - International Economics - - International Factor Movements and International Business - - - International Investment; Long-Term Capital Movements
F34 - International Economics - - International Finance - - - International Lending and Debt Problems

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  1. Assaf Razin & Efraim Sadka & Chi-Wa Yuen, 2001. "Why International Equity Inflows to Emerging Markets are Inefficient and Small Relative to International Debt Flows," NBER Working Papers 8659, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
  2. Philip R. Lane, 2004. "Empirical Perspectives on Long-Term External Debt," The B.E. Journal of Macroeconomics, Berkeley Electronic Press, vol. 0(1). [Downloadable!]
  3. Jose Vicente Martinez and Guido Sandleris, 2008. "Is it Punishment? Sovereign Defaults and the Decline in Trade," Business School Working Papers 2008-01, Universidad Torcuato Di Tella. [Downloadable!]
  4. Lane, Philip R. & Milesi-Ferretti, Gian Maria, 2000. "External Capital Structure: Theory and Evidence," CEPR Discussion Papers 2583, C.E.P.R. Discussion Papers. [Downloadable!] (restricted)
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  5. Indradeep Ghosh, 2007. "The Relation between Trade and FDI in Developing Countries -- A Panel Data Approach," Global Economy Journal, Berkeley Electronic Press, vol. 7(3). [Downloadable!]
  6. Assaf Razin & Efraim Sadka & Chi-Wa Yuen, 1998. "Capital Flows with Debt-And Equity-Financed Invesment: Equilibrium Structure and Efficiency Implications," CEMA Working Papers: Serie Documentos de Trabajo. 136, Universidad del CEMA. [Downloadable!]
    Other versions:
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