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Financial sector inefficiencies and the debt Laffer curve

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  • Agenor, Pierre-Richard
  • Aizenman, Joshua

Abstract

The authors analyze the implications of inefficient financial intermediation for dbt management, using a model in which firms rely on bank credit to finance their working capital needs, and, lenders face a high state verification and enforcement costs of loan contracts. Their analysis shows that lower expected productivity, higher contract enforcement, and verification costs, or higher volatility of productivity shocks may shift the economy to the wrong side of the debt Laffer curve, with potentially sizable output, and welfare losses. The main implication of this analysis is that debt relief may generate little welfare gains, unless is accompanied by reforms aimed at reducing financial sector inefficiencies.

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Bibliographic Info

Paper provided by The World Bank in its series Policy Research Working Paper Series with number 2842.

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Date of creation: 31 May 2002
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Handle: RePEc:wbk:wbrwps:2842

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Keywords: Banks&Banking Reform; Economic Theory&Research; Payment Systems&Infrastructure; Environmental Economics&Policies; Strategic Debt Management; Economic Theory&Research; Banks&Banking Reform; Environmental Economics&Policies; Financial Intermediation; Strategic Debt Management;

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References

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  1. Joshua Aizenman & Nancy P. Marion, 1999. "Uncertainty and the Disappearance of International Credit," NBER Working Papers 7389, National Bureau of Economic Research, Inc.
  2. Jonathan Eaton & Mark Gersovitz & Joseph E. Stiglitz, 1991. "The Pure Theory of Country Risk," NBER Chapters, in: International Volatility and Economic Growth: The First Ten Years of The International Seminar on Macroeconomics, pages 391-435 National Bureau of Economic Research, Inc.
  3. Pierre-Richard Agénor & Joshua Aizenman, 1998. "Contagion and Volatility with Imperfect Credit Markets," IMF Staff Papers, Palgrave Macmillan, vol. 45(2), pages 207-235, June.
  4. Agenor, Pierre-Richard & Aizenman, Joshua & Hoffmaister, Alexander, 1999. "Contagion, bank lending spreads, and output fluctuations," Policy Research Working Paper Series 2186, The World Bank.
  5. Helpman, Elhanan, 1989. "The Simple Analytics of Debt-Equity Swaps," American Economic Review, American Economic Association, vol. 79(3), pages 440-51, June.
  6. Townsend, Robert M., 1979. "Optimal contracts and competitive markets with costly state verification," Journal of Economic Theory, Elsevier, vol. 21(2), pages 265-293, October.
  7. Paul R. Krugman, 1988. "Financing vs. Forgiving a Debt Overhang," NBER Working Papers 2486, National Bureau of Economic Research, Inc.
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Cited by:
  1. Agénor, Pierre-Richard & Aizenman, Joshua, 2011. "Capital market imperfections and the theory of optimum currency areas," Journal of International Money and Finance, Elsevier, vol. 30(8), pages 1659-1675.
  2. Guler Aras & Lale Aslan, 2011. "Capital structure and credit risk management: evidence from Turkey," International Journal of Accounting and Finance, Inderscience Enterprises Ltd, vol. 3(1), pages 1-20.

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