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The Aggregate-Demand Doom Loop: Precautionary Motives and the Welfare Costs of Sovereign Risk

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  • Francisco Roldán

Abstract

I examine the role of households' precautionary savings motive in amplifying and propagating movements in sovereign spreads. I study this mechanism in a model where the government of a small open economy borrows from foreigners, but the debt is then partially held by heterogeneous domestic savers. In a calibration to Spain in the 2000s, I find that default risk accounts for about half of the output contraction. More generally, sovereign risk exacerbates volatility in consumption over time and across agents, creating large and unequal welfare costs even if default does not materialize.

Suggested Citation

  • Francisco Roldán, 2025. "The Aggregate-Demand Doom Loop: Precautionary Motives and the Welfare Costs of Sovereign Risk," American Economic Journal: Macroeconomics, American Economic Association, vol. 17(3), pages 160-204, July.
    • Handle: RePEc:aea:aejmac:v:17:y:2025:i:3:p:160-204
    DOI: 10.1257/mac.20220248
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    More about this item

    JEL classification:

    • E21 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Consumption; Saving; Wealth
    • F41 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - Open Economy Macroeconomics
    • G51 - Financial Economics - - Household Finance - - - Household Savings, Borrowing, Debt, and Wealth
    • H63 - Public Economics - - National Budget, Deficit, and Debt - - - Debt; Debt Management; Sovereign Debt

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