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Commodity price risk management and fiscal policy in a sovereign default model

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  • Bernabe Lopez-Martin
  • Julio Leal
  • Andre Martinez Fritscher

Abstract

Commodity prices are an important driver of fiscal policy and the business cycle in many developing and emerging market economies. We analyze a dynamic stochastic small-open-economy model of sovereign default, featuring endogenous fiscal policy and stochastic commodity revenues. The model accounts for a positive correlation of commodity revenues with government expenditures and a negative correlation with tax rates. We quantitatively document the extent to which the utilization of different financial hedging instruments by the government contributes to lowering the volatility of different macroeconomic variables and their correlation with commodity revenues. An event analysis illustrates how financial hedging instruments moderate fiscal adjustment in response to significant falls in the price of commodities. We evaluate the conditional and unconditional welfare gains for the representative household, generated by financial derivatives and commodity-indexed bonds.

Suggested Citation

  • Bernabe Lopez-Martin & Julio Leal & Andre Martinez Fritscher, 2017. "Commodity price risk management and fiscal policy in a sovereign default model," BIS Working Papers 620, Bank for International Settlements.
  • Handle: RePEc:bis:biswps:620
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    1. Commodity price risk management and fiscal policy in a sovereign default model
      by Christian Zimmermann in NEP-DGE blog on 2017-05-03 01:33:22

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    Cited by:

    1. Pierre JACQUET & Alexis ATLANI & Marwan LISSER, 2017. "Policy responses to terms of trade shocks," Working Papers P205, FERDI.
    2. van der Ploeg, Frederick, 2016. "Macro Policy Responses to Natural Resource Windfalls and the Crash in Commodity Prices," CEPR Discussion Papers 11520, C.E.P.R. Discussion Papers.
    3. repec:eee:jmacro:v:55:y:2018:i:c:p:96-116 is not listed on IDEAS
    4. Pierre JACQUET & Alexis ATLANI & Marwan LISSER, 2017. "Policy responses to terms of trade shocks," Working Papers P205, FERDI.

    More about this item

    Keywords

    commodity revenues; hedging; indexed bonds; fiscal policy; sovereign default;

    JEL classification:

    • F34 - International Economics - - International Finance - - - International Lending and Debt Problems
    • F41 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - Open Economy Macroeconomics
    • F44 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - International Business Cycles

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