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Optimal Domestic (And External) Sovereign Default

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  • Pablo D'Erasmo
  • Enrique Mendoza

Abstract

Infrequent but turbulent episodes of outright sovereign default on domestic creditors are considered a “forgotten history†in Macroeconomics. This paper proposes a heterogeneous-agents model in which optimal debt and default on domestic and foreign creditors are driven by distributional incentives and endogenous default costs due to the value of debt for self-insurance, liquidity and risk sharing. The government's aim to redistribute resources across agents and through time in response to uninsurable shocks produces a rich dynamic feedback mechanism linking debt issuance, the distribution of government bond holdings, the default decision, and risk premia. Calibrated to Spanish data, the model is consistent with key cyclical co-movements and features of debt-crisis dynamics. [Working Paper 22509]

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  • Pablo D'Erasmo & Enrique Mendoza, 2016. "Optimal Domestic (And External) Sovereign Default," Working Papers id:11228, eSocialSciences.
    • Handle: RePEc:ess:wpaper:id:11228
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    Cited by:

    1. Jeon, Kiyoung & Kabukcuoglu, Zeynep, 2018. "Income inequality and sovereign default," Journal of Economic Dynamics and Control, Elsevier, vol. 95(C), pages 211-232.
    2. Marina Azzimonti & Vincenzo Quadrini, 2018. "International Spillovers and Bailouts," NBER Working Papers 25011, National Bureau of Economic Research, Inc.
    3. Di Casola, Paola & Sichlimiris, Spyridon, 2017. "Domestic and External Sovereign Debt," Working Paper Series 345, Sveriges Riksbank (Central Bank of Sweden).
    4. Keiichiro Kobayashi & Kozo Ueda, 2022. "Secular Stagnation and Low Interest Rates under the Fear of a Government Debt Crisis," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 54(4), pages 779-824, June.
    5. Marina Azzimonti & Vincenzo Quadrini, 2019. "International spillovers and `ex-ante' efficient bailouts," 2019 Meeting Papers 318, Society for Economic Dynamics.

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    More about this item

    Keywords

    Optimal Domestic; External Sovereign Default; domestic creditors; Macroeconomics; heterogeneous-agents model; cyclical co-movements; debt-crisis dynamics;
    All these keywords.

    JEL classification:

    • E6 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook
    • E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy
    • F34 - International Economics - - International Finance - - - International Lending and Debt Problems
    • H63 - Public Economics - - National Budget, Deficit, and Debt - - - Debt; Debt Management; Sovereign Debt

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