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A self-fulfilling model of Mexico's 1994-95 debt crisis

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  • Harold L. Cole
  • Timothy J. Kehoe

Abstract

This paper explores the extent to which the Mexican government's inability to roll over its debt during December 1994 and January 1995 can be modeled as a self-fulfilling debt crisis. In the model there is a crucial interval of debt for which the government, although it finds it optimal to repay old debt if it can sell new debt, finds it optimal to default if it cannot sell new debt. If government debt is in this interval, which we call the crisis zone, then we can construct equilibria in which a crisis can occur stochastically, depending on the realization of a sunspot variable. The size of this zone depends on the average length of maturity of government debt. Our analysis suggests that for a country, like Mexico, with a very short maturity structure of debt, the crisis zone is large and includes levels of debt as low as that in Mexico before the crisis.

Suggested Citation

  • Harold L. Cole & Timothy J. Kehoe, 1996. "A self-fulfilling model of Mexico's 1994-95 debt crisis," Staff Report 210, Federal Reserve Bank of Minneapolis.
  • Handle: RePEc:fip:fedmsr:210
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    References listed on IDEAS

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    1. Alberto Alesina & Alessandro Prati & Guido Tabellini, 1989. "Public Confidence and Debt Management: A Model and A Case Study of Italy," NBER Working Papers 3135, National Bureau of Economic Research, Inc.
    2. Calvo, Guillermo A, 1988. "Servicing the Public Debt: The Role of Expectations," American Economic Review, American Economic Association, vol. 78(4), pages 647-661, September.
    3. F. Giavazzi & M. Pagano, 1989. "Confidence Crises and Public Debt Management," Working Papers 73, Dipartimento Scienze Economiche, Universita' di Bologna.
    4. Harold L. Cole & Timothy J. Kehoe, 2000. "Self-Fulfilling Debt Crises," Review of Economic Studies, Oxford University Press, vol. 67(1), pages 91-116.
    5. Chari, V V & Kehoe, Patrick J, 1990. "Sustainable Plans," Journal of Political Economy, University of Chicago Press, vol. 98(4), pages 783-802, August.
    6. Calvo, Guillermo A & Guidotti, Pablo E, 1992. "Optimal Maturity of Nominal Government Debt: An Infinite-Horizon Model," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 33(4), pages 895-919, November.
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    Keywords

    Financial crises - Mexico ; Debts; External ; Mexico;

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