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Pecuniary Externalities in Competitive Economies with Limited Pledgeability

Author

Listed:
  • V. Filipe Martins-Da-Rocha

    (LEDa - Laboratoire d'Economie de Dauphine - IRD - Institut de Recherche pour le Développement - Université Paris Dauphine-PSL - PSL - Université Paris Sciences et Lettres - CNRS - Centre National de la Recherche Scientifique, EESP - Sao Paulo School of Economics - FGV - Fundacao Getulio Vargas [Rio de Janeiro])

  • Toan Phan

    (Federal Reserve Bank of Richmond)

  • Yiannis Vailakis

    (Adam Smith Business School - University of Glasgow)

Abstract

We analyze the efficiency properties of competitive economies with strategic default and limited pledgeability. We show that laissez-faire equilibria can be constrained suboptimal. Under certain conditions, imposing tighter borrowing constraints (relative to the laissez-faire regime) can make everybody in the economy better off. The inefficiency is due to the interaction between debt pricing and the default option, which generates a pecuniary externality. We also show that a Pigouvian subsidy on net financial positions may induce borrowers to internalize this externality and increase welfare.

Suggested Citation

  • V. Filipe Martins-Da-Rocha & Toan Phan & Yiannis Vailakis, 2022. "Pecuniary Externalities in Competitive Economies with Limited Pledgeability," Working Papers hal-03909596, HAL.
    • Handle: RePEc:hal:wpaper:hal-03909596
    Note: View the original document on HAL open archive server: https://hal.science/hal-03909596
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    References listed on IDEAS

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    Keywords

    Limited pledgeability; Debt constraints; Constrained inefficiency; Macroprudential interventions.;
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