Voluntary Debt Reduction: Incentives and Welfare
In an economy with a debt overhang, investment depends on expected tax rates. On the other hand, expected tax rates depend on the debt's face value. Therefore investment depends on the face value of debt. I show that this may lead to a positive or negative association between debt and investment depending on the degree of international capital mobility and attitudes toward risk. There may also exist multiple equilibria; with high and low investment levels. The paper explores the desirability of debt reduction in this environment. First, it characterizes circumstances in which debt reduction is desirable from the collective point of view of the creditors. Second, it formulates the forgiveness decision as a noncooperative game among creditors and explores the scope for debt reduction as an outcome of this game.
|Date of creation:||Aug 1988|
|Publication status:||published as International Monetary Fund Staff Papers, Vol. 36, No. 3, pp. 580-611,(September 1989).|
|Contact details of provider:|| Postal: National Bureau of Economic Research, 1050 Massachusetts Avenue Cambridge, MA 02138, U.S.A.|
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- Eaton, Jonathan, 1987. "Public Debt Guarantees and Private Capital Flight," World Bank Economic Review, World Bank Group, vol. 1(3), pages 377-395, May.
- Paul R. Krugman, 1988. "Market-Based Debt-Reduction Schemes," NBER Working Papers 2587, National Bureau of Economic Research, Inc.
- 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.
- Claessens, Stijn, 1990. "The debt laffer curve: Some estimates," World Development, Elsevier, vol. 18(12), pages 1671-1677, December.
- W. Max Corden, 1988. "An International Debt Facility?," IMF Staff Papers, Palgrave Macmillan, vol. 35(3), pages 401-421, September.
- Michael P. Dooley, 1988. "Buy-Backs and Market Valuation of External Debt," IMF Staff Papers, Palgrave Macmillan, vol. 35(2), pages 215-229, June.
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