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Private Debt with Default Risk within and across Border

  • Gao, Xiang

Following Jeske's (2006) decentralized international risk sharing arrangement where residents have access to international capital markets, this paper studies the presence of resident default risk on borrowing happened between domestic agents, in addition to default risk on private debt contracts across border. The paper shows that, without the assumption of perfect domestic contract enforcement, more international risk sharing and higher welfare can be supported. Moreover, the domestic interest rate equals to the highest marginal rate of substitution in countries that are participation constrained in international financial markets. This asset pricing result overturns the well established argument that interest rate should be the lowest to induce repayment in closed economy models with domestic credit crisis.

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Paper provided by University Library of Munich, Germany in its series MPRA Paper with number 17126.

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Date of creation: 01 Sep 2009
Date of revision:
Handle: RePEc:pra:mprapa:17126
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  1. Fernando Alvarez & Urban J. Jermann, 1999. "Quantitative asset pricing implications of endogenous solvency constraints," Working Papers 99-5, Federal Reserve Bank of Philadelphia.
  2. Patrick J. Kehoe & Fabrizio Perri, 2003. "Competitive equilibria with limited enforcement," Staff Report 307, Federal Reserve Bank of Minneapolis.
  3. Bulow, J. & Rogoff, K., 1988. "Sovereign Debt: Is To Forgive To Forget?," Working papers 8813, Wisconsin Madison - Social Systems.
  4. Wright, Mark L.J., 2006. "Private capital flows, capital controls, and default risk," Journal of International Economics, Elsevier, vol. 69(1), pages 120-149, June.
  5. Patrick J. Kehoe & Fabrizio Perri, 2002. "International Business Cycles with Endogenous Incomplete Markets," Econometrica, Econometric Society, vol. 70(3), pages 907-928, May.
  6. Timothy J. Kehoe & David K. Levine, 1992. "Debt constrained asset markets," Working Papers 445, Federal Reserve Bank of Minneapolis.
  7. Costas Azariadis & Luisa Lambertini, 2002. "Excess Asset Returns with Limited Enforcement," American Economic Review, American Economic Association, vol. 92(2), pages 135-140, May.
  8. Fernando Alvarez & Urban J. Jermann, 2000. "Efficiency, Equilibrium, and Asset Pricing with Risk of Default," Econometrica, Econometric Society, vol. 68(4), pages 775-798, July.
  9. Dirk Krueger & Fabrizio Perri, 2006. "Does Income Inequality Lead to Consumption Inequality? Evidence and Theory -super-1," Review of Economic Studies, Oxford University Press, vol. 73(1), pages 163-193.
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