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The Cost of Reserves

  • Eduardo Levy Yeyati
  • Ugo Panizza

Few would dispute that sovereign defaults entail significant economic costs, including, most notably, important output losses. However, most of the evidence supporting this conventional wisdom, based on annual observations, suffers from serious measurement and identification problems. To address these drawbacks, we examine the impact of default on growth by looking at quarterly data for emerging economies. We find that, contrary to what is typically assumed, output contractions precede defaults. Moreover, we find that the trough of the contraction coincides with the quarter of default, and that output starts to grow thereafter, indicating that default episode, rather than a further decline, seems to mark the beginning of the economic recovery. This suggests that whatever negative effects a default may have on output, they are driven by its anticipation, independently of whether or not the country ultimately decides to validate it.

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Paper provided by Universidad Torcuato Di Tella in its series Business School Working Papers with number 2006-11.

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Length: 39 pages
Date of creation: May 2006
Date of revision:
Handle: RePEc:udt:wpbsdt:2006-11
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Web page: http://www.utdt.edu/listado_contenidos.php?id_item_menu=4994

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  4. Eduardo Levy Yeyati & Ugo Panizza, 2006. "The Cost of Reserves," Business School Working Papers 2006-11, Universidad Torcuato Di Tella.
  5. Jose Vicente Martinez and Guido Sandleris, 2008. "Is it Punishment? Sovereign Defaults and the Decline in Trade," Business School Working Papers 2008-01, Universidad Torcuato Di Tella.
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  17. Beaudry, Paul & Koop, Gary, 1993. "Do recessions permanently change output?," Journal of Monetary Economics, Elsevier, vol. 31(2), pages 149-163, April.
  18. Ozler, Sule, 1993. "Have Commercial Banks Ignored History?," American Economic Review, American Economic Association, vol. 83(3), pages 608-20, June.
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  23. Romain Ranciere & Olivier D Jeanne, 2006. "The Optimal Level of International Reserves for Emerging Market Countries; Formulas and Applications," IMF Working Papers 06/229, International Monetary Fund.
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