Default Risk and Income Fluctuations in Emerging Economies
Arellano, Cristina. 2008. "Default Risk and Income Fluctuations in Emerging Economies."
American Economic Review,
Recent sovereign defaults are accompanied by interest rate spikes and deep
recessions. This paper develops a small open economy model to study default
risk and its interaction with output and foreign debt. Default
probabilities and interest rates depend on incentives for repayment.
Default is more likely in recessions because this is when it is more
costly for a risk averse borrower to repay noncontingent debt. The model
closely matches business cycles in Argentina predicting high volatility of
interest rates, higher volatility of consumption relative to output, and
negative correlations of output with interest rates and the trade balance.
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Arellano, Cristina (U MN and Federal Reserve Bank of Minneapolis)
E32: Business Fluctuations; Cycles
E43: Determination of Interest Rates; Term Structure of Interest Rates
F34: International Lending and Debt Problems
O11: Macroeconomic Analyses of Economic Development
O19: International Linkages to Development; Role of International Organizations