Internal Debt Crises and Sovereign Defaults

Cristina Arellano and Narayana Kocherlakota ()

No 13794, NBER Working Papers from National Bureau of Economic Research, Inc

Abstract: In this paper, we use data from developing countries to argue that sovereign defaults are often caused by fiscal pressures generated by large-scale domestic defaults. We argue that these systemic domestic defaults are caused by shocks best interpreted as being non-fundamental. We construct a model that is consistent with these observations. The key ingredient of the model is that it is impossible to liquidate large amounts of entrepreneurial assets. This restriction generates the possibility of a domestic coordinated default crisis, in which domestic borrowers find it optimal to default because all other borrowers are also defaulting. We conclude that avoiding sovereign defaults requires better internal institutions, not better external ones.

JEL-codes: F34 G33 (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-dev and nep-dge
Date: 2008-02
Note: EFG IFM
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Working Paper: Internal Debt Crises and Sovereign Defaults (2008)
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