Information, Insurance and the Sustainability of Sovereign Debt

Toan Phan

Review of Economic Dynamics, 2016, vol. 22, 93-108

Abstract: In an influential paper, Bulow and Rogoff (1989) prove that in a competitive financial market, the threat of credit exclusion alone cannot sustain repayment of sovereign debt, as the defaulting government can still enter cash-in-advance insurance contracts. However, their result relies on an important assumption: symmetric information. This paper shows that if a debtor government has some private information about the underlying distribution of future economic shocks, then debt repayment is sustainable. This is true even if there is only one period with private information, and even if default does not have a spillover effect to any other relationship. The intuition is that a default is a signal of a bad distribution of future shocks, leading to higher risk premia on future financial contracts. (Copyright: Elsevier)

Keywords: Sovereign debt; insurance; asymmetric information (search for similar items in EconPapers)
JEL-codes: F34 F4 H63 (search for similar items in EconPapers)
Date: 2016
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (4)

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DOI: 10.1016/j.red.2016.06.006

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