Equilibrium Default Cycles

Natalia Kovrijnykh (natalia.kovrijnykh@asu.edu) and Balázs Szentes

Journal of Political Economy, 2007, vol. 115, issue 3, 403-446

Abstract: This paper analyzes Markov equilibria in a model of strategic lending in which (i) agents cannot commit to long-term contracts, (ii) contracts are incomplete, and (iii) incumbent lenders can coordinate their actions. Default cycles occur endogenously over time along every equilibrium path. After a sequence of bad shocks, the borrower in a competitive market accumulates debt so large that the incumbent lenders exercise monopoly power. Even though the incumbents could maintain this power forever, they find it profitable to let the borrower regain access to the competitive market after a sequence of good shocks. Equilibria are computed numerically, and their attributes are qualitatively consistent with numerous known empirical facts on sovereign lending. In addition, the model predicts that a borrower who accumulates debt overhang will regain access to the competitive credit market only after good shocks. This prediction is shown to be consistent with data on emerging market economies.

Date: 2007
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (53)

Downloads: (external link)
http://dx.doi.org/10.1086/519749 (text/html)
Access to the online full text or PDF requires a subscription.

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:ucp:jpolec:v:115:y:2007:p:403-446

DOI: 10.1086/519749

Access Statistics for this article

More articles in Journal of Political Economy from University of Chicago Press
Bibliographic data for series maintained by Journals Division (pubtech@press.uchicago.edu).