Debt crises, fast and slow

Giancarlo Corsetti and Fred Seunghyun Maeng

No 2019, Discussion Papers from Centre for Macroeconomics (CFM)

Abstract: With the Covid-19 pandemic, public debt around the world is rising to unprecedented heights in peacetime. We revisit the mechanisms by which, driven by self-fulfilling expectations, both slow-moving and rollover (fast) crises are pervasive at intermediate and high levels of debt, respectively. In both strategic-default and debt-limit models, belief-driven shifts in market assessment of risk translate into shifts of the market debt tolerance thresholds - to such an extent that sovereigns may lose market access even if they were able to borrow risk free in a "good equilibrium". Long debt maturities may/may not shield countries from this adverse scenario. In a sunspot equilibrium, the threat of belief-driven crises may not be enough for the government to deleverage in a recession, and bring debt to default-free levels. Unless the initial debt is close enough to the critical threshold above which the country becomes vulnerable to such crises, the government will keep borrowing, gambling on economic recovery in the future.

Keywords: Sovereign default; Self-fulfilling crises; Expectations; Debt sustainability (search for similar items in EconPapers)
JEL-codes: E43 E62 H50 H63 (search for similar items in EconPapers)
Pages: 46 pages
Date: 2020-06
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (1)

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Related works:
Working Paper: Debt Crises, Fast and Slow (2020)
Working Paper: Debt Crises, Fast and Slow (2020)
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Persistent link: https://EconPapers.repec.org/RePEc:cfm:wpaper:2019

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