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Sovereign Defaults: The Role of Volatility

Luis Catão () and Bennett Sutton

No 2002/149, IMF Working Papers from International Monetary Fund

Abstract: While the relationship between volatility and credit risk is central to much of the literature on finance and banking, it has been largely neglected in empirical macro studies on sovereign defaults. This paper presents new econometric estimates for a panel of 25 emerging market countries over 1970-2001, breaking down aggregate volatility into its external and domestic policy components. We find that countries with historically higher macroeconomic volatility are more prone to default, and particularly so if part of this volatility is policy-induced. Reducing policy volatility thus appears to be key to improving a country's credit standing.

Keywords: WP; debt; Sovereign Debt; Macroeconomic Volatility; Emerging Markets; terms of trade volatility; terms of trade trade cycle; Policy volatility variable; emerging market government; credit standing; short-term debt; terms of trade variation; government balance; terms of trade change; Terms of trade; Debt default; Exchange restrictions; Fiscal stance; Asia and Pacific; Africa (search for similar items in EconPapers)
Pages: 26
Date: 2002-09-01
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Handle: RePEc:imf:imfwpa:2002/149