Irreversibility, Lumpy Investment, and the Dynamics of Public Capital and Sovereign Debt

Alok Johri and Shunzhe Zhong

Department of Economics Working Papers from McMaster University

Abstract: We build a sovereign default model of a small open economy where the government’s public capital accumulation faces two investment frictions: capital irreversibility and lumpy investment induced by fixed costs. We show that irreversible public capital and lumpiness both individually and together, lower default risk. A model with convex adjustment costs and neither investment friction requires 13% higher default costs at mean productivity in order to match the data relative to our Benchmark. Borrowing costs are lower when the government invests to grow the public capital stock relative to when it does not, ceteris paribus. When the public capital stock is low, the government issues debt primarily to invest, whereas at higher public capital levels, it borrows mainly for consumption smoothing. We provide evidence from emerging economy data for these results.

Keywords: Sovereign default; sovereign spreads; public capital; investment frictions (search for similar items in EconPapers)
JEL-codes: E22 F34 F41 G15 H63 (search for similar items in EconPapers)
Pages: 43 pages
Date: 2026-11
References: Add references at CitEc
Citations:

Downloads: (external link)
http://socialsciences.mcmaster.ca/econ/rsrch/papers/archive/2026-06.pdf (application/pdf)

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:mcm:deptwp:2026-06

Access Statistics for this paper

More papers in Department of Economics Working Papers from McMaster University Contact information at EDIRC.
Bibliographic data for series maintained by ().