Optimal Debt Management

Juan Passadore, Galo Nuño Barrau and Saki Bigio

No 1642, 2017 Meeting Papers from Society for Economic Dynamics

Abstract: We study the problem of a planner in a small-open economy that chooses the issuance, pre-payment or purchase of bonds that differ in maturity. The objective is to smooth it’s net-of interest expenses and there are a continuum of possible maturities. The planner faces several sources of risk: (a) income-flow risk, (b) the yield-curve can stochastically change to any shape, and (c) the price sensitivity of his issuances may change. Finally, the planner must choose if and when to default. We develop a methodology to solve for the optimal distribution of debt maturity. We connect this methodology to classic economic insights and derive simple rules that practitioners can follow to design approximately optimal debt-management strategies. As an application, we study the debt profiles of several countries and provide an as- sessment of the risks that rationalize those holdings. Finally, we quantify the potential losses from poor debt management.

Date: 2017
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Persistent link: https://EconPapers.repec.org/RePEc:red:sed017:1642

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