{
  "title": "Constrained Efficient Borrowing with Sovereign Default Risk",
  "publication": "IMF Working Papers, November 8, 2020",
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  "summary": "Using a quantitative sovereign default model, we characterize constrained efficient borrowing by a Ramsey government that commits to income-history-contingent borrowing paths taking as given ex-post optimal future default decisions.",
  "sections": [
    {
      "heading": "Summary",
      "content": "- Using a quantitative sovereign default model, the paper characterizes constrained efficient borrowing by a Ramsey government that commits to income-history-contingent borrowing paths taking as given ex-post optimal future default decisions.\n- The Ramsey government improves upon the Markov government because it internalizes the effects of borrowing decisions in period t on borrowing opportunities prior to t.\n- The effect of borrowing decisions in t on utility flows prior to t can be encapsulated by two single dimensional variables.\n- Relative to a Markov government, the Ramsey government distorts borrowing decisions more when bond prices are more sensitive to borrowing, and when changes in bond prices have a larger effect on past utility.\n- In a quantitative exercise, more than 80% of the default risk is eliminated by a Ramsey government, without decreasing borrowing.\n- The Ramsey government has a higher probability of completing a successful deleveraging (without defaulting), while smoothing out the fiscal consolidation."
    },
    {
      "heading": "Model insights and mechanisms",
      "content": "- Commitment device: Ramsey government commits to income-history-contingent borrowing paths while taking ex-post optimal future default decisions as given.\n- Intertemporal internalization: Borrowing choices in period t affect borrowing opportunities prior to t; these effects are summarized by two single dimensional state variables.\n- Price sensitivity channel: Greater sensitivity of bond prices to borrowing amplifies the Ramsey–Markov divergence in borrowing distortions.\n- Past-utility channel: When changes in bond prices have larger effects on past utility, the Ramsey distortion of borrowing decisions increases relative to a Markov government."
    },
    {
      "heading": "Quantitative findings",
      "content": "- More than 80% of the default risk is eliminated by a Ramsey government, without decreasing borrowing.\n- The Ramsey government increases the probability of successful deleveraging without default and smooths the required fiscal consolidation.\n\n---\n\n Content in this bundle\n\n- Working Paper\n  - Working Paper (Markdown version){rel=\"alternate\" type=\"text/markdown\"}\n  - Working Paper (PDF){rel=\"external\" type=\"application/pdf\"}\n\n---\n\nSource: https://www.imf.org/en/publications/wp/issues/2020/11/08/constrained-efficient-borrowing-with-sovereign-default-risk-49824"
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    "Authors: Juan Carlos Hatchondo, Leonardo Martinez, Francisco Roch",
    "Published: November 8, 2020",
    "Series: IMF Working Papers",
    "DOI: https://doi.org/10.5089/9781513560366.001",
    "Using a quantitative sovereign default model, the paper characterizes constrained efficient borrowing by a Ramsey government that commits to income-history-contingent borrowing paths taking as given ex-post optimal future default decisions.",
    "The Ramsey government improves upon the Markov government because it internalizes the effects of borrowing decisions in period t on borrowing opportunities prior to t.",
    "The effect of borrowing decisions in t on utility flows prior to t can be encapsulated by two single dimensional variables.",
    "Relative to a Markov government, the Ramsey government distorts borrowing decisions more when bond prices are more sensitive to borrowing, and when changes in bond prices have a larger effect on past utility.",
    "In a quantitative exercise, more than 80% of the default risk is eliminated by a Ramsey government, without decreasing borrowing.",
    "The Ramsey government has a higher probability of completing a successful deleveraging (without defaulting), while smoothing out the fiscal consolidation.",
    "Commitment device: Ramsey government commits to income-history-contingent borrowing paths while taking ex-post optimal future default decisions as given.",
    "Intertemporal internalization: Borrowing choices in period t affect borrowing opportunities prior to t; these effects are summarized by two single dimensional state variables.",
    "Price sensitivity channel: Greater sensitivity of bond prices to borrowing amplifies the Ramsey–Markov divergence in borrowing distortions.",
    "Past-utility channel: When changes in bond prices have larger effects on past utility, the Ramsey distortion of borrowing decisions increases relative to a Markov government.",
    "More than 80% of the default risk is eliminated by a Ramsey government, without decreasing borrowing.",
    "The Ramsey government increases the probability of successful deleveraging without default and smooths the required fiscal consolidation.",
    "**Working Paper**"
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