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- W1878342845 abstract "This paper develops a quantitative general equilibrium model of sovereign default with heterogeneous agents to account for spillover of default risk across countries. Borrowers (sovereign governments) and foreign lenders (investors) in the model face financial frictions, which endogenously determine each agent’s credit condition. Due to lack of enforcement in sovereign debt,borrowing constraints for the governments are endogenous to incentives to default for the governments.On the other hand, investors who hold a portfolio of sovereign debts face a collateral constraint that limits their leverage of investment in sovereign debts. When the collateral constraint for investors binds due to a decrease in the value of collateral, triggered by a high defaultrisk for one country, credit constrained investors ask for liquidity premiums even to countries in which there is no worsening of domestic fundamentals. This increase in the cost of borrowing,in turn, increases incentives to default for other countries with normal fundamentals, furtherconstraining investors in obtaining credit through a decrease in the value of collateral. The interplayof each agent’s credit condition generates a bad spiral through which we observe spread of default risk across countries. In a quantitative analysis, the model is calibrated to Greece and Spain, and predicts (1) that cross-county correlation in sovereign spreads between Greece andSpain increases significantly during a crisis period, and (2) that Spain’s default rate, conditional on Greece’ default, increases about three times compared to Spain’s unconditional default rate. The model’s predictions are consistent with the recent European debt crisis." @default.
- W1878342845 created "2016-06-24" @default.
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- W1878342845 date "2014-01-01" @default.
- W1878342845 modified "2023-09-23" @default.
- W1878342845 title "Contagion of Sovereign Default Risk: The Role of Two Financial Frictions." @default.
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- W1878342845 doi "https://doi.org/10.2139/ssrn.2530817" @default.
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