Please use this identifier to cite or link to this item: http://hdl.handle.net/10419/108621
Authors: 
Durdu, C. Bora
Nunes, Ricardo
Sapriza, Horacio
Year of Publication: 
2013
Series/Report no.: 
Koç University-TÜSİAD Economic Research Forum Working Paper Series 1309
Abstract: 
This paper builds a model of sovereign debt in which default risk, interest rates, and debt depend not only on current fundamentals but also on news about future fundamentals. News shocks affect equilibrium outcomes because they contain information about the likelihood that the government repays its debt in the future. First, in the model with news shocks not all defaults occur in bad times, bringing the model closer to the data. Second, the news shocks help account for key differences between developing and more developed economies: as the precision of news improves, the model predicts lower variability of consumption, less countercyclical trade balance and interest rate spreads, as well as a higher level of debt more in line with the characteristics of more developed economies. Third, the model also captures the hump-shaped relationship between default rates and the precision of news obtained from the data. Finally, the news shocks have a nonmonotonic effect on the welfare.
Subjects: 
sovereign default risk
news shocks
endogenous borrowing constraints
JEL: 
F34
F41
Document Type: 
Working Paper

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