We find the optimal target values for fiscal rules and measure their aggregate effects using a model of sovereign default. We calibrate the model to an economy that pays a significant sovereign default premium when the government is not constrained by fiscal rules. For different levels of the default premium, we find that a government with a debt of 38 percent of trend income (typical in the case studied here) chooses to commit to a debt ceiling of 30 percent of trend income that starts being enforced four years after its announcement. This rule generates expectations of lower future indebtedness, and thus it allows the government to borrow at interest rates significantly lower than the ones it pays without a rule. We also study the case in which the government conducts a voluntary debt restructuring to capture the capital gains from the increase in its debt market value implied by the existence of a fiscal rule. In this case, the government is found to choose instead a debt ceiling of 25 percent of trend income that starts being enforced less than two years after its announcement. After the imposition of the debt ceiling, lower debt levels allow the government to implement a less procyclical fiscal policy that reduces consumption volatility. However, the government prefers a procyclical debt ceiling that implies a larger reduction of the default probability at the expense of a higher consumption volatility.JEL classification: F34, F41.
In the Mundell-Fleming framework, standard monetary policy and exchange rate flexibility fully insulate economies from shocks. However, that framework abstracts from many real world imperfections, and countries often resort to unconventional policies to cope with shocks, such as COVID-19. This paper develops a model of optimal monetary policy, capital controls, foreign exchange intervention, and macroprudential policy. It incorporates many shocks and allows countries to differ across the currency of trade invoicing, degree of currency mismatches, tightness of external and domestic borrowing constraints, and depth of foreign exchange markets. The analysis maps these shocks and country characteristics to optimal policies, and yields several principles. If an additional instrument becomes available, it should not necessarily be deployed because it may not be the right tool to address the imperfection at hand. The use of a new instrument can lead to more or less use of others as instruments interact in non-trivial ways.
Motivated by the recent European debt crisis, this paper investigates the scope for a bailout guarantee in a sovereign debt crisis. Defaults may arise from negative income shocks, government impatience or a "sunspot"-coordinated buyers strike. We introduce a bailout agency, and characterize the minimal actuarially fair intervention that guarantees the no-buyers-strike fundamental equilibrium, relying on the market for residual financing. The intervention makes it cheaper for governments to borrow, inducing them borrow more, leaving default probabilities possibly rather unchanged. The maximal backstop will be pulled precisely when fundamentals worsen. JEL Classification Numbers: F34, F41.
Motivated by the recent European debt crisis, this paper investigates the scope for a bailout guarantee in a sovereign debt crisis. Defaults may arise from negative income shocks, government impatience or a "sunspot"-coordinated buyers strike. We introduce a bailout agency, and characterize the minimal actuarially fair intervention that guarantees the no-buyers-strike fundamental equilibrium, relying on the market for residual financing. The intervention makes it cheaper for governments to borrow, inducing them borrow more, leaving default probabilities possibly rather unchanged. The maximal backstop will be pulled precisely when fundamentals worsen. JEL Classification Numbers: F34, F41.
This paper analyzes the macroeconomic adjustment in commodityexporting countries to commodity price shocks. First, I estimate a heterogenous panel SVAR using data from 22 commodityexporting economies spanning the period 1980-2017. I find that commodity terms of trade shocks are an important driver of business-cycle fluctuations: they explain around 30 percent of movements in output, contrary to the 10 percent found in recent studies. However, there is wide variation in the responses to a commodity terms of trade innovation across countries. Second, I use panel SVARs to study the role of various key country characteristics and economic policies in the macroeconomic response to these shocks. I find evidence that exchange rate flexibility, inflation targeting regimes and fiscal rules help insulate the economy from commodity price movements.
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