Sovereign default and asymmetric market information

It is not a novelty that emerging market economies are prone to poor institutions, additional layers of uncertainty and lack of transparency. There is quite a signi cant body of literature that shows the negative e ects due to lack of transparency. Among others, Gelos and Wei (2005) provide evidence that less transparent countries receive less investment and that during crisis they are more likely to experience high capital out ows.1 Marques, Gelos, and Melgar (2013) document that more opaque countries su er more from nancial globalization. Several economic crises have been partially worsened by lack of transparency. For instance, in the recent Asian crisis, Thai government has been accused of allowing an extremely opaque nancial sector to ourish. It is considered to be one of the key elements that triggered the nancial turmoil in 1997. The 2008-2009 debt crisis has shown that, eventually, no country is shielded from high interest rate spreads, unsustainable debt and lack of transparency. Even developed countries like Spain and Greece have been undermined by revealed hidden debts, economic uncertainty and respectively una ordable borrowing costs. 2 The lack of transparency practiced by a range of countries is puzzling. In present work, I study the implications of information asymmetry, that appears between government and lenders, on economic outcomes and analyze the conditions when governments prefer to be less transparent about their states of economy. In particular, the thesis focuses on the joint dynamics of asymmetric information between market participants and sovereign debt and default. In part I, Sovereign Debt and asymmetric market information", I show that in an environment when government is less uncertain about the future state of the economy than lenders are, the former ends up borrowing higher amount of debt and defaults more often. I start with bringing some evidence that shows a positive correlation between the debt to GDP level and future economic uncertainty (proxied by root mean square of GDP growth forecast errors) for di erent countries. Then, I extend the recent quantitative models of sovereign default by allowing asymmetry in information between the government and foreign lenders. The key ingredients are the information about future endowment and its accuracy which are received by market participants. The obtained results can be explained by the fact that in an environment when lenders observe more accurate information, the gains for the government when lenders observe good news are less than costs that are coming from lenders observing bad news. Therefore, on average, government ends up borrowing more when lenders are less informed about future endowment and o er a relatively better price. Chapter 1 focuses on the mechanism of the model and explains how the information precision a ects the level of demanded debt. In chapter 2, I simulate a small open economy and compare the results to the existing literature of endogenous sovereign default. In part II, Optimal Transparency", I study the economic conditions when government prefers to be less transparent about its state of economy. For this purpose, I develop a dynamic model of endogenous sovereign default with private information where both government and lenders act strategically and can update their beliefs upon observing government's actions. I nd that a government prefers to be opaque when it is overindebted, expects a more severe crisis, but with a lower probability. The rst two results are intuitive. A government that has high current debt or expects that recession is going to be more pronounced depends more on the external resources to nance its consumption. Therefore, a government that is experiencing a boom prefers to bear the cost of lower asset price so that it can enjoy a higher consumption if, eventually, a crisis comes. Additionally, I show that government prefers to be less transparent when it is more likely to have better times; and commits to disclose fully its state when it expects more likely to have bad times. If the probability of an upcoming crisis is very high, uninformed lenders increase the costs of borrowing. As a result, the optimal amount of debt under null transparency is close to the level that government in a crisis can borrow even if it reveals its state. Hence, government prefers to be fully transparent and enjoy higher consumption if it ends up in a good state during high probability of a crisis. If a recession is less likely, the price o ered by lenders increases, the amount of debt that a non-transparent government can borrow is higher and as a result, bene ts from being opaque also rise. Chapter 4 suggest some potential areas for future research.Programa Oficial de Doctorado en EconomíaPresidente: Stefan Niemann; Secretario: Hernan Daniel Seoane Bernadaz; Vocal: Davide Debortol

Comparing post-crisis dynamics across Euro Area countries with the Global Multi-country model

Abstract Following the global financial crisis, the Euro Area (EA) has experienced a persistent slump and notable trade balance adjustments, but with pronounced differences across EA Member States. We estimate a multi-country structural macroeconomic model to assess and compare the main drivers of GDP growth and trade balance adjustment across Germany, France, Italy, and Spain. We find that the pronounced post-crisis slump in Italy and Spain was mainly driven by positive saving shocks ('deleveraging') and by an increase in investment and intra-euro risk premia. Fiscal austerity in Spain and the productivity slowdown in Italy have been additional sizable contributors to the economic downturn. The results further suggest that euro depreciation, heightened intra-euro risk premia and subdued investment had a sizable impact on the trade balance reversals in Italy and Spain, which has been offset in France by a strong increase in imports and lower exports

Optimal government transparency

This paper studies the economic conditions under which a government chooses to disseminate information among its creditors. The government receives private information about economic output and provides public information, either implicitly by the actions it takes, or explicitly by communicating the true value of output. In a dynamic model of endogenous sovereign default, I find that the government prefers to be more transparent when it has lower debt, expects a lower drop in output, and the probability of receiving a low output is higher. A higher probability of a recession lowers the bond price and brings the optimal borrowing to a level where a transparent government can repay even if it receives a low output. Hence, higher borrowing costs, due to higher default risk, make the government to choose more transparency. The result is supported by empirical evidence for OECD. I find that an increase in borrowing cost (proxy for increase in likelihood of recession) by 1% is associated with a future increase in information transparency by 6%.status: publishe

Sovereign debt and asymmetric market information

I extend the recent quantitative models of sovereign default by allowing asymmetry in information between the government and foreign lenders. As a result, the model can account for the empirical fact that less transparent governments have higher levels of debt. Introducing information asymmetry emphasizes several mechanisms. First, a more informed government demands less precautionary savings. Second, less informed lenders offer a relatively better price when the probability of a bad outcome is higher. The effects of these channels are amplified when government is financially constrained, and any small change in price may trigger a default and bring the average debt level down considerably. Additionally, introducing asymmetric information allows assessing the consequences of the misalignment of market sentiments and generate business cycle moments closer to the one observed in the data.status: publishe

Financial spillover and global risk in a multi-region model of the world economy

This paper estimates a three-region DSGE model (EA, US, RoW) with international financial linkages in the form of cross-border equity holding and allowing for region-specific as well as global financial shocks, which match empirical measures of financial tightness and global stock market valuation. Spillover from financial shocks increases with international financial integration and is practically zero under full home bias in normal times. The global risk captures international synchronisation of financial cycles. Spillover of financial shocks is amplified at the zero lower bound, at which investment risk takes on the characteristics of a general uncertainty shock. The model results suggest that integrated financial markets should provide a powerful motivation for international policy coordination to prevent financial turmoil.JRC.B.1-Finance and Econom

The Global Multi-Country Model (GM): an Estimated DSGE Model for the Euro Area Countries. JRC Working Papers in Economics and Finance, 2017/10

This paper presents the European Commission's Global Multi-country model (the GM model). The GM model is an estimated multi-country DSGE model, developed by the European Commission, that can be used for spillover analysis, forecasting and medium term projections. Its development is jointly performed by the Joint Research Centre and DG ECFIN. Since the GM model is developed to be flexible under different country configurations,we present the GM model in its configuration designed for EMU-countries (GM3-EMU), which has been estimated for the four largest European economies (Germany, France, Italy and Spain). We analyse business cycle properties, present the model fit and provide a quantitative assessment of the relative importance that supply, demand and international shocks as well as discretionary policy interventions had in explaining the cyclical patterns observed in each country since the establishment of the EMU.JRC.B.1-Finance and Econom

Comparing post-crisis dynamics across Euro Area countries with the Global Multi-country model

Following the global financial crisis, the Euro Area (EA) has experienced a persistent slump and notable tradebalance adjustments, but with pronounced differences across EA Member States. We estimate a multi-countrystructural macroeconomic model to assess and compare the main drivers of GDP growth and trade balanceadjustment across Germany, France, Italy, and Spain. We find that the pronounced post-crisis slump in Italyand Spain was mainly driven by positive saving shocks (‘deleveraging’) and by an increase in investment andintra-euro risk premia. Fiscal austerity in Spain and the productivity slowdown in Italy have been additionalsizable contributors to the economic downturn. The results further suggest that euro depreciation, heightenedintra-euro risk premia and subdued investment had a sizable impact on the trade balance reversals in Italy andSpain, which has been offset in France by a strong increase in imports and lower exports.JRC.B.1-Finance and Econom