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Optimal Maturity Structure of Sovereign Debt in Situation of Near Default

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by Gabriel Desgranges & Céline Rochon
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Optimal Maturity Structure of Sovereign Debt in Situation of Near Default by Gabriel Desgranges & Céline Rochon

We study the relationship between default and the maturity structure of the debt portfolio of a Sovereign, under uncertainty. The Sovereign faces a trade-off between a future costly default and a high current fiscal effort. This results into a debt crisis in case a large initial issuance of long term debt is followed by a sequence of negative macro shocks. Prior uncertainty about future fundamentals is then a source of default through its effect on long term interest rates and the optimal debt issuance. Intuitively, the Sovereign chooses a portfolio implying a risk of default because this risk generates a correlation between the future value of long term debt and future fundamentals. Long term debt serves as a hedging instrument against the risk on fundamentals. When expected fundamentals are high, the Sovereign issues a large amount of long term debt, the expected default probability increases, and so does the long term interest rate.

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Ebook Details
Pages: 43
Size: 1.3 MB
Publisher: INTERNATIONAL MONETARY FUND
Date published:   2014
ISBN: 9781498330435 (DRM-EPUB)

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Nonfiction > Business & Economics
Nonfiction > Business & Economics > Finance

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05/28/2017
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