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- Title
Fiscal Adjustment and Official Reserves in Sovereign Debt Negotiations.
- Authors
Detragiache, Enrica
- Abstract
The article presents results from empirical studies on highly indebted countries. Empirical studies indicate that official reserves increase the creditworthiness of highly indebted countries. This evidence cannot be explained by existing bargaining models of sovereign debt, because sovereign immunity shelters official reserves from creditors' seizure. In the model proposed here, to service foreign debt the government must raise revenue through distortionary taxation. Large reserves reduce the fiscal burden of debt service, weakening the bargaining position of the debtor, and resulting in larger transfers to foreign creditors. In these circumstances, the debtor country may be better off repurchasing debt on the secondary market rather than accumulating official reserves. The study of the role of reserves suggests that it may be fruitful to bring these costs explicitly into the analysis. In the model presented here, fiscal adjustment is costly because taxation is distortionary. A more realistic model would also consider the political economy of the fiscal adjustment associated with foreign debt service. Work along these lines is likely to bring important insights to the analysis of the sovereign debt market and of country risk.
- Subjects
DEBTOR &; creditor; PUBLIC debts; DEBT service; TAXATION; FINANCIAL markets; BANKRUPTCY claims
- Publication
Economica, 1996, Vol 63, Issue 249, p81
- ISSN
0013-0427
- Publication type
Article
- DOI
10.2307/2554635