A fiscal theory of sovereign risk

Author / Creator

Uribe, Martin

Available as

Online

Summary

Abstract: This paper presents a fiscal theory of sovereign risk and default. Under certain monetary-fiscal regimes, the risk of default, and thus the emergence of sovereign risk premia, are inevita...

Abstract: This paper presents a fiscal theory of sovereign risk and default. Under certain monetary-fiscal regimes, the risk of default, and thus the emergence of sovereign risk premia, are inevitable. The paper characterizes the equilibrium processes of the sovereign risk premium and the default rate under a number of alternative monetary policy arrangements. Under some of the policy environments considered, the expected default rate and the sovereign risk premium are zero although the government defaults regularly. Under other monetary regimes the default rate and the sovereign risk premium are serially correlated and therefore forecastable. Environments are characterized under which delaying default is counterproductive.

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