Browsing by Subject "Default risk"

Now showing 1 - 3 of 3
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    Essays on International Macroeconomics
    (2023-05) RAMESH, HAYAGREEV
    This dissertation consists of three chapters. In the first chapter, I document thatSpain had a private sector debt boom leading up to the financial crisis and an increase in private sector defaults and subsequent deleveraging thereafter. However, the government sharply increased its debt during the crisis. I build a model torationalize these facts. In my model both firms and the government have limited commitment to repay and borrow from external lenders. Default is costly both for firms and the government. In the crisis that I simulate, I am able to replicate higher default rates and deleveraging of firms as in the data. However, in my model the government also reduces its debt which is contrary to what is seen in the data. In the second chapter, I document that following the formation of the European Monetary Union (EMU), there was a boom in external sovereign debt in Greece, Portugal and Italy. I analyze Greece, for which I observe that expectations of as well as realized GDP growth were significantly higher in the first decade after joining the EMU. I calibrate a sovereign default model to resemble the Greek economy prior to joining the EMU. I then re-estimate GDP parameters using data only during the subsequent boom that followed Greece’s accession to EMU and simulate my model with the new output process, keeping all other parameters unchanged. I find that the output boom only accounts for 33% of the debt boom between 1999 and 2008. In chapter 3, I document that contemporaneous with the sovereign debt boom, there was also a boom in holdings of the sovereign bonds of Greece, Portugal and Italy by banks within the EMU. I argue that banks’ large sovereign bond holdings created expectations of bailouts amongst non-bank investors, leading to suppressed spreads and the subsequent debt boom. I analyze Greece and document that EMU banks’ holdings of Greek sovereign debt increased six fold after Greece joined the EMU. I build a sovereign default model with a bailout authority whose objective is to maximize the net worth of banks in the EMU net of the costs of enacting bailouts. I model banks’ bond holdings as in the data and find that this model accounts for 55% of the Greek debt boom from 1999 to 2008. This finding suggests a re-evaluation of banking regulations in the EMU that encourage holding sovereign bonds of member countries.
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    Essays on Sovereign Bond Markets
    (2023-07) Yang, Juyoung
    This dissertation comprises three chapters investigating the impact of informa- tion frictions and market segmentation on debt financing in a small open economy.In the first chapter, I examine debt crises in countries relying on bond auctions to finance outstanding debt. Using a noisy rational expectation model, I show that information frictions can trigger debt crises even when fundamentals alone wouldn’t. Pessimistic signals can lead to defaults with low default risk fundamentals, while optimistic signals can avert defaults with high default risk fundamentals. The second and third chapters study sovereign credit ratings’ implications for developing countries. I explore the impact of market segmentation from ratings on default risk and borrowing behavior. Using emerging market panel data, I estimate bond spread responses to downgrades to junk rating, emphasizing regulatory thresh- olds. The third chapter introduces a quantitative sovereign default model incorporat- ing credit ratings and segmented markets. I find higher spreads imply a 200-basis- point higher discount rate on junk bonds. Beyond a threshold, downgrades lead to higher interest rates, reducing default risk and raising bond prices. Segmentation benefits low-debt states, mitigating overborrowing friction and providing welfare gains. A looser rating rule diminishes these gains.
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    Essays on Sovereign Debt Auctions
    (2024-07) Alves Monteiro, Ricardo
    This dissertation consists of three chapters. In the first chapter, using a dataset containing individual bids on Portuguese debt auctions, I document changes in investors' demand for sovereign debt during a debt crisis. I find that bid functions become more inelastic during the crisis. Particularly, the inverse of the price elasticity is, on average, up to thirteen times larger leading up to and during the crisis. That is, on average, in order to increase the amount raised by 1%, the price would need to decrease, in percentage terms, by thirteen times more than it had before the crisis. I then decompose the changes in demand into two components: a fundamental component, due to changes in valuation, and a strategic component, that arises from investors' market power. Although the role of market power is negligible in normal times, it gets more pronounced leading up and during the crisis. The auction mechanism loses efficiency during that period as the government is not able to extract the full surplus from strategic investors. At their peak, inefficiency costs jump to 0.6% of the issued amount. Finally, I discuss a possible mitigation strategy. Everything else constant, shorter maturities should be used to avoid higher inefficiency costs. The second chapter is joint work with Stelios Fourakis. We study the impact that alternative ways of issuing sovereign debt have on borrowing decisions and the cost of debt. We build a model of sovereign borrowing and default with repeated auctions, disciplined with proprietary bid level data. We calibrate the model to the Portuguese economy and find that it generates spreads with a volatility that significantly exceeds their mean, as in the data, a documented shortcoming of previous sovereign debt models. We then use the calibrated model to perform a counterfactual, comparing the two most common types of auction: uniform and discriminatory price auctions. We find that switching to a uniform protocol constitutes a Pareto improvement, and that the difference in welfare is highest during crises (up to 0.6% of permanent consumption in the small open economy). This result aligns with the observed switch to a uniform protocol in Portugal following the sovereign debt crisis of the 2010s. We find that accounting for dynamic effects is crucial. In a single auction setting, given standard values for risk aversion of the government, the discriminatory protocol is optimal. However, with repeated auctions, the insurance properties of the discriminatory protocol lead to over-borrowing. This mechanism, and its effect on prices, makes the uniform protocol a better option. The third chapter is joint with Stelios Fourakis. We study how different auction protocols make the government more or less vulnerable to multiplicity driven by self-fulfilling prophecies. First, we describe how using a discriminatory price protocol may create a new type of static multiplicity: as investors pay as bid, equilibrium bids depend on investors' beliefs about how much debt the government is going to issue in a given auction, and different beliefs may support different equilibria. Then, we show that for linear flow utility the equilibrium under a discriminatory price protocol is still unique. We conjecture that this static multiplicity requires a substantial level of risk aversion, and for low risk aversion, we should still expect uniqueness. Finally, we show that using the discriminatory price protocol eliminates the type of multiplicity found in Calvo (1988).