Publications

Information Frictions, Reputation, and Sovereign Spreads [Journal of Political Economy], with Juan Morelli.  [Link] 

Abstract: We formulate a reputational model in which the type of government is time varying and private information. Agents adjust their beliefs about the government's type (i.e., reputation) using noisy signals about its policies. We consider a debt repayment setting in which reputation influences the market's perceived probability of default, affecting sovereign spreads. We focus on the 2007-12 Argentine episode of inflation misreport to quantify how markets price reputation. We find that the misreports significantly increased Argentina's sovereign spreads. We use those estimates to discipline our model and show that reputation can have long-lasting effects on a government's borrowing costs.

Working Papers

Inelastic Demand Meets Optimal Supply of Risky Sovereign Bonds [Link], with Lorenzo Pandolfi, Sergio Schmukler, German Villegas Bauer, and Tomas Williams. (Submitted)

We formulate a sovereign debt model with a rich yet flexible demand structure, featuring passive and active investors with asset-allocation mandates. In our framework, bond prices depend not only on government policies and default risk but also on investor composition and their price elasticity. We estimate this elasticity by combining our model with a novel strategy exploiting changes in the composition of the largest emerging-market bond index. We show that a downward-sloping demand acts as a disciplining device that mitigates debt dilution and lowers default risk. With greater market-driven discipline, fiscal rules have mild effects on spreads and default risk.

Geographic Funding Risk and Market Power in Deposit Markets [Link], with Juan Morelli and Venky Venkateswaran. (Submitted)

We develop a rich yet flexible spatial banking model to study how diversification and competition shape U.S. deposit markets. Deposit rates reflect both markups and risk premia from undiversified geographic risk. Calibrated to micro data, the model reveals sizable risk premia, especially in small, poor counties, and shows that recent banking consolidation has reduced these premia. In contrast, markups changed only modestly, so depositors in less diversified areas benefited the most. Further consolidation, e.g. acquisitions of small banks by large regional ones, would lower risk premia but reduce local lending, as larger banks reallocate credit toward more profitable markets.

On the Real Transmission of the Global Financial Cycle [Link], with Caitlin Hegarty, Pablo Ottonello, and Diego Perez.

We study the role of firm heterogeneity for economic transmission in open economies. Using firm-level data from a panel of emerging markets, we document that increases in the global price of risk are followed by heterogeneous investment dynamics, with contractions for risky firms and expansions for risk-free firms. By developing a quantitative heterogeneous-firm open economy model, we show that these cross-sectional empirical patterns can be explained by the presence of indirect channels that mitigate the negative response to external shocks. We use the model to assess macroeconomic transmission during external crises and sudden stops. Our findings indicate that allowing the exchange rate to depreciate during downturns plays a stabilizing role, by reducing risk exposure and facilitating the reallocation of economic activity across firms through larger relative price adjustments.

The Asymmetric Pass-Through of Sovereign Risk [new draft coming soon]

Abstract: This paper studies the macroeconomic effects of corporate risk during a sovereign debt crisis. I consider a heterogeneous-firms model with endogenous default in which domestic banks are exposed to sovereign and corporate risk. The model features a doom loop between banks' net worth and corporate risk that depends on the transmission of sovereign risk to firms. I use Italian data to estimate this transmission and describe important heterogeneous effects across firms. I use those estimates to discipline the model and find that through its effect on banks' net worth, corporate risk amplifies the drop in output by more than 25%.

Financial Innovation and Liquidity Premia in Sovereign Debt Markets [New draft coming soon...]

Abstract:  Issuances of state-contingent sovereign bonds have been limited in both quantity and frequency. One explanation emphasized in the literature is that these bonds may carry sizable liquidity premia due to the small size of their market. This paper quantifies how liquidity premia erode the potential benefits of introducing new debt instruments. I incorporate search frictions into a standard incomplete-markets sovereign debt model. The model features free entry of dealers and an increasing-returns-to-scale matching technology, linking the liquidity of new debt instruments to the size of their secondary market. When the outstanding amount of bonds is small, search frictions are more severe, as only a few dealers enter the market. This, in turn, leads to higher bid-ask spreads and a larger liquidity premium at issuance, raising the government’s financing costs. In a quantitative application focusing on GDP-linked bonds, I show that welfare gains from introducing this type of debt are reduced by more than 50% due to these frictions.

Work in progress

Capital Market Financing and Misallocation:  Evidence from Global Firm-level Issuances, with Manuel Garcia-Santana, Dmitri Kirpichev, and Sergio Schmukler

We quantify the implications of expanded firm access to capital market financing for investment and misallocation at both the micro and macro levels. Using a novel panel that links bond and equity issuances to firm-level balance sheets in 100 countries, we show that most of the growth in financing since the 2000s has come from new participants—firms absent from capital markets in the 1990s. New participants are smaller, younger, and exhibit higher marginal revenue products of capital (MRPK), especially in low- and middle-income countries (LMICs). Following an issuance, these firms expand investment and experience a 15% decline in MRPK, consistent with a relaxation of financial constraints. Effects for incumbents are limited. Evidence from China’s staggered equity-market liberalization supports these findings. Aggregating firm-level responses, we estimate that expanded market access reduced misallocation in LMICs by 3.6%, with new participants accounting for most of the gain.

Book Chapters

Bank and Nonbank Financial Institutions as Providers of Long-term Finance, with Martin Kanz, María Soledad Martínez Pería, Alvaro Enrique Pedraza Morales, and Sergio Schmukler; in Global Financial Development Report 2015/2016: Long-term Finance. The World Bank, Washington DC.

Policy Reports

The Changing Patterns of Financial Integration in Latin America, with Tatiana Didier and Sergio L. Schmukler.

Abstract: This paper describes how Latin America and the Caribbean has been integrating financially with countries in the North and South since the 2000s. The paper shows that the region is increasingly more connected with the rest of the world, even relative to gross domestic product. The region's connections with South countries have been growing faster than with North countries, especially during the second half of the 2000s. Nevertheless, North countries continue to be the region's principal source and receiver of flows. The changes reflect significant increases in portfolio investments, syndicated loans, and mergers and acquisitions. Growth of greenfield investments has been more subdued after the initial high level. Greenfield investments in the region have been in sectors in which the source country has a comparative advantage, not where the receiver country has an advantage. Mergers and acquisitions have been in sectors in which the receiver country has a comparative advantage.