Abstract:
This paper proposes a quantitative theory of the interaction between private and public debt in an open economy. Excessive private debt increases the frequency of financial crises. During such crises, the government provides fiscal bailouts financed with risky public debt. This response may cause a sovereign debt crisis, which is characterized by a higher probability of a sovereign default. The model is quantitatively consistent with the evolution of private debt, public debt, and sovereign spreads in Spain from 1999 to 2015, and provides an estimate of the degree of overborrowing, its effect on sovereign risk, and optimal macroprudential policy.
Federal Reserve Bank of Chicago working paper version
Abstract:
In this paper, we revisit the scope for macroprudential policy in production economies with pecuniary externalities and collateral constraints. We study competitive equilibria and constrained-efficient equilibria and examine the extent to which the gap between the two depends on the production structure and the policy instruments available to the planner. We argue that macroprudential policy is desirable regardless of whether the competitive equilibrium features more or less borrowing than the constrained-efficient equilibrium. In our quantitative analysis, macroprudential taxes on borrowing turn out to be larger when the government has access to ex-post stabilization policies.
Federal Reserve Bank of Chicago working paper version
Abstract:
We propose a macroprudential theory of foreign reserve accumulation that can rationalize the secular trends in public and private international capital flows. In middle-income countries, the increase in international reserves has been associated with elevated private capital inflows, both in the aggregate and in the cross-section, and reserve holdings have been more prominent in economies with a more open capital account. We present an open economy model of financial crises that is consistent with these features. We show that the optimal reserve accumulation policy leans against the wind, raising gross private borrowing while improving the economy's net foreign asset position and reducing the exposure to financial crises.
Federal Reserve Bank of Chicago working paper version
Abstract:
Political crises often coincide with fiscal crises, with complex causal dynamics at play. We examine the interaction between tax revolts and sovereign risk using a quantitative structural model calibrated to Argentina. In the model, the government can be controlled by political parties with different preferences for redistribution. Households may opt to revolt in response to the fiscal decisions of the ruler. While revolts entail economic costs, they also increase the likelihood of political turnover. Our model mirrors the data by generating political crises concurrent with fiscal turmoil. Specifically, we find that our model aligns closely with the conditions observed during the Macri administration (2015-2019). We find that left-leaning parties are more prone to default upon entering office, while right-leaning parties issue more debt. Our framework explains the high deficits observed during the Macri administration as well as the sovereign default that occurred immediately after the left regained power.
Federal Reserve Bank of Chicago working paper version
Abstract:
We explore the implications of household heterogeneity on the design and implementation of optimal macroprudential policies. We document that countries with higher levels of inequality exhibit higher levels of private borrowing and more recurrent sudden stop crises. We develop a production economy where households are heterogeneous in their labor productivity and have access to international credit markets subject to a collateral constraint that depends on their market income. As a result, high income households also have a higher borrowing capacity. We study the implications of this mechanism for the choice of labor and borrowing taxes for a government who faces a trade-off between decreasing the probability of a sudden stop and redistributive concerns.