Job Market Paper

Private Overborrowing under Sovereign Risk (latest version: December 2020)


This paper argues that excessive international private debt increases the frequency and severity of sovereign debt crises. I develop a quantitative theory of private and public debt that allows me to measure the level of private overborrowing and its effect on the interest rate spread paid on public debt. In an environment where private credit is constrained by the market value of income, individually optimal private borrowing decisions are inefficient at the aggregate level. High private debt increases the probability of a financial crisis. During such crises, drops in consumption cause a decline in the market value of collateral that in turn further reduces consumption. To mitigate this financial amplification mechanism, the government responds with large fiscal bailouts financed with risky external public debt. I show that this response then causes a sovereign debt crisis, characterized by high interest rate spreads and in some cases default. I find that the model is quantitatively consistent with the evolution of international private debt, international public debt, and sovereign spreads in Spain from 1999 to 2015. I estimate that private debt was 5% of GDP above the socially optimal level in the lead-up to the crisis. Private overborrowing increased the annual probability of a financial crisis by 2.4 percentage points. Finally, excessive private debt raised the interest rate spread on public bonds by at least 3.8 percentage points at its peak in 2012.

Working Papers


This paper proposes a theory of foreign reserves as macroprudential policy. We study an open economy model of financial crises, in which pecuniary externalities lead to overborrowing, and show that by accumulating international reserves, the government can achieve the constrained-efficient allocation. The optimal reserve accumulation policy leans against the wind and significantly reduces the exposure to financial crises. The theory can explain the empirical patterns of public and private international capital flows, both in the cross-section and over time.

Work in progress

Optimal Redistribution in a Sudden Stop-Prone Economy (with Monica Tran Xuan)


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.