with Jose-Victor Rios-Rull

Abstract: We show how to characterize the Markov equilibrium of the class of problems of unilateral default by means of functional equations including a Generalized Euler Equation, that is, an Euler equation that includes derivatives of decision rules as its arguments. The functional equations gives insights into the different margins: marginal utilities today and tomorrow, increased probabaility of future default and dilution of future debt with associated debt prices changes. A comparison with the functional equations that result from the problem under commitment provides additional insights into these environments without commitment. Our approach inspires the use of computational methods that take advantage of the derivatives of the decision rules for controlled accuracy even in the presence of kinks.

In progress. Some old slides download