Working Papers

March 2007, No. 07-1R

Heterogeneous Borrowers in Quantitative Models of Sovereign Default (Revised: Sep. 2008)

Juan Carlos Hatchondo, Leonardo Martinez and Horacio Sapriza

We extend the model used in recent quantitative studies of sovereign default, allowing policymakers of different types to alternate in power. We show that a default episode may be triggered by a change in the type of policymaker in office, and that such a default is likely to occur only if there is enough political stability and if policymakers encounter poor economic conditions.  Under high political stability, political turnover enables the model to generate a weaker correlation between economic conditions and default decisions, a higher and more volatile spread, and lower borrowing levels after a default episode.

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