Working Paper: CEPR ID: DP8270
Authors: Daniel Cohen; Sébastien Villemot
Abstract: We distinguish two types of debt crises: those that are the outcome of exogenous shocks (to productivity growth for instance) and those that are endogenously created, either by self-fulfilling panic in financial markets or by the reckless behavior of "Panglossian" borrowers. After Krugman, we characterize as "Panglossian" those borrowers who only focus on their best growth prospects, anticipating to default on their debt if hit by an adverse shock, rationally ignoring the risk of default. We apply these categories empirically to the data. We show that, taken together, endogenous crises are powerful explanations of debt crises, more important for instance than the sheer effect of growth on a country's solvency.
Keywords: self-fulfilling crises; sovereign debt
JEL Codes: F34
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| debt-to-GDP ratio (H68) | likelihood of a debt crisis (F34) |
| real income per capita (E25) | likelihood of a debt crisis (F34) |
| currency overvaluation (F31) | likelihood of a debt crisis (F34) |
| self-fulfilling behavior (D91) | endogenous debt crises (F34) |
| self-fulfilling behavior (D91) | increase borrowing (H74) |
| increase borrowing (H74) | debt crisis (F34) |
| debt crisis (F34) | deterioration of country's fundamentals (F31) |
| deterioration of country's fundamentals (F31) | likelihood of future debt crises (F34) |