Working Paper: NBER ID: w18377
Authors: Russell Cooper
Abstract: This paper studies debt fragility and the sharing of the resulting strategic uncertainty through ex post bailouts. Default arises in equilibrium because of both fundamental shocks and beliefs. The probability of default depends on borrowing rates and, in equilibrium, on the beliefs of lenders about this probability. This interaction creates a strategic complementarity and thus the basis for strategic uncertainty. The paper analyzes the role of credible ex post bailouts as a means of sharing both fundamental and strategic uncertainty. While bailouts may occur in some states, debt fragility remains.
Keywords: debt fragility; bailouts; strategic uncertainty; sovereign debt
JEL Codes: E61; E63; F34; H87
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| borrowing rates (G21) | probability of default (G33) |
| lenders' beliefs about probability of default (G21) | probability of default (G33) |
| fundamental shocks (E32) | probability of default (G33) |
| bailouts (H81) | default risk (G33) |
| strategic uncertainty (D89) | default risk (G33) |
| strategic uncertainty (D89) | bailouts (H81) |