Lizarazo, Sandra (2012): Default Risk and Risk Averse International Investors.
This is the latest version of this item.
Download (314kB) | Preview
This paper develops an endogenous default risk model for small open economies that interact with risk averse international investors whose preferences exhibit decreasing absolute risk aversion (DARA). By incorporating risk averse investors who trade with an emerging economy, the present model explains a larger proportion and volatility of the spread between sovereign bonds and riskless assets than the standard model with risk neutral investors. The paper shows that if investors have DARA preferences, then the emerging economy's default risk, capital flows, and bond prices are a function not only of the fundamentals of the economy but also of the level of financial wealth and risk aversion of international investors. In particular, as investors become wealthier or less risk averse, the emerging economy becomes less credit constrained. As a result, the emerging economy's default risk is lower, and its bond prices and capital inflows are higher. Additionally, with risk averse investors, the risk premium in the asset prices of the sovereign countries can be decomposed into two components: a base premium that compensates the investors for the probability of default and an ``excess'' premium that compensates them for taking the risk of default.
|Item Type:||MPRA Paper|
|Original Title:||Default Risk and Risk Averse International Investors|
|English Title:||Default Risk and Risk Averse International Investors|
|Keywords:||default, sovereign debt, international investors, risk premium, sovereign spreads|
|Subjects:||F - International Economics > F3 - International Finance > F34 - International Lending and Debt Problems
E - Macroeconomics and Monetary Economics > E4 - Money and Interest Rates > E44 - Financial Markets and the Macroeconomy
F - International Economics > F4 - Macroeconomic Aspects of International Trade and Finance > F41 - Open Economy Macroeconomics
|Depositing User:||Sandra Lizarazo|
|Date Deposited:||28 Aug 2012 10:12|
|Last Modified:||19 Jan 2016 22:52|
Aiyagari, R., (1994). “Uninsured Idiosyncratic Risk and Aggregate Saving.” Quarterly Journal Of Economics 109(3), 600-684.
Aguiar, M., and Gopinath, G., (2006). “Defaultable Debt, Interest Rates and the Current Account.” Journal of International Economics 69, 64-83.
Arellano, C., (2008). “Default Risk and Income Fluctuations in Emerging Economies.” American Economic Review 98, 670-712.
Arellano, C., and Ramanarayan, A. (2012). “Default and Maturity Structure in Sovereign Bonds.” Journal of Political Economy 2012 (forthcoming).
Arora, V., and Cerisola, M., (2001). “How Does US Monetary Policy Influence Sovereign Spreads in Emerging Markets?.” IMF Staff Papers Vol 48, No 3.
Bai, Y., and Zhang, J.,(2012). “Financial Integration and International Risk Sharing.” Journal of International Economics 86, 17-32.
Baig, T., and Goldfajn, I.,(1999). “Financial Market Contagion in the Asian Crisis.” IMF Staff Papers Vol 46, No 2.
Baig, T., and Goldfajn, I.,(2000). “The Russian default and the Contagion to Brazil.” IMF Working Paper, WP/00/160.
Benjamin, D., and Wright, M.,(2008). “Recovery Before Redemption? A Theory of Delays in Sovereign Debt Renegotiations.” Working Paper.
Broner, F., Gelos, G., and Reinhart, C., (2006). “When in Peril, Retrench: Testing the Portfolio Channel of Contagion.” Journal of International Economics 69.
Broner, F., Lorenzoni, G., and Schmulker, S., (2010). “Why do emerging economies borrow short term?.” Working Paper UPF.
Broner, F., and Ventura, J., (2011). “Globalization and Risk Sharing. ” Review of Economic Studies, 78, 49-82.
Brutti, F., (2011). “Sovereign Defaults and Liquidity Crises ”Journal of International Economics, 84(1), 65-72.
Cantor, R., and Packer, F., (1996). “Determinants and Impact of Sovereign Credit Ratings. ” Economic Policy Review Federal Reserve Bank of New York.
Cole, H., and Kehoe, T., (2000).“Self-Fulfilling Debt Crises. ” The Review of Economic Studies, Vol. 67, Issue 1.
Cuadra, G., and Sapriza, H., (2008). “Sovereign default, interest rates and political uncertainty in emerging markets.” Journal of International Economics, 76, 78-88.
Cunningham, A., Dixon, L., and Hayes, S., (2001). “Analysing Yield Spreads on Emerging Market Sovereign Bonds.” Financial Stability Review, Bank of England, December.
Ferruci, G., Herzberg, V., Soussa, F., Taylor, A., (2004). “Understanding Capital Flows to Emerging Market Economies.” Financial Stability Review, Bank of England, June.
FitzGerald, V., and Krolzig, D., (2003). “Modeling the Demand for Emerging Market Assets.” Working Paper, Oxford University.
Garcia-Herrero, A., and Ortiz, A., (2005). “The Role of Global Risk Aversion In Explaining Latin American Sovereign Spreads.” Documentos de Trabajo Banco de España, 0505.
Gennaioli, N., Martin, A., and Rossi, S., (2009). “Institutions, Public Debt and Foreign Finance. ”mimeo.
Gelos, G., Sahay R., and Sandleris, G., (2011). “Sovereign Borrowing in Developing Countries: What Determines Market Access?.” Journal of International Economics, 83, 2, 243-254.
Gonzalez, M., and Levy, E., (2006). “Global factors and Emerging Markets Spreads.” Inter-American Development Bank Working Paper, 552.
Guembel, A., and Sussman, O., (2009). “Sovereign Debt Without Default Penalties.” Review of Economic Studies, Vol. 76, Issue 4, pp. 1297-1320, October 2009.
Hatchondo, J., and Martinez, L., (2006) “Computing Business Cycles in Emerging Economy Models.” Federal Reserve Bank of Richmond Working Paper , 06-11.
Hatchondo, J., and Martinez, L., (2009) “Long Duration Bonds and Sovereign Defaults.” Journal of International Economics , 79, 117-125.
Hatchondo, J., Martinez, L. and Sapriza H., (2009) “Heterogeneous Borrowers in Quantitative Models of Sovereign Default ”International Economic Review, vol. 50, 1129-51.
Hau, H. and Rey, H., (2008) “Global Portfolio Rebalancing Under the Microscope ”NBER Working Paper, 14165.
Kamin, S. and von Kleist, K., (1999). “The Evolution and Determinants of Emerging Market Credit Spreads in the 1990s.” International Finance Discussion Papers 653, Board of Governors of the Federal Reserve System.
Kaminsky, G., and Reinhart, C., (1998). “Financial Crises in Asia and Latin America: Then and Now.” American Economic Review Vol 88, Issue 2, Papers and Proceedings of the Hundred and Tenth Annual Meeting of the American Economic Association, 444-448.
Kaminsky, G., and Reinhart, C., (2000). “On crises contagion and confusion.” Journal of International Economics 51(1), 145-168.
Kamisnky, G., Lyons, R., and Schmukler, S., (2001). “Mutual Fund Investment In emerging Markets: An Overview.” The World Bank Economic Review, Vol 15, No 2, 315-340.
Klingen, C., Weder, B., and Zettelmeyer, J., (2004). “How Private Creditors Fared in Emerging Debt Markets, 1970-2000. ” IMF Working Paper WP/04/13.
Lizarazo, S., (2012) “Contagion of Financial Crises in Sovereign Debt Markets.” Working Paper Universidad Carlos III de Madrid.
Longstaff, F., Pan, J., Pedersen L., and Singleton, K., (2008) “How Sovereign is Sovereign Credit Risk.” Working Paper.
Mendoza, E., and Yue, V., (2011) “A General Equilibrium Model of Sovereign Default and Business Cycles.” Quarterly Journal of Economics (forthcoming).
Mody, A., and Taylor, M., (2003). “The High Yield Spread as a Predictor of Real Economic Activity: Evidence of a Financial Accelerator for the United States.” IMF Staff papers 50(3), 373-402.
Neumeyer, P., and Perri, F., (2005). “Business Cycles in Emerging Economies: The Role of Interest Rates.” Journal of Monetary Economics 52/2, 345-380.
Reinhart, C., Rogoff, K., and Savastano, M., (2003). “Debt Intolerance.” NBER Working Paper 9908.
Remolona, E., Scatigna, M., and Wu, E., (2007). " Interpreting Sovereign Spreads.” BIS Quarterly Review March.
Sosa-Padilla, C., (2011). “Sovereign Defaults and Banking Crises.” Working paper University of Maryland.
Valdes, R., (1996). “Emerging Markets Contagion: Evidence and theory.” . Banco Central de Chile. Documentos de Trabajo del Banco Central.
Van Rijckeghem, C. andWeder, B., (2001). “Sources of Contagion: Finance or Trade?.” Journal of International Economics54(2), 293-308.
Warther, V., (1995). “Aggregate Mutual Funds Flows and Security Returns.” Journal of Financial Economics, 39, 209-235.
Available Versions of this Item
Default Risk and Risk Averse International Investors. (deposited 20 Feb 2010 16:45)
Default risk and risk averse international investors. (deposited 02 Mar 2012 20:38)
- Default Risk and Risk Averse International Investors. (deposited 28 Aug 2012 10:12) [Currently Displayed]
- Default risk and risk averse international investors. (deposited 02 Mar 2012 20:38)