Devaluation,Debt, and Default in Emerging Economies |
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Authors: | Samir Jahjah Peter Montiel |
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Institution: | (1) International Monetary Fund, 700 19th St. NW Room HQ1-5-404 J, Washington, DC 20431, USA;(2) Williams College, Williamstown, MA 01267, USA |
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Abstract: | We explore the interactions between exchange rate and fiscal policy, and default on external debt. Exchange rate policy affects
the supply of short-term debt facing the government. Under a conventional soft peg, it can be optimal for the government to
set the exchange rate at a level in which partial default occurs. In this case multiple equilibria exist, with one featuring
high interest rate, overvalued exchange rate, low level of output, and default. Default is also an equilibrium under a hard
peg, precisely because devaluation is not an option. Under a hard peg, however, there is a unique equilibrium.
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Keywords: | External debt Exchange rate policy Devaluation Default Credibility |
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