Maturity, Indebtedness, and Default Risk

FRB of Philadelphia Working Paper No. 09-2

48 Pages Posted: 10 Mar 2009

See all articles by Satyajit Chatterjee

Satyajit Chatterjee

Federal Reserve Bank of Philadelphia

Burcu Eyigungor

Federal Reserve Bank of Philadelphia

Multiple version iconThere are 3 versions of this paper

Date Written: February 1, 2009

Abstract

We present a novel and tractable model of long-term sovereign debt. We make two sets of contributions. First, on the substantive side, using Argentina as a test case we show that unlike one-period debt models, our model of long-term sovereign debt is capable of accounting for the average spread, the average default frequency, and the average debt-to-output ratio of Argentina over the 1991-2001 period without any deterioration in the model's ability to account for Argentina's cyclical facts. Using our calibrated model we determine what Argentina's debt, default frequency and welfare would have been if Argentina had issued only short-term debt. Second, on the methodological side, we advance the theory of sovereign debt begun in Eaton and Gersovitz (1981) by establishing the existence of an equilibrium pricing function for long-term sovereign debt and by providing a fairly complete set of characterization results regarding equilibrium default and borrowing behavior. In addition, we identify and solve a computational problem associated with pricing long-term unsecured debt that stems from nonconvexities introduced by the possibility of default.

Keywords: Unsecured Debt, Sovereign Debt, Long Duration Bonds, Debt Dilution, Random

JEL Classification: F34, F41, G12, G33

Suggested Citation

Chatterjee, Satyajit and Eyigungor, Burcu, Maturity, Indebtedness, and Default Risk (February 1, 2009). FRB of Philadelphia Working Paper No. 09-2. Available at SSRN: https://ssrn.com/abstract=1352643 or http://dx.doi.org/10.2139/ssrn.1352643

Satyajit Chatterjee (Contact Author)

Federal Reserve Bank of Philadelphia ( email )

Ten Independence Mall
Philadelphia, PA 19106-1574
United States
215-574-3861 (Phone)
215-574-4364 (Fax)

HOME PAGE: http://sites.google.com/site/chatterjeesatyajit/home

Burcu Eyigungor

Federal Reserve Bank of Philadelphia ( email )

Ten Independence Mall
Philadelphia, PA 19106-1574
United States

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