Equilibrium Sovereign Default with Endogenous Exchange Rate Depreciation

35 Pages Posted: 5 Sep 2009 Last revised: 23 Dec 2011

See all articles by Sergey V. Popov

Sergey V. Popov

Cardiff University - Cardiff Business School

David G. Wiczer

SUNY Stony Brook - Department of Economics

Date Written: February 6, 2010

Abstract

Sovereign default often affects country’s trade relations. The defaulter’s currency depreciates while trade volume falls drastically. To explain this connection, this study proposes a model to incorporate real depreciation along with sovereign bankruptcy. Defaulters must exchange more of their own goods for imports, which stimulates an adjustment to the equilibrium exchange rate. We demonstrate that a default episode can imply up to a 30% real depreciation. This matches the depreciations observed in crisis events for developing countries. To avoid this, countries are willing to maintain borrowing obligations up to a realistic level of debt.

Keywords: endogenous default, endogenous exchange rate, trade balance

JEL Classification: F34, F11, F17

Suggested Citation

Popov, Sergey V. and Wiczer, David G., Equilibrium Sovereign Default with Endogenous Exchange Rate Depreciation (February 6, 2010). Available at SSRN: https://ssrn.com/abstract=1468750 or http://dx.doi.org/10.2139/ssrn.1468750

Sergey V. Popov (Contact Author)

Cardiff University - Cardiff Business School ( email )

Aberconway Building
Colum Drive
Cardiff, CF10 3EU
United Kingdom

David G. Wiczer

SUNY Stony Brook - Department of Economics ( email )

NY 11733-4384
United States

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