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Bankruptcy Costs, Liability Dollarization, and Vulnerability to Sudden Stops

31 Pages Posted: 8 Sep 2010  

Uluc Aysun

University of Connecticut

Adam Honig

Amherst College - Department of Economics

Date Written: April 1, 2010

Abstract

Countries with intermediate levels of institutional quality suffer larger output contractions following sudden stops of capital inflows than less developed nations. However, countries with strong institutions seldom experience significant falls in output after capital flow reversals. We reconcile these two observations using a calibrated DSGE model that extends the financial accelerator framework developed in Bernanke, Gertler, and Gilchrist (1999). The model captures financial market institutional quality with creditors’ ability to recover assets from bankrupt firms. Bankruptcy costs affect vulnerability to sudden stops directly but also indirectly by affecting the degree of liability dollarization. Simulations reveal an inverted U-shaped relationship between bankruptcy costs and the output loss following sudden stops.

Keywords: sudden stops, bankruptcy costs, financial accelerator, liability dollarization

JEL Classification: E44, F31, F41, O16

Suggested Citation

Aysun, Uluc and Honig, Adam, Bankruptcy Costs, Liability Dollarization, and Vulnerability to Sudden Stops (April 1, 2010). Journal of Development Economics, Forthcoming. Available at SSRN: https://ssrn.com/abstract=1672730

Uluc Aysun (Contact Author)

University of Connecticut ( email )

Storrs, CT 06269-1063
United States

Adam Honig

Amherst College - Department of Economics ( email )

P.O. Box 5000
Amherst, MA 01002-5000
United States
413-542-5032 (Phone)

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