Seigniorage and Sovereign Default: The Response of Emerging Markets to Covid-19
52 Pages Posted: 23 Jul 2020
Date Written: July, 2020
Monetary policy affects the tradeoffs faced by governments in sovereign default models. In the absence of lump-sum taxation, governments rely on both disortionary taxes and seigniorage to finance expenditure. Furthermore, monetary policy adds a time-consistency problem in debt choice, which may mitigate or exacerbate the incentives to accumulate debt. A deterioration of the terms-of-trade leads to an increase in sovereign-default risk and inflation, and a reduction in growth, which are consistent with the empirical evidence for emerging economies. An unanticipated shock resembling the COVID-19 pandemic generates a significant currency depreciation, increased inflation, and distress in government finances.
Keywords: Crises, Default, Sovereign Debt, Exchange Rate, Country Risk, Inflation, Seigniorage, Fiscal Policy, Emerging Markets, Time-consistency, COVID-19
JEL Classification: E52, E62, F34, F41, G15
Suggested Citation: Suggested Citation