NATIONAL BUREAU OF ECONOMIC RESEARCH
NATIONAL BUREAU OF ECONOMIC RESEARCH

International Lending of Last Resort and Moral Hazard: A Model of IMF's Catalytic Finance

Giancarlo Corsetti, Bernardo Guimaraes, Nouriel Roubini

NBER Working Paper No. 10125
Issued in December 2003
NBER Program(s):   IFM

It is often argued that the provision of liquidity by the international institutions such as the IMF to countries experiencing balance of payment problems can have catalytic effects on the behavior of international financial markets, i.e., it can reduce the scale of liquidity runs by inducing investors to roll over their financial claims to the country. Critics point out that official lending also causes moral hazard distortions: expecting to be bailed out by the IMF, debtor countries have weak incentives to implement good but costly policies, thus raising the probability of a crisis. This paper presents an analytical framework to study the trade-off between official liquidity provision and debtor moral hazard. In our model international financial crises are caused by the interaction of bad fundamentals, self-fulfilling runs and policies by three classes of optimizing agents: international investors, the local government and the IMF. We show how an international financial institution helps prevent liquidity runs via coordination of agents' expectations, by raising the number of investors willing to lend to the country for any given level of the fundamental. We show that the influence of such an institution is increasing in the size of its interventions and the precision of its information: more liquidity support and better information make agents more willing to roll over their debt and reduces the probability of a crisis. Different from the conventional view stressing debtor moral hazard, we show that official lending may actually strengthen a government incentive to implement desirable but costly policies. By worsening the expected return on these policies, destructive liquidity runs may well discourage governments from undertaking them, unless they can count on contingent liquidity assistance.

download in pdf format
   (402 K)

email paper

This paper is available as PDF (402 K) or via email.

Machine-readable bibliographic record - MARC, RIS, BibTeX

Document Object Identifier (DOI): 10.3386/w10125

Published: Corsetti, Giancarlo, Bernardo Guimaraes and Nouriel Roubini. "International Lending Of Last Resort And Moral Hazard: A Model Of IMF's Catalytic Finance," Journal of Monetary Economics, 2006, v53(3,Apr), 441-471. citation courtesy of

Users who downloaded this paper also downloaded these:
Corsetti, Pesenti, and Roubini w6783 Paper Tigers? A Model of the Asian Crisis
Jeanne and Wyplosz The International Lender of Last Resort. How Large Is Large Enough?
Corsetti, Pesenti, and Roubini w6833 What Caused the Asian Currency and Financial Crisis? Part I: A Macroeconomic Overview
Corsetti, Pesenti, and Roubini w8303 The Role of Large Players in Currency Crises
Frankel and Roubini w8634 The Role of Industrial Country Policies in Emerging Market Crises
 
Publications
Activities
Meetings
NBER Videos
Data
People
About

Support
National Bureau of Economic Research, 1050 Massachusetts Ave., Cambridge, MA 02138; 617-868-3900; email: info@nber.org

Contact Us