NATIONAL BUREAU OF ECONOMIC RESEARCH
NATIONAL BUREAU OF ECONOMIC RESEARCH

Public Debt Guarantees and Private Capital Flight

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Jonathan Eaton

NBER Working Paper No. 2172 (Also Reprint No. r0932)
Issued in October 1987
NBER Program(s):   ITI   IFM

Significant amounts of private capital have flowed out of several of the more heavily indebted developing countries. This outflow, often called "capital flight ," largely escapes taxation by the borrowing-country government, and has generated concern about the prospects for future servicing of the debt. Imperfect contract enforcement may lead to implicit or explicit government guarantee of foreign debt. The model developed below demonstrates that a government policy of guaranteeing private debt can, in turn, generate more than one outcome. One such outcome replicates the allocation under perfect contract enforcement: national savings is invested domestically and foreign debt is repaid. The tax obligation implied by potential nationalization of private debt, however, can also lead to another outcome in which national capital flees and foreign debt may not be repaid.

Published: Eaton, Jonathan. "Public Debt Guarantees and Private Capital Flight," The World Bank Economic Review, Vol. I, No. 3, pp. 377-395. (1987)

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