Optimal Reserve Management and Sovereign Debt
To study the joint decision of holding sovereign debt and reserves, we construct a stochastic dynamic equilibrium model that incorporates willingness-to-pay incentive problems. In this setup, debt and assets are not perfect substitutes, as reserves can be used even after a country has defaulted. We calibrate the model to a sample of emerging markets. We obtain that the reserve accumulation does not play a quantitatively important role in this model. In fact, the optimal policy is not to hold reserves at all. This finding is robust to considering interest rate shocks, sudden stops, contingent reserves and reserve dependent output costs.
We thank Joshua Aizenman, Manuel Amador, Jaewoo Lee, Enrique Mendoza, Julio Rotemberg, two anonymous referees and participants at the Federal Reserve Bank of San Francisco's Annual Pacific Basin Conference and University of São Paulo for valuable comments and suggestions. The views expressed herein are those of the author(s) and do not necessarily reflect the views of the National Bureau of Economic Research.
Alfaro, Laura & Kanczuk, Fabio, 2009. "Optimal reserve management and sovereign debt," Journal of International Economics, Elsevier, vol. 77(1), pages 23-36, February. citation courtesy of