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Capital flows under moral hazard

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  • Tsyrennikov, Viktor

Abstract

I analyze a model with moral hazard and limited enforcement in a small open economy. I find that when state contingent contracting is allowed adding the moral hazard friction improves the model's predictions along several dimensions. First, it justifies why non-contingent debt is an optimal way to finance an emerging economy. Second, it explains the limited consumption risk-sharing and high, volatile and counter-cyclical interest rates. Third, it generates realistic crisis-like dynamics in which capital inflows are brought to a halt and interest rates sky-rocket. The model also has a strong internal propagation mechanism.

Suggested Citation

  • Tsyrennikov, Viktor, 2013. "Capital flows under moral hazard," Journal of Monetary Economics, Elsevier, vol. 60(1), pages 92-108.
    • Handle: RePEc:eee:moneco:v:60:y:2013:i:1:p:92-108
    DOI: 10.1016/j.jmoneco.2012.11.006
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    3. Mark Aguiar & Manuel Amador, 2013. "Sovereign Debt: A Review," NBER Working Papers 19388, National Bureau of Economic Research, Inc.

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