Sovereign default risk, macroeconomic fluctuations and monetary-fiscal stabilization

Arbeitspapier

This paper examines the role of sovereign default beliefs for macroeconomic fluctuations and stabilization policy in a small open economy where fiscal solvency is a critical problem. We set up and estimate a DSGE model on Turkish data and show that accounting for sovereign risk significantly improves the fit of the model through an endogenous amplification between default beliefs, exchange rate and inflation movements. We then use the estimated model to study the implications of sovereign risk for stability, fiscal and monetary policy, and their interaction. We find that a relatively strong fiscal feedback from deficits to taxes, some exchange rate targeting, or a monetary response to default premia are more effective and efficient stabilization tools than hawkish inflation targeting.

Object Details

• Language: Englisch

References and Relationships

• Bibliographic citation: Series: DIW Discussion Papers ; No. 1966

Classification and Topics

• Classification: Wirtschaft ; Central Banks and Their Policies ; Comparative or Joint Analysis of Fiscal and Monetary Policy; Stabilization; Treasury Policy ; Open Economy Macroeconomics
• Subject: Small open economies ; Sovereign risk ; Monetary policy ; Exchange rates ; Business cycles ; DSGE models

Contributors, Places and Time

• Event: Geistige Schöpfung
• (who): Kirchner, Markus ; Rieth, Malte
• Event: Veröffentlichung
• (who): Deutsches Institut für Wirtschaftsforschung (DIW)
• (where): Berlin
• (when): 2021

Further information

• Handle: http://hdl.handle.net/10419/243195
• Last update: 10.03.2025, 11:41 AM CET