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Expected sovereign defaults and fiscal consolidations

Author(s): Werner Roeger, Jan in 't Veld

Expected sovereign defaults and fiscal consolidationspdf(662 kB) Choose translations of the previous link 

Summary for non-specialistspdf(44 kB) Choose translations of the previous link 

This paper uses a two region DSGE model for the Euro area (periphery vs. core), to analyse the costs of higher sovereign risk premia, the so called 'sovereign risk channel'. We highlight the importance of valuation effects of sovereign bonds in bank balance sheets for the transmission of sovereign default expectations to the private sector. While at the current juncture the fiscal multiplier is larger in the EA periphery, we show that for highly indebted countries in the EA no fiscal consolidation could have more detrimental effects if it leads to expectations of sovereign default. In our view these results provide useful additional information for the debate on fiscal austerity which focusses mainly on the size of the multiplier.

(European Economy. Economic Papers 479. April 2013. Brussels. PDF. 24pp. Tab. Bibliogr. Free.)

KC-AI-13-479-EN-N (online)
ISBN 978-92-79-28561-5 (online)
doi: 10.2765/42098 (online)

JEL classification: E62; E32; E62; G21; H63; F41

Economic Papers are written by the staff of the Directorate-General for Economic and Financial Affairs, or by experts working in association with them. The Papers are intended to increase awareness of the technical work being done by staff and to seek comments and suggestions for further analysis. The views expressed are the author’s alone and do not necessarily correspond to those of the European Commission.

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