Marked-to-Market Interest Rate Swaps: A Solution to the Interest Rate Risk Management Problem of Indebted Developing Countries

Peter Wickham, Jacob Frenkel, and Michael Dooley
Published Date:
March 1989
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    Indebted developing countries have been prevented from hedging their exposure to volatility in short-term international interest rates by a lack of creditworthiness, a shortage of international reserves, and a lack of financial expertise. This paper uses the conventional interest rate swap contracta contract between two parties to exchange a fixed payment stream for a floating payment stream without an exchange of principalto construct an interest rate risk management tool that can overcome these difficulties. The proposed swap contract aims to reduce the credit risk borne by the counterparty in the swap transactions by shortening the performance period of the country through periodic resettlement of capital gains and losses on the existing swap contract combined with a recontracting at the prevailing market swap rate.

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