Cover IMF Working Papers
Toward a Lender of First Resort
Author: Daniel Cohen and Mr. Richard Portes
Series:
IMF Working Papers
Volume/Issue:
Volume 2006: Issue 066
Language:
English
Publication Date:
01 Mar 2006
DOI:
https://doi.org/10.5089/9781451863260.001
ISBN:
9781451863260
ISSN:
1018-5941
Pages:
26
Keywords:
WP; debt crisis; riskless rate; debt restructuring; lender of last resort; risk premium
Legal-disclaimer:
IMF Working Papers describe research in progress by the author(s) and are published to elicit comments and to encourage debate. The views expressed in IMF Working Papers are those of the author(s) and do not necessarily represent the views of the IMF, its Executive Board, or IMF management.
Download PDF (194.9 KB) Download Epub
If interest rates (country spreads) rise, debt can rapidly be subject to a snowball effect, which becomes self-fulfilling with regard to the fundamentals themselves. This is a market imperfection, because we cannot be confident that the unaided market will choose the "good" over the "bad" equilibrium. We propose a policy intervention to deal with this structural weakness in the mechanisms of international capital flows. This is based on a simple taxonomy that breaks down the origin of crises into three components: confidence (spreads and currency crisis), fundamentals (real growth rate), and economic policy (primary deficit). Theory then suggests a set of circumstances in which a lender of first resort would be desirable. The policy would seek to short-circuit confidence crises, partly by using IMF support to improve ex ante incentives. Theory also illuminates the potential role of collective action clauses in reducing the risk of self-fulfilling debt crises.
Cover IMF Working Papers
IMF Working Papers
ISSN:
1018-5941
Publisher:
International Monetary Fund