ramon marimon's discussion of "self-fulfilling debt crises, revisited: the art of...
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DiscussionofMarkAguiar,SatyajitChatterjee, HaroldColeandZacharyStangebye(ACCS)’
Self-Ful(illingDebtCrises,Revisited: TheArtoftheDesperateDeal
byRamonMarimonEuropeanUniversityInstituteandUPF–BarcelonaGSE,
andCEPR&NBER
Cambridge,September2,2016
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For Good and for Bad:
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For Good and for Bad: a follow-up of Hal &Tim (CK)’“Self-Fulfilling Debt Crises”
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C&K
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CK: building on the work of an imaginative economist !
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The imaginative economist:
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ACCS also build on the work of the Debt Repudiation pioneers
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The Debt Repudiation pioneers: E&G
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This paper:
Shows that debt markets with (CK) and (EG) features can be made more efficient
by enlarging the contracting possibilities with ‘Desparate Deal’ debt auctions
(resembling some euro crisis deals).
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Five Points:
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Five Points:
Point 1:
Point 2:
Point 3:
Point 4:
Point 5:
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ACCS vs. CK
• The economy:
– An incomplete markets endowment economy.
– An incomplete markets economy with capital accumulation.
• The players:
– Infinitely lived consumers, (risk neutral) bankers and a benevolent (uncommitted)
government
– An infinitely lived benevolent (uncommitted) government and short-lived (risk-averse,
limited-wealth) lenders
• The financial markets:
– One-period non-contingent defaultable bonds (+ capital).
– Long-term non-contingent defaultable bonds (+ risk-free asset).
• The state ((the real stuff), the bonds, the sunspot):
– s = ((K, a), B, ζ).
– s = ((Y, g, z), B, ρ).
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ACCS vs. CK
• The ‘rollover crises’
– One-period debt is prompt to them
– Long-term debt can be managed to prevent them; however, ACCS rollover all the
debt each period!
• The theory
– Propositions 1 to 6.
– Proposition... (none)
• The evidence and calibration
– They talk about Mexico but they calibrate to nowhere
– They talk about Portugal and they calibrate to Mexico
• But a key difference can be seen in the different role of...
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Crisis Zone & Bond prices
C(K,π) ≡ {s ∈ S | default is optimal if q = 0 but q > 0 is possible}
In C(K,π) the ‘sunspot’, ζ, coordinates lender’s beliefs (outside C(K,π), ζ is irrelevant).
In the Self-Fulfilling equilibrium:
Subjective prob. of, within the period, ex-post default =
{1 if 0 ≤ ζ ≤ π0 if π < ζ ≤ 1
The government chooses a pure-strategy unconditional on the ‘sunspot’ realisation.
q(s,B′) =
β if in no-crisis zone and D(s,B′) = 0
β(1− π) if in crisis zone and D(s,B′) = 0
0 if in default zone; i.e., D(s,B′) = 1
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Crisis Zone
C ≡ {s ∈ S | default is optimal if q = 0 but q > 0 is possible}
C ≡{s ∈ S | max
b′≤(1−λ)bVR(s,B
′) ≤ V D
(s) and maxb′≥(1−λ)b
VR(s,B
′) ≥ V D
(s)
}
• s ∈ C only if s is a bad time: if debt is high and endowment is low!
• The sunspot ρ is an indicator of ‘the zone’ : ρ = rV (vulnerable) or ρ = rC (crisis).
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Crisis Zone & Bond prices
q(s,B′) =
(1−D(s,B′))qEG(s,B′) if ρ = rV or s /∈ CqD(s,B′) if ρ = rC and s ∈ C and qD(s,B′) ≤ qEG(s,B′)0 otherwise
u(Y − (r
∗+ λ)B + q
D(s,B
′)(B
′ − (1− λ)B))+βE
[V (s
′) | s,B′
]= V
D(s)
The government is indifferent between defaulting and issuing (B′ − (1 − λ)B) > 0 at
qD(s,B′) > 0. It randomizes D(s,B′) between the two and in equilibrium risk-averse
lenders are indifferent between buying ‘desperate deal’ bonds and the risk-free asset.
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Point 1: On the different role of ‘Crisis Zones’ & ‘Sunspots’
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Point 2: On the ‘learnability of sunspots’ &‘Sovereign Bond Auctions’
• Social coordination norms – such as traffic lights – I would not call them sunspots
• Neither CK nor ACCS sunspots – ζ and ρ, respectively – are social coordination norms.
How do they arise as coordinators of beliefs?
• Experimental evidence does not support (out-of-the-blue) sunspots (MSS et al.).
• ζ is a pure belief coordinator, but strategies are simple (easier to learn).
• ρ is associated to ‘real factors’, but mixed-strategy equilibria are not simple (difficult
to learn);
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Point 2: On the ‘learnability of sunspots’ &‘Sovereign Bond Auctions’
• Social coordination norms – such as traffic lights – I would not call them sunspots
• Neither CK nor ACCS sunspots – ζ and ρ, respectively – are social coordination norms.
How do they arise as coordinators of beliefs?
• Experimental evidence does not support (out-of-the-blue) sunspots (MSS et al.).
• ζ is a pure belief coordinator, but strategies are simple (easier to learn).
• ρ is associated to ‘real factors’, but mixed-strategy equilibria are not simple (difficult
to learn); however...
• Auctions provide a great deal of information (making learning easier);
• in particular, when the supplier sets the terms (qD(s,B′))
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Point 2: On the ‘learnability of sunspots’ &‘Sovereign Bond Auctions’
• Social coordination norms – such as traffic lights – I would not call them sunspots
• Neither CK nor ACCS sunspots – ζ and ρ, respectively – are social coordination norms.
How do they arise as coordinators of beliefs?
• Experimental evidence does not support (out-of-the-blue) sunspots (MSS et al.).
• ζ is a pure belief coordinator, but strategies are simple (easier to learn).
• ρ is associated to ‘real factors’, but mixed-strategy equilibria are not simple (difficult
to learn); however...
• Auctions provide a great deal of information (making learning easier);
• in particular, when the supplier sets the terms (qD(s,B′))
• (unfortunately the paper is mute about its Debt Auctions)
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Point 3:
GET RID OF…
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Point 4: On the value of ‘Desperate Deals’
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Point 4: On the value of ‘Desperate Deals’
• As ACCS explain ‘Desperate Deals’ are socially valuable:
– “reduces the deadweight loss associated with rollover crises ”
– enhances the efficiency of financial markets by enlarging their lending capacity
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Point 4: On the value of ‘Desperate Deals’
• As ACCS explain ‘Desperate Deals’ are socially valuable:
– “reduces the deadweight loss associated with rollover crises”
– enhances the efficiency of financial markets by enlarging their lending capacity...
– the ex-ante value to the benevolent government is higher
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Point 4: On the value of ‘Desperate Deals’
• As ACCS explain ‘Desperate Deals’ are socially valuable:
– “reduces the deadweight loss associated with rollover crises”
– enhances the efficiency of financial markets by enlarging their lending capacity...
– the ex-ante value to the benevolent government is higher, but...
• “As a rule, the gain is less than one-half of one percent”
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Point 4: On the value of ‘Desperate Deals’
• As ACCS explain ‘Desperate Deals’ are socially valuable:
– “reduces the deadweight loss associated with rollover crises”
– enhances the efficiency of financial markets by enlarging their lending capacity...
– the ex-ante value to the benevolent government is higher, but...
• “As a rule, the gain is less than one-half of one percent”
• However, they may be larger when
– labour and/ or capital accumulation decisions – as in CK – are taken into account.
– lenders are heterogeneous (in ACCS risk-aversion & limited wealth helps)
– well documented, contagion effects are accounted for.
– agents form the expectations through learning...
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Point 5: On ‘Self-Confirming Equilibria’ vs. ‘Self-Fulfilling Equilibria’
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Point 5: On ‘Self-Confirming Equilibria’ vs. ‘Self-Fulfilling Equilibria’
• Self-Fulfilling Equilibria (SFE) are Rational Expectations Equilibria (REE).
• SCE satisfy Subjective Rationality in equilibrium (i.e. REE ⊂ SCE).
• While the SCE equilibrium set is, in general, larger, learning processes converge to SCE
(Fudenberg & Levine et al.). Learnable SCE may exclude many REE (and SFE).
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Point 5: On ‘Self-Confirming Equilibria’ vs. ‘Self-Fulfilling Equilibria’
• Self-Fulfilling Equilibria (SFE) are Rational Expectations Equilibria (REE).
• SCE satisfy Subjective Rationality in equilibrium (i.e. REE ⊂ SCE).
• While the SCE equilibrium set is, in general, larger, learning processes converge to SCE
(Fudenberg & Levine et al.). Learnable SCE may exclude many REE (and SFE).
• A SCE is not a REE if, and only if, by making an out-of-equlibrium move an agent’s
subjective beliefs are contradicted.
• Within the ACCS model CK equilibria are Self-Fulfilling, but...
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Point 5: On ‘Self-Confirming Equilibria’ vs. ‘Self-Fulfilling Equilibria’
• Self-Fulfilling Equilibria (SFE) are Rational Expectations Equilibria (REE).
• SCE satisfy Subjective Rationality in equilibrium (i.e. REE ⊂ SCE).
• While the SCE equilibrium set is, in general, larger, learning processes converge to SCE
(Fudenberg & Levine et al.). Learnable SCE may exclude many REE (and SFE).
• A SCE is not a REE if, and only if, by making an out-of-equlibrium move an agent’s
subjective beliefs are contradicted.
• Within the ACCS model CK equilibria are Self-Fulfilling, but...
• A (non-committed) benevolent Government who can auction ‘Desperate Deals’makes (all?) CK default equilibria to become non-REE Self-Confirming Equilibria(with some ‘absolute continuity of beliefs assumption’)
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Point 5: On ‘Self-Confirming Equilibria’ vs. ‘Self-Fulfilling Equilibria’
• Self-Fulfilling Equilibria (SFE) are Rational Expectations Equilibria (REE).
• SCE satisfy Subjective Rationality in equilibrium (i.e. REE ⊂ SCE).
• While the SCE equilibrium set is, in general, larger, learning processes converge to SCE
(Fudenberg & Levine et al.). Learnable SCE may exclude many REE (and SFE).
• A SCE is not a REE if, and only if, by making an out-of-equlibrium move an agent’s
subjective beliefs are contradicted.
• Within the ACCS model CK equilibria are Self-Fulfilling, but...
• A (non-committed) benevolent Government who can auction ‘Desperate Deals’makes (all?) CK default equilibria to become non-REE Self-Confirming Equilibria(with some ‘absolute continuity of beliefs assumption’)
• Therefore, social experimentation by the government, with ‘Desperate Deals,’will eliminate (all?) these non-REE SCE !!!
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Point 5: On ‘Self-Confirming Equilibria’ vs. ‘Self-Fulfilling Equilibria’
• Self-Fulfilling Equilibria (SFE) are Rational Expectations Equilibria (REE).
• SCE satisfy Subjective Rationality in equilibrium (i.e. REE ⊂ SCE).
• While the SCE equilibrium set is, in general, larger, learning processes converge to SCE
(Fudenberg & Levine et al.). Learnable SCE may exclude many REE (and SFE).
• A SCE is not a REE if, and only if, by making an out-of-equlibrium move an agent’s
subjective beliefs are contradicted.
• Within the ACCS model CK equilibria are Self-Fulfilling, but...
• A (non-committed) benevolent Government who can auction ‘Desperate Deals’makes (all?) CK default equilibria to become non-REE Self-Confirming Equilibria(with some ‘absolute continuity of beliefs assumption’)
• Therefore, social experimentation by the government, with ‘Desperate Deals,’will eliminate (all?) these non-REE SCE !!!
• You can call it Ramon’s conjecture...
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Five Points on a great paper:
Point 1: ACCS builds on – but substantially departs from – CK (not just on ‘Desperate
Deals’)
Point 2: Sunspots SFE may not be learnable, but Sovereign Bond Auctions provide a
great deal of information.
Point 3: Let’s get rid of sunspots!
Point 4: ‘Desperate Deals’ are possibly more valuable than what ACCS claim!
Point 5: ‘Desperate Deals’ can transform CK default Self-Fulfilling Equilibria into non-
REE Self-Confirming Equilibria, which are easy to dispel!!
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Thanks!