Bubbles and self-enforcing debt

Christian Hellwig*, Guido Lorenzoni

*Corresponding author for this work

Research output: Contribution to journalArticle

56 Scopus citations

Abstract

We characterize equilibria with endogenous debt constraints for a general equilibrium economy with limited commitment in which the only consequence of default is losing the ability to borrow in future periods. First, we show that equilibrium debt limits must satisfy a simple condition that allows agents to exactly roll over existing debt period by period. Second, we provide an equivalence result, whereby the resulting set of equilibrium allocations with self-enforcing private debt is equivalent to the allocations that are sustained with unbacked public debt or rational bubbles. In contrast to the classic result by Bulow and Rogoff (1989a), positive levels of debt are sustainable in our environment because the interest rate is sufficiently low to provide repayment incentives.

Original languageEnglish (US)
Pages (from-to)1137-1164
Number of pages28
JournalEconometrica
Volume77
Issue number4
DOIs
StatePublished - Jul 1 2009

Keywords

  • Rational bubbles
  • Risk sharing
  • Self-enforcing debt
  • Sovereign debt

ASJC Scopus subject areas

  • Economics and Econometrics

Fingerprint Dive into the research topics of 'Bubbles and self-enforcing debt'. Together they form a unique fingerprint.

  • Cite this