La cinematografía de la industria de Hollywood como arte

The benevolent government maximizes the utility of the households and is the only agent with the ability to trade assets in international markets. State contingent bor- rowing is not available and government can only trade one period, zero-coupon, non state-contingent discount bonds at rate qt. The amount of bonds bond holdings to be repaid next period is denoted by bt+1 and borrowing implies bt+1 < 0. The bor-

rowing is bounded below by y_r¯, where ¯y is a theoretical maximum level of revenue the sovereign can raise but in equilibrium, sensitivity of the bond price schedule to total debt will imply a much tighter condition and this limit never binds. Unlike most of the literature on sovereign default, our government is running a full-blown fiscal policy with proportional income taxation and bond issue to finance its expendi- tures. On the expenditure side of the government budget, there is public investment, government current consumption, interest on existing debt and transfer payments. Public investment,it, is assumed to be fully depreciating 6, and for the benchmark model, tax rate will be exogenous7_.

The sovereign government lacks the ability to commit paying back its debt. As in standard Eaton and Gersovitz (1981) setup, the government only pays back its debt when the value of doing so is higher than the alternative. The default alternative clears all existing debt and implies immediate exclusion from the international asset markets with a exogenous random probability of regaining access. The sovereign is also not allowed to save when in state of default since with that option equilibrium with debt is not supportable (Bulow and Rogoff, 1989).

The timing of the actions of the government private sector and events in a period is as follows. Productivity shock {zt} is revealed first then government, conditional 6_{Modeling public investment dynamically would complicate the problem with an addition of} another state variable without contributing to our results.

on having a good credit standing, decides on its default decision on loans that mature fromt−1. The current default decision has current and possibly future consequences. When a sovereign is in default, either due to defaulting this period or a default in its history carried from past, it is not allowed to borrow or lend for that particular period. A sovereign in default this period remain in that state next period with positive probability 1−γ and face the same consequences. Based on default position chosen in the beginning of the period if that option existed or carried stochastically from previous period as being in default, government chooses the amount of public good and investment8_{,transfers to households and borrowing {g}

t, it, Tt, bt+1} accordingly.

Given zt, policy{Tt, it, gt, bt+1} and price vector {wt, qt}, firms and households solve their problems. The state variables are the government borrowing bt, TFP shock zt and credit standing of the government δt∈ {d, nd}.

A sovereign in good credit standing, δt = nd, with assets bt < 0, i.e. with an option to default, facing shock ztsolves the standard discrete default choice problem,

V(zt, bt) = max {Vnd(zt, bt), Vd(zt)} (3.6)

where for asset values bt > 0, V(zt, bt) = Vnd(zt, bt). The recursive problem of the sovereign with good credit standing that choose not to default in current period is to 8_{As it will be apparent from the government budget constraint, I assume public sector has access} to a technology that can transform consumption good to investment good at a rate one

conduct fiscal policy to maximize the welfare of households, for a given set of private sector choices {ct, nt}; Vnd(zt, bt) = max {Tt,it,gt,bt+1} {U(ct,1−nt, gt) +β Z V(zt+1, bt+1)dF(zt+1|t)} (3.7) s.t. gt=τt(πt+wtnt) +bt−qtbt+1−it−Tt (3.8)

There is also an upper limit on borrowing as mentioned b0 ≥ ξ = y¯_r to prevent Ponzi schemes, and will not bind in equilibrium. Vd_(z

t), value of being in default,

with all existing sovereign debt cleared, government excluded from credit markets in current period remaining in default with positive probability γ next period is;

Vd(zt) = max Tt,gt,it {U(ct,1−nt, gt) +β Z [(1−γ)Vd(zt+1) +γVnd(zt+1,0)]dF(zt+1|t)} (3.9) s.t. gt=τ(πt+wtnt)−it−Tt (3.10)

Property of the CRTS technology and optimality conditions from the static firm and household problems give us;

ct=ztf(nt, it)(1−τt) +Tt (3.11)

−Ul(ct,1−nt, gt)

Uc(ct,1−nt, gt)

=(1−τt)wt (3.12)

wt=ztfn(nt, it). (3.13)

Using the set of private sector optimality conditions, the state variable s={z, b} and policy vectors ψ = {g, T, b0, i}, where prime variables denote the next period, and approximating stochastic TFP shocks with a first-order Markov chain 9, for a given set of prices {w, q} we can re-write the problem of the sovereign that has not defaulted in a compact form;

Vnd(z, b) = max ψ {U(c(s;ψ),1−n(s;ψ), g) +β X z0 Γzz0V(z0, b0)} (3.14) s.t. g =zf(n(s;ψ), i)−c(s;ψ) +b−qb0−i−T (3.15) (1−τ)w=− Ul(c(s;ψ),1−n(s;ψ), g) Uc(c(s;ψ),1−n(s;ψ), g) (3.16) w=w(s;ψ) (3.17) q =q(z, b0) (3.18)

problem explicitly shows the margins the government faces conducting fiscal policy, it maximizes the welfare of its households subject to private sector optimality and the resource constraint of the economy. Fiscal authority acts being fully aware of the distortionary consequences of its actions on private sector behavior by internalizing their optimality conditions. If the sovereign chooses to default in the beginning of a period, it is relived of its current debtb = 0, excluded from credit markets this period and not allowed to save, b0 = 0, the problem is;

Vd(z) = max ψd {U(c(s;ψ d_),1−n(s;ψd_{), g)+ (3.19)} βX z0 Γzz0[γV(z0,0) + (1−γ)Vd(z0)]} s.t. g =zf(n(s;ψd), i)−c(s;ψd)−i−T (3.20) (1−τ)w=− Ul(c(s;ψ d_),1−n(s;ψd_{), g)} Uc(c(s;ψd),1−n(s;ψd), g) (3.21) w=w(s;ψd) (3.22)

Government’s default decision for a given level of savings can be characterized as repayment and complementing default sets in terms of rest of the state variables. For a debt level b, there exist a set of productivity shocks for which it is optimal to default;

∆(b) = {z ∈ {Z}:Vnd(z, b)< Vd(z)} (3.23)

where Z is the domain of productivity shocks. Given the stochastic properties of the shock process, this set defines the probability of default for a given level of debt, which will characterize the pricing decisions of the international investors below.