Exit expectations and debt crises in currency unions

Author(s)
Martin Wolf, Gernot Müller, Alexander Kriwoluzky
Abstract

We study a sovereign debt crisis in a small member state of a currency union. If the country exits the currency union, it may redenominate its liabilities and reduce the real value of debt through depreciation and inflation. We analyze formally how the anticipation of this possibility, “exit expectations”, impact the dynamics of the sovereign debt crisis. First, we show that public debt accumulates faster and sovereign yields increase more strongly because of redenomination risk. Second, we find that exit expectations induce public debt to be stagflationary. Last, we analyze Greek time-series data through the lens of our model and quantify the contribution of exit expectations to the Greek crisis.

Organisation(s)
Department of Economics
External organisation(s)
Freie Universität Berlin (FU), Deutsches Institut für Wirtschaftsforschung (DIW), Eberhard Karls Universität Tübingen
Journal
Journal of International Economics
Volume
121
No. of pages
13
ISSN
0022-1996
DOI
https://doi.org/10.1016/j.jinteco.2019.103253
Publication date
11-2019
Peer reviewed
Yes
Austrian Fields of Science 2012
502018 Macroeconomics
Keywords
ASJC Scopus subject areas
Economics and Econometrics, Finance
Portal url
https://ucris.univie.ac.at/portal/en/publications/exit-expectations-and-debt-crises-in-currency-unions(ac62ffb0-6b6f-4842-8a27-3a4a915704c6).html