Exercise 13.11

Breakdown of Reputational Lending

⬅ Return

Problem

Consider a perfect-foresight endowment economy in which an equilibrium sequence of net external debt \(\{d_t\}_{t=-1}^{\infty}\) is supported on reputational grounds when saving in international markets is not allowed after default. Suppose that this sequence contains no maximal element but has a positive least upper bound, \(\bar{d}\). Show that the reputational equilibrium with debt breaks down if the country is allowed to save in international financial markets after default.

Answer

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