Borrowing Risk and the Tequila Effect

July 1, 1997

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Pierre-Richard Agénor. Borrowing Risk and the Tequila Effect, (USA: International Monetary Fund, 1997) accessed November 21, 2024

Disclaimer: This Working Paper should not be reported as representing the views of the IMF.The views expressed in this Working Paper are those of the author(s) and do not necessarily represent those of the IMF or IMF policy. Working Papers describe research in progress by the author(s) and are published to elicit comments and to further debate

Summary

This paper models the Tequila effect (triggered by the collapse of the Mexican peso in December 1994) as a temporary increase in the risk premium faced by domestic private borrowers on world capital markets. The effects of this shock are studied in an intertemporal optimizing framework where firms’ demand for working capital is financed by bank credit. Under the assumption that the perceived duration of the shock is sufficiently long, the model is capable of reproducing some of the main features of Argentina’s economic downturn in the aftermath of the collapse of the Mexican peso: the rise in domestic interest rates, the reduction in net private capital inflows and the drop in official reserves, the reduction in bank deposits and credit supply, the fall in private consumption, the contraction in output, and the increase in unemployment.

Subject: Bank deposits, Capital markets, Consumption, Credit, External debt, Financial markets, Money, National accounts, Return on investment

Keywords: Capital markets, Consumption, Credit, Credit market, Credit rationing, Interest rate, Mexican peso, Net effect, Open economy, Return on investment, Transmission mechanism, WP

Publication Details

Pages:

37
Volume:

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DOI:

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Issue:

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Series:

Working Paper No. 1997/086
Stock No:

WPIEA0861997
ISBN:

9781451850840
ISSN:

1018-5941

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