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IMF Working Paper

Research Department

Sudden Stops and Optimal Policy in a Two-agent Economy

Prepared by Nina Biljanovska and Alexandros P. Vardoulakis*

Authorized for distribution by Maria Soledad Martinez Peria July 2022

IMF Working Papers describe research in progress by the author(s) and are published to elicit comments and to encourage debate. The views expressed in IMF Working Papers are those of the author(s) and do not necessarily represent the views of the IMF, its Executive Board, or IMF management.

ABSTRACT: We introduce heterogeneity in terms of workers and entrepreneurs in an otherwise standard Fisherian model to study Sudden Stop dynamics and optimal policy. We show that the distinction between workers and entrepreneurs introduces a distributive externality that is absent from the representative-agent setup. While in tranquil times redistribution is driven by the relative marginal utilities of consumption, the planner additionally favors entrepreneurs during Sudden Stops to mitigate Fisherian deation. Although agent-heterogeneity does not add much in explaining the Sudden Stop phenomena, it adds to the understanding of how policies can best be designed to alleviate the negative effects of Sudden Stops.

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We thank Miguel Faria-e-Castro, Gita Gopinath, Veronica Guerrieri, Maria Soledad Martinez Peria, and seminar participants at the IMF and Federal Reserve Board for useful comments. The views expressed in this paper are those of the authors and do not necessarily represent those of the IMF, the Federal Reserve Board, or anyone in the Federal Reserve System.

Sudden Stops and Optimal Policy in a Two-agent Economy
Author: Nina Biljanovska and Alexandros Vardoulakis