Score contribution per author:
α: calibrated so average coauthorship-adjusted count equals average raw count
This paper examines how the internal–external composition of government debt affects the government's borrowing policy, sovereign risk, and welfare in a small open economy. To this end, I develop a dynamic stochastic general equilibrium model with endogenous default risk that includes both external and domestic debt. I calibrate the model to Argentina, and I show that the model closely reproduces key empirical moments. Moreover, I highlight the existence of an externality that distorts debt composition: Domestic debt levels are inefficiently low and default risk is inefficiently high. The welfare loss associated with the externality is roughly 0.7% when it is measured in permanent units of consumption. A Pigouvian subsidy that incentivizes domestic purchases of government bonds restores efficiency.