Sovereign risk plays a major role in the interactions between monetary and fiscal policy, research published by the Bank for International Settlements finds.

In the working paper, Ana Aguilar, Carlos Cantú and Claudia Ramírez outline a semi-structural model designed to reflect key features of the Mexican economy. They model sovereign risk as a function of government debt, and emphasise how the risk premium affects investment and the exchange rate.

“We find that after a fiscal expansion, the