An International Monetary Fund paper, published on Thursday, shows sovereign default risks raise firms' financing costs and amplify negative productivity shocks in the macroeconomy.

Enrique Mendoza and Vivian Yue, the paper's authors, propose an equilibrium model of sovereign default and economic fluctuations, whereby increases in default risk raise firms' financing cost of working capital. Mendoza and Yue note that while emerging market business cycle models treat default risk as part of an