IMF bailouts and moral hazard

Abstract

This paper empirically investigates the extent of investor moral hazard associated with IMF bailouts by analyzing the responses of sovereign bond spreads to the changes in the perceived probability of IMF bailouts of countries undergoing financial crisis. By allowing the probability of being bailed out by the IMF to differ across countries, we find that the expectations of IMF lending attenuate the relationship between spreads and country fundamentals, consistent with the presence of IMF moral hazard. Our findings indicate that this effect persists even after the non-bailout of Russian crisis in August 1998. (c) 2008 Elsevier Ltd. All rights reserved.