Over the past two decades, Mexico has hedged oil price risk through the purchase of put
options. We examine the resulting welfare gains using a standard sovereign default model
calibrated to Mexican data. We show that hedging increases welfare by reducing income
volatility and reducing risk spreads on sovereign debt. We find welfare gains equivalent to
a permanent increase in consumption of 0.44 percent with 90 percent of these gains
stemming from lower risk spreads.
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