This dissertation contains two lines of research: the allocation of talent and development; and sovereign default. The first chapter contributes to the policy debate on whether the rapid growth of the US financial sector is socially desirable. I propose a heterogeneous agent model with asymmetric information and matching frictions that produces a tradeoff between finance and entrepreneurship. By becoming bankers, talented individuals efficiently match investors with entrepreneurs, but do not internalize the negative effect on the pool of talented entrepreneurs. Thus, the financial sector is inefficiently large in equilibrium, and this inefficiency increases with wealth inequality. The model explains the simultaneous growth of wealth inequality and finance in the US, and why more unequal countries have larger financial sectors. The second chapter explains the simultaneous growth of the services sector and income inequality by studying an endogenous educational choice of heterogeneous agents in the form of talent. There are two mechanisms of financing higher education: bequests and loans. The model with bequests predicts an endogenous and permanent separation of the population between the rich and the poor. The model with loans allows for social mobility, but still generates a persistent level of inequality. On the transition from the traditional economy with bequests to the economy with loans, the model qualitatively reproduces the dynamics of skill supply, the college wage premium, tuition fees and the labor allocation between sectors in the last century in the US. The third chapter provides a novel theory to explain why sovereigns borrow on both domestic and international markets and why defaults are mostly selective (on either domestic or foreign investors). Domestic debt issuance can only smooth tax distortion shocks, whereas foreign debt can also smooth productivity shocks. If the correlation of these shocks is sufficiently low, the sovereign borrows on both markets to avoid excess consumption volatility. Defaults on both types of investors arise in equilibrium due to market incompleteness and the government’s limited commitment. The model matches business cycle moments and frequencies of different types of defaults in emerging economies. We also find, contrary to existing contributions, that secondary markets are likely to increase the risk of sovereign defaults. The outcome of the trade in bonds on secondary markets depends on how well each group of investors can coordinate their actions.