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Voluntary sovereign debt exchanges

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  • Hatchondo, Juan Carlos
  • Martinez, Leonardo
  • Sosa Padilla, César

Abstract

We show that some recent sovereign debt restructurings were characterized by (i) the absence of missed debt payments prior to the restructurings, (ii) reductions in the government's debt burden, and (iii) increases in the market value of debt claims for holders of the restructured debt. Since both the government and its creditors are likely to benefit from such restructurings, we label these episodes as “voluntary” debt exchanges. We present a model in which voluntary debt exchanges can occur in equilibrium when the debt level takes values above the one that maximizes the market value of debt claims. In contrast to previous studies on debt overhang, in our model opportunities for voluntary exchanges arise because a debt reduction implies a decline of the sovereign default risk. This is observed in the absence of any effect of debt reductions on future output levels. Although voluntary exchanges are Pareto improving at the time of the restructuring, we show that eliminating the possibility of conducting voluntary exchanges may improve welfare from an ex ante perspective. Thus, our results highlight a cost of initiatives that facilitate debt restructurings.

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Bibliographic Info

Article provided by Elsevier in its journal Journal of Monetary Economics.

Volume (Year): 61 (2014)
Issue (Month): C ()
Pages: 32-50

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Handle: RePEc:eee:moneco:v:61:y:2014:i:c:p:32-50

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Web page: http://www.elsevier.com/locate/inca/505566

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Keywords: Sovereign default; Debt restructuring; Voluntary debt exchanges; Long-term debt; Endogenous borrowing constraints;

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  1. Leonardo Martinez & Cesar Sosa Padilla & Juan Hatchondo, 2012. "Debt dilution and sovereign default risk," 2012 Meeting Papers 974, Society for Economic Dynamics.
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  10. Cruces, Juan J. & Trebesch, Christoph, 2013. "Sovereign defaults: The price of haircuts," Munich Reprints in Economics 20036, University of Munich, Department of Economics.
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  16. Juan Carlos Hatchondo & Leonardo Martinez, 2013. "Sudden stops, time inconsistency, and the duration of sovereign debt," Working Paper 13-08, Federal Reserve Bank of Richmond.
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  23. Juan Carlos Hatchondo & Leonardo Martinez, 2011. "Legal protection to foreign investors," Economic Quarterly, Federal Reserve Bank of Richmond, issue 2Q, pages 175-187.
  24. Paul R. Krugman, 1989. "Market-Based Debt-Reduction Schemes," NBER Working Papers 2587, National Bureau of Economic Research, Inc.
  25. Juan Carlos Hatchondo & Leonardo Martinez & Horacio Sapriza, 2010. "Quantitative properties of sovereign default models: solution methods matter," Working Paper 10-04, Federal Reserve Bank of Richmond.
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