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Credibility For Sale

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  • Dellas, Harris
  • Niepelt, Dirk

Abstract

We develop a sovereign debt model with official and private creditors where default risk depends on both the level and the composition of liabilities. Higher exposure to official lenders improves incentives to repay but carries extra costs, such as reduced ex-post flexibility. The model implies that official lending to sovereigns takes place in times of debt distress; carries a favorable rate; and can displace private funding even under pari passu provisions. Moreover, in the presence of long-term debt overhang, the availability of official funds increases the probability of default on existing debt, although default does not trigger exclusion from private credit markets. These findings help shed light on joint default and debt composition choices of the type observed during the recent sovereign debt crisis in Europe.

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Paper provided by C.E.P.R. Discussion Papers in its series CEPR Discussion Papers with number 9562.

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Date of creation: Jul 2013
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Handle: RePEc:cpr:ceprdp:9562

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Keywords: default; enforcement; official lending; Sovereign debt;

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  1. Bagnoli, M. & Bergstrom, T., 1989. "Log-Concave Probability And Its Applications," Papers 89-23, Michigan - Center for Research on Economic & Social Theory.
  2. Fernando Broner & Alberto Martin & Jaume Ventura, 2010. "Sovereign Risk and Secondary Markets," American Economic Review, American Economic Association, vol. 100(4), pages 1523-55, September.
  3. Harold L. Cole & Timothy J. Kehoe, 1998. "Self-Fulfilling Debt Crises," Levine's Working Paper Archive 114, David K. Levine.
  4. Dirk Niepelt, 2008. "Debt Maturity without Commitment," CESifo Working Paper Series 2500, CESifo Group Munich.
  5. Eaton, Jonathan & Gersovitz, Mark, 1981. "Debt with Potential Repudiation: Theoretical and Empirical Analysis," Review of Economic Studies, Wiley Blackwell, vol. 48(2), pages 289-309, April.
  6. Egil Matsen & Ragnar Torvik & Tommy Sveen, 2004. "Savers, Spenders and Fiscal Policy in a Small Open Economy," Working Paper Series 4704, Department of Economics, Norwegian University of Science and Technology.
  7. Mark Aguiar & Gita Gopinath, 2004. "Defaultable debt, interest rates and the current account," Proceedings, Federal Reserve Bank of San Francisco, issue Jun.
  8. N. Gregory Mankiw, 2000. "The Savers-Spenders Theory of Fiscal Policy," American Economic Review, American Economic Association, vol. 90(2), pages 120-125, May.
  9. Emine Boz, 2009. "Sovereign Default, Private Sector Creditors and the IFIs," IMF Working Papers 09/46, International Monetary Fund.
  10. Michael Tomz & Mark L. J. Wright, 2007. "Do countries default in “bad times”?," Working Paper Series 2007-17, Federal Reserve Bank of San Francisco.
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