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Debt dilution and seniority in a model of defaultable sovereign debt

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  • Satyajit Chatterjee
  • Burcu Eyigungor

Abstract

An important source of inefficiency in long-term debt contracts is the debt dilution problem, wherein a borrower ignores the adverse impact of new borrowing on the market value of outstanding debt and, therefore, borrows too much and defaults too frequently. A commonly proposed remedy to the debt dilution problem is seniority of debt, wherein creditors who lent first are given priority in any bankruptcy or restructuring proceedings. The goal of this paper is to incorporate seniority in a quantitatively realistic, infinite horizon model of sovereign debt and default and examine, both theoretically and quantitatively, the extent to which seniority can mitigate the debt dilution problem.

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Bibliographic Info

Paper provided by Federal Reserve Bank of Philadelphia in its series Working Papers with number 12-14.

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Date of creation: 2012
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Handle: RePEc:fip:fedpwp:12-14

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Keywords: Debt ; Default (Finance);

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  1. Neumeyer, Pablo Andrés & Perri, Fabrizio, 2004. "Business Cycles in Emerging Economies: The Role of Interest Rates," CEPR Discussion Papers, C.E.P.R. Discussion Papers 4482, C.E.P.R. Discussion Papers.
  2. Cole, Harold L. & Kehoe, Timothy J., 1996. "A self-fulfilling model of Mexico's 1994-1995 debt crisis," Journal of International Economics, Elsevier, Elsevier, vol. 41(3-4), pages 309-330, November.
  3. Diego Saravia, 2009. "On The Role and Effects of IMF Seniority," Working Papers Central Bank of Chile, Central Bank of Chile 538, Central Bank of Chile.
  4. Satyajit Chatterjee & Burcu Eyigungor, 2009. "Maturity, indebtedness, and default risk," Working Papers, Federal Reserve Bank of Philadelphia 09-2, Federal Reserve Bank of Philadelphia.
  5. Hatchondo, Juan Carlos & Martinez, Leonardo, 2009. "Long-duration bonds and sovereign defaults," Journal of International Economics, Elsevier, Elsevier, vol. 79(1), pages 117-125, September.
  6. Leonardo Martinez & Juan Carlos Hatchondo & Cesar Sosa Padilla, 2011. "Debt Dilution and Sovereign Default Risk," IMF Working Papers, International Monetary Fund 11/70, International Monetary Fund.
  7. Eaton, Jonathan & Gersovitz, Mark, 1981. "Debt with Potential Repudiation: Theoretical and Empirical Analysis," Review of Economic Studies, Wiley Blackwell, Wiley Blackwell, vol. 48(2), pages 289-309, April.
  8. Michael P. Dooley, 2000. "Can Output Losses Following International Financial Crises be Avoided?," NBER Working Papers 7531, National Bureau of Economic Research, Inc.
  9. Mark Aguiar & Gita Gopinath, 2004. "Defaultable debt, interest rates, and the current account," Working Papers, Federal Reserve Bank of Boston 04-5, Federal Reserve Bank of Boston.
  10. David Benjamin, 2008. "Recovery Before Redemption," 2008 Meeting Papers, Society for Economic Dynamics 531, Society for Economic Dynamics.
  11. Cristina Arellano & Ananth Ramanarayanan, 2008. "Default and the maturity structure in sovereign bonds," Globalization and Monetary Policy Institute Working Paper, Federal Reserve Bank of Dallas 19, Federal Reserve Bank of Dallas.
  12. Arellano, Cristina, 2008. "Default risk and income fluctuations in emerging economies," MPRA Paper 7867, University Library of Munich, Germany.
  13. Jeffrey Sachs & Daniel Cohen, 1982. "LDC Borrowing with Default Risk," NBER Working Papers 0925, National Bureau of Economic Research, Inc.
  14. Eduardo Borensztein & Olivier Jeanne & Paolo Mauro & Jeromin Zettelmeyer & Marcos Chamon, 2005. "Sovereign Debt Structure for Crisis Prevention," IMF Occasional Papers, International Monetary Fund 237, International Monetary Fund.
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Blog mentions

As found by EconAcademics.org, the blog aggregator for Economics research:
  1. A solution to sovereign debt dilution
    by Economic Logician in Economic Logic, Too on 2014-01-20 17:40:00
  2. Avoiding sovereign debt dilution with debt seniority
    by Economic Logician in Economic Logic on 2012-07-10 14:04:00
  3. [??]????????????
    by himaginary in himaginaryの日記 on 2012-07-12 07:00:00

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