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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 Swiss National Bank, Study Center Gerzensee in its series Working Papers with number 13.05.

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Length: 28 pages
Date of creation: May 2013
Date of revision:
Handle: RePEc:szg:worpap:1305

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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. Egil Matsen & Tommy Sveen & Ragnar Torvik, 2005. "Savers, Spenders and Fiscal Policy in a Small Open Economy," CESifo Working Paper Series 1618, CESifo Group Munich.
  3. Fernando A Broner & Alberto Martin & Jaume Ventura, 2006. "Sovereign Risk and Secondary Markets," Working Papers 306, Barcelona Graduate School of Economics.
  4. Michael Tomz & Mark L. J. Wright, 2007. "Do countries default in “bad times”?," Working Paper Series 2007-17, Federal Reserve Bank of San Francisco.
  5. Mark Aguiar & Gita Gopinath, 2004. "Defaultable debt, interest rates and the current account," Proceedings, Federal Reserve Bank of San Francisco, issue Jun.
  6. Niepelt, Dirk, 2008. "Debt Maturity without Commitment," CEPR Discussion Papers 7093, C.E.P.R. Discussion Papers.
  7. Harold L. Cole & Timothy J. Kehoe, 1998. "Self-Fulfilling Debt Crises," Levine's Working Paper Archive 114, David K. Levine.
  8. Boz, Emine, 2011. "Sovereign default, private sector creditors, and the IFIs," Journal of International Economics, Elsevier, vol. 83(1), pages 70-82, January.
  9. 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.
  10. N. Gregory Mankiw, 2000. "The Savers-Spenders Theory of Fiscal Policy," American Economic Review, American Economic Association, vol. 90(2), pages 120-125, May.
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