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Bank loans versus bond finance: implications for sovereign debtors

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  • Misa Tanaka

Abstract

This paper develops a model to analyse the optimal choice between bank loans and bond finance for a sovereign debtor. We show that if banks have better information about their borrowers compared to bondholders, only the least risky sovereigns issue bonds. But if borrowers can be 'publicly monitored' by an outside agency that disseminates the information about their creditworthiness, their choice between bank loans and bond finance is determined endogenously by the trade-off between two deadweight costs: the crisis cost of a sovereign default and the cost of debtor moral hazard. In equilibrium, sovereigns use bank loans for financing short-term projects and bond issuance for projects with uncertain timing of cash flows if crisis costs are large. We also demonstrate that state-contingent debt and IMF intervention can improve welfare.

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  • Misa Tanaka, 2005. "Bank loans versus bond finance: implications for sovereign debtors," Bank of England working papers 267, Bank of England.
  • Handle: RePEc:boe:boeewp:267
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    References listed on IDEAS

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    1. Spiegel, Mark M., 2005. "Solvency runs, sunspot runs, and international bailouts," Journal of International Economics, Elsevier, vol. 65(1), pages 203-219, January.
    2. Eduardo Borensztein & Paolo Mauro, 2002. "Reviving the Case for GDP-Indexed Bonds," IMF Policy Discussion Papers 02/10, International Monetary Fund.
    3. Morris, Stephen & Shin, Hyun Song, 2004. "Coordination risk and the price of debt," European Economic Review, Elsevier, vol. 48(1), pages 133-153, February.
    4. Michael P. Dooley, 2000. "Can Output Losses Following International Financial Crises be Avoided?," NBER Working Papers 7531, National Bureau of Economic Research, Inc.
    5. Haldane, Andrew G. & Penalver, Adrian & Saporta, Victoria & Shin, Hyun Song, 2005. "Analytics of sovereign debt restructuring," Journal of International Economics, Elsevier, vol. 65(2), pages 315-333, March.
    6. Bolton, Patrick & Scharfstein, David S, 1996. "Optimal Debt Structure and the Number of Creditors," Journal of Political Economy, University of Chicago Press, vol. 104(1), pages 1-25, February.
    7. Douglas W. Diamond & Philip H. Dybvig, 2000. "Bank runs, deposit insurance, and liquidity," Quarterly Review, Federal Reserve Bank of Minneapolis, issue Win, pages 14-23.
    8. Rajan, Raghuram G, 1992. " Insiders and Outsiders: The Choice between Informed and Arm's-Length Debt," Journal of Finance, American Finance Association, vol. 47(4), pages 1367-1400, September.
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    Cited by:

    1. Ghosal, Sayantan & Thampanishvong, Kannika, 2013. "Does strengthening Collective Action Clauses (CACs) help?," Journal of International Economics, Elsevier, vol. 89(1), pages 68-78.
    2. De Paoli, Biana & Hoggarth, Glenn & Saporta, Victoria, 2006. "Financial Stability Paper No 1: Costs of Sovereign Default," Bank of England Financial Stability Papers 1, Bank of England.
    3. Irwin, Gregor & Thwaites, Gregory, 2008. "Efficient frameworks for sovereign borrowing," Bank of England working papers 343, Bank of England.

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