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Debt dilution and seniority in a model of defaultable sovereign debt

Author

Listed:
  • 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.

Suggested Citation

  • Satyajit Chatterjee & Burcu Eyigungor, 2012. "Debt dilution and seniority in a model of defaultable sovereign debt," Working Papers 12-14, Federal Reserve Bank of Philadelphia.
  • Handle: RePEc:fip:fedpwp:12-14
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    References listed on IDEAS

    as
    1. Cristina Arellano & Ananth Ramanarayanan, 2012. "Default and the Maturity Structure in Sovereign Bonds," Journal of Political Economy, University of Chicago Press, vol. 120(2), pages 187-232.
    2. Eduardo Borensztein & Olivier D Jeanne & Paolo Mauro & Jeronimo Zettelmeyer & Marcos d Chamon, 2005. "Sovereign Debt Structure for Crisis Prevention," IMF Occasional Papers 237, International Monetary Fund.
    3. Saravia, Diego, 2010. "On the role and effects of IMF seniority," Journal of International Money and Finance, Elsevier, vol. 29(6), pages 1024-1044, October.
    4. Hatchondo, Juan Carlos & Martinez, Leonardo, 2009. "Long-duration bonds and sovereign defaults," Journal of International Economics, Elsevier, vol. 79(1), pages 117-125, September.
    5. Satyajit Chatterjee & Burcu Eyigungor, 2012. "Maturity, Indebtedness, and Default Risk," American Economic Review, American Economic Association, vol. 102(6), pages 2674-2699, October.
    6. Juan Carlos Hatchondo & Leonardo Martinez & César Sosa-Padilla, 2016. "Debt Dilution and Sovereign Default Risk," Journal of Political Economy, University of Chicago Press, vol. 124(5), pages 1383-1422.
    7. Jonathan Eaton & Mark Gersovitz, 1981. "Debt with Potential Repudiation: Theoretical and Empirical Analysis," Review of Economic Studies, Oxford University Press, vol. 48(2), pages 289-309.
    8. David Benjamin, 2008. "Recovery Before Redemption," 2008 Meeting Papers 531, Society for Economic Dynamics.
    9. Michael P. Dooley, 2000. "Can Output Losses Following International Financial Crises be Avoided?," NBER Working Papers 7531, National Bureau of Economic Research, Inc.
    10. Cole, Harold L. & Kehoe, Timothy J., 1996. "A self-fulfilling model of Mexico's 1994-1995 debt crisis," Journal of International Economics, Elsevier, vol. 41(3-4), pages 309-330, November.
    Full references (including those not matched with items on IDEAS)

    Citations

    Blog mentions

    As found by EconAcademics.org, the blog aggregator for Economics research:
    1. Avoiding sovereign debt dilution with debt seniority
      by Economic Logician in Economic Logic on 2012-07-10 19:04:00
    2. [経済]ソブリン危機を避ける一法
      by himaginary in himaginaryの日記 on 2012-07-12 12:00:00

    Citations

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    Cited by:

    1. Catão, Luis A. V. & Fostel, Ana & Rancière, Romain, 2013. "Fiscal Discoveries and Sudden Decouplings," CEPR Discussion Papers 9368, C.E.P.R. Discussion Papers.
    2. Juan Carlos Hatchondo & Leonardo Martinez & César Sosa-Padilla, 2016. "Debt Dilution and Sovereign Default Risk," Journal of Political Economy, University of Chicago Press, vol. 124(5), pages 1383-1422.
    3. Luis Catão & Ana Fostel & Romain Ranciere, 2017. "Fiscal Discoveries and Yield Decouplings," IMF Economic Review, Palgrave Macmillan;International Monetary Fund, vol. 65(4), pages 704-744, November.
    4. Juan Carlos Hatchondo & Leonardo Martinez & Francisco Roch, 2012. "Fiscal rules and the sovereign default premium," Working Paper 12-01, Federal Reserve Bank of Richmond.
    5. Juliana Salomao, 2015. "Sovereign Debt Renegotiation and Credit Default Swaps," 2015 Meeting Papers 826, Society for Economic Dynamics.
    6. repec:eee:inecon:v:108:y:2017:i:c:p:243-259 is not listed on IDEAS
    7. Aguiar, Mark & Amador, Manuel, 2014. "Sovereign Debt," Handbook of International Economics, Elsevier.
    8. Kiyoung Jeon & Zeynep Kabukcuoglu, 2016. "Income Inequality and Sovereign Default," Villanova School of Business Department of Economics and Statistics Working Paper Series 29, Villanova School of Business Department of Economics and Statistics.
    9. Alessandro Dovis, 2013. "Efficient Sovereign Default," 2013 Meeting Papers 293, Society for Economic Dynamics.
    10. repec:eee:moneco:v:90:y:2017:i:c:p:50-63 is not listed on IDEAS
    11. Mark Aguiar & Manuel Amador, 2013. "Sovereign Debt: A Review," NBER Working Papers 19388, National Bureau of Economic Research, Inc.
    12. repec:eee:jimfin:v:81:y:2018:i:c:p:221-241 is not listed on IDEAS

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    Keywords

    Debt ; Default (Finance);

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