IDEAS home Printed from https://ideas.repec.org/p/fip/fedpwp/13-30.html
   My bibliography  Save this paper

Debt dilution and seniority in a model of defaultable sovereign debt

Author

Listed:
  • Satyajit Chatterjee
  • Burcu Eyigungor

Abstract

An important ineffciency in sovereign debt markets is debt dilution, wherein sovereigns ignore the adverse impact of new debt on the value of existing debt and, consequently, borrow too much and default too frequently. A widely proposed remedy is the inclusion of seniority clause in sovereign debt contracts: Creditors who lent first have priority in any restructuring proceedings. We incorporate seniority in a quantitatively realistic model of sovereign debt and find that seniority is quite effective in mitigating the dilution problem. We also show theoretically that seniority cannot be fully effective unless the costs of debt restructuring are zero.

Suggested Citation

  • Satyajit Chatterjee & Burcu Eyigungor, 2013. "Debt dilution and seniority in a model of defaultable sovereign debt," Working Papers 13-30, Federal Reserve Bank of Philadelphia.
  • Handle: RePEc:fip:fedpwp:13-30
    as

    Download full text from publisher

    File URL: https://www.philadelphiafed.org/-/media/frbp/assets/working-papers/2013/wp13-30.pdf
    Download Restriction: no
    ---><---

    Other versions of this item:

    References listed on IDEAS

    as
    1. 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.
    2. Hatchondo, Juan Carlos & Martinez, Leonardo, 2009. "Long-duration bonds and sovereign defaults," Journal of International Economics, Elsevier, vol. 79(1), pages 117-125, September.
    3. 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.
    4. Satyajit Chatterjee & Burcu Eyigungor, 2012. "Maturity, Indebtedness, and Default Risk," American Economic Review, American Economic Association, vol. 102(6), pages 2674-2699, October.
    5. 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.
    6. David Benjamin, 2008. "Recovery Before Redemption," 2008 Meeting Papers 531, Society for Economic Dynamics.
    7. Michael P. Dooley, 2000. "Can Output Losses Following International Financial Crises be Avoided?," NBER Working Papers 7531, National Bureau of Economic Research, Inc.
    8. Patrick Bolton & Olivier Jeanne, 2009. "Structuring and Restructuring Sovereign Debt: The Role of Seniority -super-1," The Review of Economic Studies, Review of Economic Studies Ltd, vol. 76(3), pages 879-902.
    9. 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.
    10. Jonathan Eaton & Mark Gersovitz, 1981. "Debt with Potential Repudiation: Theoretical and Empirical Analysis," The Review of Economic Studies, Review of Economic Studies Ltd, vol. 48(2), pages 289-309.
    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. A solution to sovereign debt dilution
      by Economic Logician in Economic Logic, Too on 2014-01-20 23:40:00
    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
    3. Avoiding sovereign debt dilution with debt seniority
      by Economic Logician in Economic Logic on 2012-07-10 19:04:00

    Citations

    Citations are extracted by the CitEc Project, subscribe to its RSS feed for this item.
    as


    Cited by:

    1. Juan Carlos Hatchondo & Leonardo Martinez & Francisco Roch, 2012. "Fiscal rules and the sovereign default premium," Working Paper 12-01, Federal Reserve Bank of Richmond.
    2. Jeon, Kiyoung & Kabukcuoglu, Zeynep, 2018. "Income inequality and sovereign default," Journal of Economic Dynamics and Control, Elsevier, vol. 95(C), pages 211-232.
    3. Rancière, Romain & Catão, Luís & Fostel, Ana, 2013. "Fiscal Discoveries and Sudden Decouplings," CEPR Discussion Papers 9368, C.E.P.R. Discussion Papers.
    4. Jesse Perla & Carolin Pflueger & Michal Szkup, 2020. "Doubling Down on Debt: Limited Liability as a Financial Friction," NBER Working Papers 27747, National Bureau of Economic Research, Inc.
    5. 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.
    6. Juliana Salomao, 2015. "Sovereign Debt Renegotiation and Credit Default Swaps," 2015 Meeting Papers 826, Society for Economic Dynamics.
    7. Perez, Diego J., 2017. "Sovereign debt maturity structure under asymmetric information," Journal of International Economics, Elsevier, vol. 108(C), pages 243-259.
    8. 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.
    9. Aubhik Khan & Soyoung Lee, 2023. "Persistent Debt and Business Cycles in an Economy with Production Heterogeneity," Staff Working Papers 23-17, Bank of Canada.
    10. Alessandro Dovis, 2013. "Efficient Sovereign Default," 2013 Meeting Papers 293, Society for Economic Dynamics.
    11. Salomao, Juliana, 2017. "Sovereign debt renegotiation and credit default swaps," Journal of Monetary Economics, Elsevier, vol. 90(C), pages 50-63.
    12. Zuzana Mucka & Ludovit Odor, 2018. "Optimal sovereign debt: Case of Slovakia," Working Papers Working Paper No. 3/2018, Council for Budget Responsibility.
    13. Waibel Michael, 2016. "Eurobonds: Legal Design Features," Review of Law & Economics, De Gruyter, vol. 12(3), pages 635-657, November.
    14. Aguiar, Mark & Amador, Manuel, 2014. "Sovereign Debt," Handbook of International Economics, in: Gopinath, G. & Helpman, . & Rogoff, K. (ed.), Handbook of International Economics, edition 1, volume 4, chapter 0, pages 647-687, Elsevier.
    15. Mark Aguiar & Manuel Amador, 2013. "Sovereign Debt: A Review," NBER Working Papers 19388, National Bureau of Economic Research, Inc.
    16. Sunder-Plassmann, Laura, 2018. "Writing off sovereign debt: Default and recovery rates over the cycle," Journal of International Money and Finance, Elsevier, vol. 81(C), pages 221-241.

    Most related items

    These are the items that most often cite the same works as this one and are cited by the same works as this one.
    1. 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.
    2. Satyajit Chatterjee & Burcu Eyigungor, 2015. "A Seniority Arrangement for Sovereign Debt," American Economic Review, American Economic Association, vol. 105(12), pages 3740-3765, December.
    3. Juan Carlos Hatchondo & Mr. Francisco Roch & Mr. Leonardo Martinez, 2012. "Fiscal Rules and the Sovereign Default Premium," IMF Working Papers 2012/030, International Monetary Fund.
    4. Javier Bianchi & Juan Carlos Hatchondo & Leonardo Martinez, 2018. "International Reserves and Rollover Risk," American Economic Review, American Economic Association, vol. 108(9), pages 2629-2670, September.
    5. Javier Bianchi & Jorge Mondragon, 2022. "Monetary Independence and Rollover Crises," The Quarterly Journal of Economics, President and Fellows of Harvard College, vol. 137(1), pages 435-491.
    6. Juan Hatchondo & Francisco Roch & Leonardo Martinez, 2019. "Constrained efficient borrowing with sovereign default risk," 2019 Meeting Papers 899, Society for Economic Dynamics.
    7. Hatchondo, Juan Carlos & Martinez, Leonardo & Onder, Yasin Kursat, 2017. "Non-defaultable debt and sovereign risk," Journal of International Economics, Elsevier, vol. 105(C), pages 217-229.
    8. Mihalache, Gabriel, 2020. "Sovereign default resolution through maturity extension," Journal of International Economics, Elsevier, vol. 125(C).
    9. Juan Carlos Hatchondo & Leonardo Martinez, 2013. "Sudden Stops, Time Inconsistency, and the Duration of Sovereign Debt," International Economic Journal, Taylor & Francis Journals, vol. 27(2), pages 217-228, June.
    10. Johri, Alok & Khan, Shahed & Sosa-Padilla, César, 2022. "Interest rate uncertainty and sovereign default risk," Journal of International Economics, Elsevier, vol. 139(C).
    11. Aguiar, M. & Chatterjee, S. & Cole, H. & Stangebye, Z., 2016. "Quantitative Models of Sovereign Debt Crises," Handbook of Macroeconomics, in: J. B. Taylor & Harald Uhlig (ed.), Handbook of Macroeconomics, edition 1, volume 2, chapter 0, pages 1697-1755, Elsevier.
    12. Dias, Daniel A. & Richmond, Christine & Wright, Mark L.J., 2014. "The stock of external sovereign debt: Can we take the data at ‘face value’?," Journal of International Economics, Elsevier, vol. 94(1), pages 1-17.
    13. Juan Carlos Conesa & Timothy J. Kehoe, 2017. "Gambling for redemption and self-fulfilling debt crises," Economic Theory, Springer;Society for the Advancement of Economic Theory (SAET), vol. 64(4), pages 707-740, December.
    14. Mark Aguiar & Satyajit Chatterjee & Harold Cole & Zachary Stangebye, 2022. "Self-Fulfilling Debt Crises, Revisited," Journal of Political Economy, University of Chicago Press, vol. 130(5), pages 1147-1183.
    15. Siming Liu & Hewei Shen, 2022. "Fiscal Commitment and Sovereign Default Risk," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 46, pages 98-123, October.
    16. Maximiliano Dvorkin & Juan M. Sánchez & Horacio Sapriza & Emircan Yurdagul, 2021. "Sovereign Debt Restructurings," American Economic Journal: Macroeconomics, American Economic Association, vol. 13(2), pages 26-77, April.
    17. Mark Aguiar & Satyajit Chatterjee & Harold L. Cole & Zachary Stangebye, 2017. "Self-Fulfilling Debt Crises, Revisited: The Art of the Desperate Deal," Working Papers 17-7, Federal Reserve Bank of Philadelphia.
    18. Asonuma, Tamon & Niepelt, Dirk & Ranciere, Romain, 2023. "Sovereign bond prices, haircuts and maturity," Journal of International Economics, Elsevier, vol. 140(C).
    19. Dvorkin, Maximiliano & Sánchez, Juan M. & Sapriza, Horacio & Yurdagul, Emircan, 2020. "News, sovereign debt maturity, and default risk," Journal of International Economics, Elsevier, vol. 126(C).
    20. Bocola, Luigi & Bornstein, Gideon & Dovis, Alessandro, 2019. "Quantitative sovereign default models and the European debt crisis," Journal of International Economics, Elsevier, vol. 118(C), pages 20-30.

    More about this item

    Keywords

    Debt;

    NEP fields

    This paper has been announced in the following NEP Reports:

    Statistics

    Access and download statistics

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:fip:fedpwp:13-30. See general information about how to correct material in RePEc.

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If CitEc recognized a bibliographic reference but did not link an item in RePEc to it, you can help with this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: Beth Paul (email available below). General contact details of provider: https://edirc.repec.org/data/frbphus.html .

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service. RePEc uses bibliographic data supplied by the respective publishers.