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Voluntary Sovereign Debt Exchanges

  • Juan Carlos Hatchondo
  • Leonardo Martinez
  • Cesar Sosa Padilla

We show that some recent sovereign debt restructurings were characterized by (i) the absence of missed debt payments prior to the restructurings, (ii) reductions in the government’s debt burden, and (iii) increases in the market value of debt claims for holders of the restructured debt. Since both the government and its creditors are likely to benefit from such restructurings, we label these episodes as “voluntary” debt exchanges. We present a model in which voluntary debt exchanges can occur in equilibrium when the debt level takes values above the one that maximizes the market value of debt claims. In contrast to previous studies on debt overhang, in our model opportunities for voluntary exchanges arise because a debt reduction implies a decline of sovereign default risk. This is observed in the absence of any effect of debt reductions on future output levels. Although voluntary exchanges are Pareto improving at the time of the restructuring, we show that eliminating the possibility of conducting voluntary exchanges may improve welfare from an ex-ante perspective. Thus, our results highlight a cost of initiatives that facilitate debt restructurings.

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File URL: http://socserv.mcmaster.ca/econ/rsrch/papers/archive/2013-13.pdf
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Paper provided by McMaster University in its series Department of Economics Working Papers with number 2013-13.

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Length: 37 pages
Date of creation: Aug 2013
Date of revision:
Handle: RePEc:mcm:deptwp:2013-13
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  1. Leonardo Martinez & Cesar Sosa Padilla & Juan Hatchondo, 2012. "Debt dilution and sovereign default risk," 2012 Meeting Papers 974, Society for Economic Dynamics.
  2. David Benjamin, 2008. "Recovery Before Redemption," 2008 Meeting Papers 531, Society for Economic Dynamics.
  3. Juan Carlos Hatchondo & Leonardo Martinez & Horacio Sapriza, 2010. "Online Appendix to "Quantitative properties of sovereign default models: solution methods"," Technical Appendices 08-133, Review of Economic Dynamics.
  4. Per Krusell & Anthony A. Smith, Jr., . "Consumption-Savings Decisions with Quasi-Geometric Discounting," GSIA Working Papers 2001-05, Carnegie Mellon University, Tepper School of Business.
  5. Sturzenegger, Federico & Zettelmeyer, Jeromin, 2008. "Haircuts: Estimating investor losses in sovereign debt restructurings, 1998-2005," Journal of International Money and Finance, Elsevier, vol. 27(5), pages 780-805, September.
  6. Juan Carlos Hatchondo & Francisco Roch & Leonardo Martinez, 2012. "Fiscal Rules and the Sovereign Default Premium," IMF Working Papers 12/30, International Monetary Fund.
  7. Krugman, Paul, 1988. "Financing vs. forgiving a debt overhang," Journal of Development Economics, Elsevier, vol. 29(3), pages 253-268, November.
  8. Aguiar, Mark & Gopinath, Gita, 2006. "Defaultable debt, interest rates and the current account," Journal of International Economics, Elsevier, vol. 69(1), pages 64-83, June.
  9. Javier Díaz-Cassou & Aitor Erce-Domínguez & Juan J. Vázquez-Zamora, 2008. "Recent episodes of sovereign debt restructurings. A case-study approach," Banco de Espa�a Occasional Papers 0804, Banco de Espa�a.
  10. Enderlein, Henrik & Trebesch, Christoph & von Daniels, Laura, 2012. "Sovereign debt disputes: A database on government coerciveness during debt crises," Journal of International Money and Finance, Elsevier, vol. 31(2), pages 250-266.
  11. Enrique G. Mendoza & Vivian Z. Yue, 2012. "A General Equilibrium Model of Sovereign Default and Business Cycles," The Quarterly Journal of Economics, Oxford University Press, vol. 127(2), pages 889-946.
  12. Cristina Arellano, 2008. "Default Risk and Income Fluctuations in Emerging Economies," American Economic Review, American Economic Association, vol. 98(3), pages 690-712, June.
  13. Pablo Andres Neumeyer & Fabrizio Perri, 1999. "Business Cycles in Emerging Economies: the role of interest rates," Department of Economics Working Papers 014, Universidad Torcuato Di Tella.
  14. Mark Aguiar & Manuel Amador & Gita Gopinath, 2009. "Investment Cycles and Sovereign Debt Overhang," Review of Economic Studies, Oxford University Press, vol. 76(1), pages 1-31.
  15. Aguiar, Mark & Gopinath, Gita, 2007. "Emerging Market Business Cycles: The Cycle is the Trend," Scholarly Articles 11988098, Harvard University Department of Economics.
  16. Mark Aguiar & Gita Gopinath, 2007. "Emerging Market Business Cycles: The Cycle Is the Trend," Journal of Political Economy, University of Chicago Press, vol. 115, pages 69-102.
  17. Vivian Z. Yue, 2005. "Sovereign Default and Debt Renegotiation," 2005 Meeting Papers 138, Society for Economic Dynamics.
  18. 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.
  19. Hatchondo, Juan Carlos & Martinez, Leonardo, 2009. "Long-duration bonds and sovereign defaults," Journal of International Economics, Elsevier, vol. 79(1), pages 117-125, September.
  20. Ugo Panizza & Federico Sturzenegger & Jeromin Zettelmeyer, 2009. "The Economics and Law of Sovereign Debt and Default," Journal of Economic Literature, American Economic Association, vol. 47(3), pages 651-98, September.
  21. Paul R. Krugman, 1988. "Market-Based Debt-Reduction Schemes," NBER Working Papers 2587, National Bureau of Economic Research, Inc.
  22. Juan Carlos Hatchondo & Leonardo Martinez, 2013. "Sudden stops, time inconsistency, and the duration of sovereign debt," IMF Working Papers 13/174, International Monetary Fund.
  23. Cruces, Juan J. & Trebesch, Christoph, 2013. "Sovereign defaults: The price of haircuts," Munich Reprints in Economics 20036, University of Munich, Department of Economics.
  24. Martin Uribe & Vivian Z. Yue, 2003. "Country Spreads and Emerging Countries: Who Drives Whom?," NBER Working Papers 10018, National Bureau of Economic Research, Inc.
  25. Juan Jose Cruces & Marcos Buscaglia & Joaquin Alonso, 2002. "The Term Structure of Country Risk and Valuation in Emerging Markets," Working Papers 46, Universidad de San Andres, Departamento de Economia, revised Apr 2002.
  26. Leonardo Martinez & Horacio Sapriza & Juan Carlos Hatchondo, 2010. "Quantitative Properties of Sovereign Default Models; Solution Methods Matter," IMF Working Papers 10/100, International Monetary Fund.
  27. Kenneth A. Froot, 1988. "Buybacks, Exit Bonds, and the Optimality of Debt and Liquidity Relief," NBER Working Papers 2675, National Bureau of Economic Research, Inc.
  28. Juan Carlos Hatchondo & Leonardo Martinez, 2011. "Legal protection to foreign investors," Economic Quarterly, Federal Reserve Bank of Richmond, issue 2Q, pages 175-187.
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