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Recovery Before Redemption

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  • David Benjamin

    (University of Southampton)

Abstract

We present a model where default occurs because of a country's limited commitment to repay. In this model, default is costly to the country as it leads to a loss of income and a denial of access to markets. If a country's debt is high and income is persistently low, the country defaults on its debts in order to negotiate a smaller future obligation. Alternatively a country may default if bargaining power shifts away from the creditors towards the debtor. Once in default the country faces a formal bargaining procedure. In each period either the debtor country or the creditors are chosen randomly to make new offers which can consist of either current consumption or future debt. Neither side can commit to offers in any period during the bargaining. We show this model generates substantial delays in equilibrium. By doing so, we are able to explain delays without coordination problems or imperfect information. We also provide detailed quantitative implications of the model. We are able to match a wide variety of features of the data for recent sovereign debt renegotiations. These features include long delays, the correlation between income and both the beginning and end of sovereign default and the correlation between the size of the length of the default.

Suggested Citation

  • David Benjamin, 2008. "Recovery Before Redemption," 2008 Meeting Papers 531, Society for Economic Dynamics.
  • Handle: RePEc:red:sed008:531
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    Cited by:

    1. Jessica Roldán-Peña, 2012. "Default Risk and Economic Activity: A Small Open Economy Model with Sovereign Debt and Default," Working Papers 2012-16, Banco de México.
    2. Carvalho, Carlos & Schwartzman, Felipe, 2015. "Selection and monetary non-neutrality in time-dependent pricing models," Journal of Monetary Economics, Elsevier, pages 141-156.
    3. Ghosal, Sayantan & Miller, Marcus & Thampanishvong, Kannika, 2010. "Delay and Haircuts in Sovereign Debt: Recovery and Sustainability," SIRE Discussion Papers 2010-17, Scottish Institute for Research in Economics (SIRE).
    4. Péter Benczúr & Cosmin L. Ilut, 2016. "Evidence For Relational Contracts In Sovereign Bank Lending," Journal of the European Economic Association, European Economic Association, vol. 14(2), pages 375-404, April.
    5. Rohan Pitchford & Mark L. J. Wright, 2012. "Holdouts in Sovereign Debt Restructuring: A Theory of Negotiation in a Weak Contractual Environment," Review of Economic Studies, Oxford University Press, vol. 79(2), pages 812-837.
    6. Juan Carlos Hatchondo & Cesar Sosa-Padilla & Leonardo Martinez, 2010. "Debt dilution, overborrowing, and sovereign default risk," 2010 Meeting Papers 481, Society for Economic Dynamics.
    7. Javier Bianchi & Juan Carlos Hatchondo & Leonardo Martinez, 2012. "International Reserves and Rollover Risk," NBER Working Papers 18628, National Bureau of Economic Research, Inc.
    8. Satyajit Chatterjee & Burcu Eyigungor, 2012. "Maturity, Indebtedness, and Default Risk," American Economic Review, American Economic Association, pages 2674-2699.
    9. Tamon Asonuma, 2010. "Serial Default and Debt Renegotiation," 2010 Meeting Papers 169, Society for Economic Dynamics.
    10. Xavier Mateos-Planas & Jose-Victor Rios-Rull & Cristina Arellano, 2013. "Partial Default," 2013 Meeting Papers 765, Society for Economic Dynamics.
    11. Aitor Erce, 2013. "Sovereign debt restructurings and the IMF: implications for future official interventions," Globalization and Monetary Policy Institute Working Paper 143, Federal Reserve Bank of Dallas.
    12. Dean Yang, 2008. "Can Enforcement Backfire? Crime Displacement in the Context of Customs Reform in the Philippines," The Review of Economics and Statistics, MIT Press, pages 1-14.
    13. Michael Tomz & Mark L.J. Wright, 2013. "Empirical Research on Sovereign Debt and Default," Annual Review of Economics, Annual Reviews, pages 247-272.
    14. Bai, Yan & Zhang, Jing, 2012. "Duration of sovereign debt renegotiation," Journal of International Economics, Elsevier, pages 252-268.
    15. Cristina Arellano & Juan Carlos Conesa & Timothy J. Kehoe, 2012. "Chronic sovereign debt crises in the Eurozone, 2010-2012," Economic Policy Paper 12-4, Federal Reserve Bank of Minneapolis.
    16. Chris Edmond & Virgiliu Midrigan & Daniel Yi Xu, 2015. "Competition, Markups, and the Gains from International Trade," American Economic Review, American Economic Association, pages 3183-3221.
    17. Juan J. Cruces & Christoph Trebesch, 2013. "Sovereign Defaults: The Price of Haircuts," American Economic Journal: Macroeconomics, American Economic Association, pages 85-117.
    18. 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.
    19. Kyle F. Herkenhoff & Lee E. Ohanian, 2012. "Foreclosure delay and U.S. unemployment," Working Papers 2012-017, Federal Reserve Bank of St. Louis.
    20. Hur, Sewon & Kondo, Illenin O., 2016. "A theory of rollover risk, sudden stops, and foreign reserves," Journal of International Economics, Elsevier, pages 44-63.
    21. Gabriel Mihalache, 2017. "Sovereign Default Resolution Through Maturity Extension," Department of Economics Working Papers 17-08, Stony Brook University, Department of Economics.
    22. Tamon Asonuma, 2010. "Serial Default and Debt Renegotiation," 2010 Meeting Papers 169, Society for Economic Dynamics.
    23. Adam Gersl & Petr Jakubik & Tomas Konecny & Jakub Seidler, 2012. "Dynamic Stress Testing: The Framework for Testing Banking Sector Resilience Used by the Czech National Bank," Working Papers 2012/11, Czech National Bank, Research Department.
    24. Jessica Roldan-Pena, 2011. "Default risk and economic activity: A small open economy model with sovereign debt and default," 2011 Meeting Papers 735, Society for Economic Dynamics.
    25. Malin Adolfson & Stefan Laséen & Jesper Lindé & Lars E.O. Svensson, 2011. "Optimal Monetary Policy in an Operational Medium‐Sized DSGE Model," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 43(7), pages 1287-1331, October.

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