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We develop a sovereign debt model with official and private creditors where default risk depends on both the level and the composition of liabilities. Higher exposure to official lenders improves incentives to repay but carries extra costs, such as reduced ex-post flexibility. The model implies that official lending to sovereigns takes place in times of debt distress; carries a favorable rate; and can displace private funding even under pari passu provisions. Moreover, in the presence of long-term debt overhang, the availability of official funds increases the probability of default on existing debt, although default does not trigger exclusion from private credit markets. These findings help shed light on joint default and debt composition choices of the type observed during the recent sovereign debt crisis in Europe.

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Paper provided by Swiss National Bank, Study Center Gerzensee in its series Working Papers with number 13.05.

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Length: 28 pages
Date of creation: May 2013
Date of revision:
Handle: RePEc:szg:worpap:1305
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  1. N. Gregory Mankiw, 1999. "The Savers-Spenders Theory of Fiscal Policy," Harvard Institute of Economic Research Working Papers 1888, Harvard - Institute of Economic Research.
  2. Niepelt, Dirk, 2008. "Debt Maturity without Commitment," CEPR Discussion Papers 7093, C.E.P.R. Discussion Papers.
  3. Harold L. Cole & Timothy J. Kehoe, 1998. "Self-fulfilling debt crises," Staff Report 211, Federal Reserve Bank of Minneapolis.
  4. Michael Tomz & Mark L. J. Wright, 2007. "Do Countries Default In "Bad Times"?," CAMA Working Papers 2007-23, Centre for Applied Macroeconomic Analysis, Crawford School of Public Policy, The Australian National University.
  5. Mark Aguiar & Gita Gopinath, 2004. "Defaultable debt, interest rates and the current account," Proceedings, Federal Reserve Bank of San Francisco, issue Jun.
  6. Fernando Broner & Alberto Martin & Jaume Ventura, 2006. "Sovereign Risk and Secondary Markets," 2006 Meeting Papers 565, Society for Economic Dynamics.
  7. Egil Matsen & Ragnar Torvik & Tommy Sveen, 2004. "Savers, Spenders and Fiscal Policy in a Small Open Economy," Working Paper Series 4704, Department of Economics, Norwegian University of Science and Technology.
  8. Emine Boz, 2009. "Sovereign Default, Private Sector Creditors and the IFIs," IMF Working Papers 09/46, International Monetary Fund.
  9. Bolton, Patrick & Jeanne, Olivier, 2011. "Sovereign Default Risk and Bank Fragility in Financially Integrated Economies," CEPR Discussion Papers 8358, C.E.P.R. Discussion Papers.
  10. Bagnoli, M. & Bergstrom, T., 1989. "Log-Concave Probability And Its Applications," Papers 89-23, Michigan - Center for Research on Economic & Social Theory.
  11. 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.
  12. Tirole, Jean, 2012. "Country Solidarity, Private Sector Involvement and the Contagion of Sovereign Crises," IDEI Working Papers 761, Institut d'Économie Industrielle (IDEI), Toulouse, revised Sep 2012.
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