Three essays on sovereign debt and financial markets

Abstract

This dissertation analyzes different aspects of the actions of borrowing and repaying debts by governments in both domestic and international financial markets. In Chapter 1, which is co-authored with Guido Sandleris and Alejandro Van der Ghote, we use a unique dataset on sovereign bond issuances and syndicated bank loans to study the duration and determinants of the periods of exclusion from international credit markets that usually follow governments' defaults. Among other results, we find that countries either reaccess the markets in the first years after a default or have to wait much longer to do it, and that political stability significantly increases the chances of reaccessing the market. We present a political economy model of endogenous sovereign borrowing and market reaccess that matches these two features of the data. In Chapter 2, 1 study the relation between the domestic financial system's market structure, the allocation of government debt and the cost of credit for the government. The fact that governments are less likely to repudiate their debts when there are more domestic agents among their creditors creates an externality: when domestic investors demand government bonds, they reduce the probability of default and improve the situation of every other bondholder. The concentration of investment decisions in fewer financial institutions increases the degree of internalization of this effect, expands the demand for government bonds by domestic agents and reduces the cost of credit for the government. In Chapter 3, I propose a mechanism that can explain the observed positive correlation between public and private spreads, taking into account that domestic banks tend to be heavily exposed to sovereign debt. Firms have private information about the results of their projects, information that can be obtained by domestic banks, as long as they pay a verification cost, but not by foreign creditors. A sovereign default has a negative impact on domestic banks, reduces their verification capacity and increases the incentives for firms to declare themselves insolvent. Consequently, risks of sovereign and private defaults are positively correlated.