Building a Sovereign Benchmark The Limits of Private Coordination

Feng Dong and Fan Wu

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Abstract: Public debt supplies liquidity and collateral services only if institutions coordinate on using the same claim. We study this coordination when use carries a recurring cost and a benefit that rises with other users. Above a quality threshold, two positive-adoption equilibria exist, and under best responses the initial user base decides between collapse and high adoption. Under logit choice, as the population grows and noise vanishes, the long-run distribution selects high adoption only above a strictly higher threshold. Debt issuance improves market depth but eventually dilutes backing per claim. This trade-off creates a range of debt levels supporting the liquidity premium of public debt in macroeconomic models and a narrower range supporting its long-run selection. At the boundary of the wider range, the premium is discontinuous. A matching transfer that corrects the adoption externality makes stationary selection maximize network surplus. Transfers can also help launch a network without permanent support.

Date: 2026-10
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