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Sovereign Cocos

Juan Carlos Hatchondo, Leonardo Martinez, Yasin Onder and Francisco Roch

No 2022/078, IMF Working Papers from International Monetary Fund

Abstract: We study a model of equilibrium sovereign default in which the government issues cocos (contingent convertible bonds) that stipulate a suspension of debt payments when the government faces liquidity shocks in the form of an increase of the bondholders' risk aversion. We find that in spite of reducing the frequency of defaults triggered by liquidity shocks, introducing cocos increases the overall default frequency. By mitigating concerns about liquidity, cocos make indebtedness and default risk more attractive for the government. In contrast, cocos that stipulate debt forgiveness when the government faces the shock, achieve larger welfare gains by reducing default risk.

Keywords: Sovereign Cocos; default risk; maturity extensions; reprofiling; haircuts.; liquidity shock; default frequency; government issues coco; risk-premium shock; debt payment; Contingent convertible capital; Debt default; Debt relief; Consumption; Return on investment; Global (search for similar items in EconPapers)
Pages: 26
Date: 2022-04-29
New Economics Papers: this item is included in nep-ban, nep-dge and nep-opm
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Handle: RePEc:imf:imfwpa:2022/078