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The Political Economy of Sovereign Defaults

Eugenia Andreasen (), Guido Sandleris and Alejandro Van der Ghote

Business School Working Papers from Universidad Torcuato Di Tella

Abstract: In times of crises, sovereign debt repayment typically depends on the implementation of fiscal programs. In order to implement these programs, governments usually need to garner some political support. The literature of sovereign defaults has not paid attention to the presence of political constraints, assuming instead, that governments have always unlimited access to the resources of the economy to repay their debts. In this paper, we analyze how the presence of political constraints affects sovereign governments´ borrowing and default decisions. We do so in a standard DSGE model with endogeneous default risk where we introduce two novel features: heterogeneous agents in the domestic private sector and a requirement that the government obtains some of their support to implement a fiscal program needed to repay the debt. In this framework, we show that there can be different types of sovereign default events. Default can arise because the government is unwilling to repay, in the best tradition of the sovereign debt literature, but also due to insufficient political support even if a benevolent government would prefer to repay.We calibrate the model to the Argentine economy and show that, once political constraints are taken into account, the matching with the data of standard sovereign debt models is weaker than previously understood.

Pages: 24 pages
Date: 2011
New Economics Papers: this item is included in nep-dge and nep-pol
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Journal Article: The political economy of sovereign defaults (2019) Downloads
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