Costs of Sovereign Defaults: Restructuring Strategies, Bank Distress and the Capital Inflow-Credit Channel

Sovereign debt restructurings are associated with declines in GDP, investment, bank credit, and capital flows. The transmission channels and associated output and banking sector costs depend on whether the restructuring takes place pre-emptively, without missing payments to creditors, or whether it takes place after a default has occurred. Post-default restructurings are associated with larger declines in bank credit, an increase in lending interest rates, and a higher likelihood of triggering a banking crisis than pre-emptive restructurings. Our local projection estimates show large declines in GDP, investment, and credit amplified by severe sudden stops and transmitted through a “capital inflow-credit channel”.

Keywords: sovereign debt; sovereign defaults; sovereign debt restructurings; GDP growth; investment; banking crisis; local projection

JEL Classification: F34, F41, H63

Suggested Citation: Suggested Citation

Asonuma, Tamon and Chamon, Marcos and Erce, Aitor and Sasahara, Akira, Costs of Sovereign Defaults: Restructuring Strategies, Bank Distress and the Capital Inflow-Credit Channel (May 21, 2019). European Stability Mechanism Working Paper No. 37, Available at SSRN: https://ssrn.com/abstract=3486806 or http://dx.doi.org/10.2139/ssrn.3486806