Selective Default Expectations

53 Pages Posted: 22 Sep 2021

See all articles by Olivier Accominotti

Olivier Accominotti

London School of Economics & Political Science (LSE); Centre for Economic Policy Research (CEPR)

Thilo Albers

Humboldt University of Berlin

Kim Oosterlinck

Université Libre de Bruxelles - SBS-EM, CEB

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Date Written: August 2021

Abstract

Sovereign governments often discriminate between creditors during debt default episodes. This paper explores how expectations of selective default affect sovereign bond trading and sovereign risk premia based on a historical laboratory: the German external default of the 1930s. We exploit a unique feature of the interwar sovereign bond market: identical German government bonds were traded on different creditor countries' secondary debt markets but investors expected creditors from various countries to be treated differently in case of default. We show that, when creditor countries' secondary debt markets are integrated, selective default expectations are not reflected in bond yields but affect the volume of bonds traded across markets. By contrast, when creditors' debt markets are geographically segmented, a large selective risk premium can be priced in sovereign bonds. This premium accounted for up to half of the total risk premium on German external bonds during the 1930s. We establish that creditor countries' seniority ranks can be explained by their economic power over the debtor government.

Keywords: creditor discrimination, Debt default, secondary markets, sovereign risk

JEL Classification: F13, F34, G12, G15, H63, N24, N44

Suggested Citation

Accominotti, Olivier and Albers, Thilo and Oosterlinck, Kim, Selective Default Expectations (August 2021). CEPR Discussion Paper No. DP16474, Available at SSRN: https://ssrn.com/abstract=3928771

Olivier Accominotti (Contact Author)

London School of Economics & Political Science (LSE) ( email )

Economic History Department
Houghton Street
London, WC2A 2AE
United Kingdom

Centre for Economic Policy Research (CEPR) ( email )

London
United Kingdom

Thilo Albers

Humboldt University of Berlin ( email )

Unter den Linden 6
Berlin, AK Berlin 10099
Germany

Kim Oosterlinck

Université Libre de Bruxelles - SBS-EM, CEB ( email )

50 Avenue Roosevelt, CP114/03
Brussels 1050
Belgium

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