NATIONAL BUREAU OF ECONOMIC RESEARCH
NATIONAL BUREAU OF ECONOMIC RESEARCH

Sovereign Debt Buybacks Can Lower Bargaining Costs

Julio J. Rotemberg

NBER Working Paper No. 2767
Issued in November 1988
NBER Program(s):   ITI   IFM

I develop two models in which debt repurchases by highly indebted sovereign nations are advantageous for all parties. The models are based on the idea that when sovereign debts are large, bargaining costs are large. Creditors spend more resources convincing the debtor that they are tough when they have more at stake. Also, the sanctions which are sometimes triggered when bargaining fails to produce an agreement are larger when debts are larger. For both these reasons buybacks, which reduce the face value of the outstanding debt, can be beneficial. The resulting equilibria are constrained Pareto Optima. But, donors who subsidize buybacks increase overall welfare more than donors who make direct gifts. I also argue that Bulow and Rogoff (1988)'s empirical evidence on buybacks is consistent with my models.

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Document Object Identifier (DOI): 10.3386/w2767

Published: Journal of International Money and Finance, Vol. 10, no. 3 (1991): 330-348.

 
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