Sovereign defaults in domestic-law debt: A new database1
Aitor Erce, Enrico Mallucci and Mattia Picarelli
In Erce, Mallucci, Picarelli (2021a, 2021b), we introduce a novel database that identifies sovereign defaults on domestic law-debt instruments held by private creditors. The database is the first effort to systematically identify and record domestic sovereign defaults that are defined by the legal jurisdiction of the assets in default.
While domestic-law debt markets have grown increasingly important in past decades2 and are nowadays the backbone of domestic financial system (CGFS, 2007), comprehensive studies on sovereign defaults involving domestic-law debt lag behind. In fact, even the definition of what constitutes domestic debt is often unclear (IMF 2021, Gelpern and Panizza 2021, Gulati and Weidemaier 2015). Our database helps fill this gap. In doing so, our work complements existing sovereign default databases, such as Reinhart and Rogoff (2011) that is based on the residence of investors, Beers and de Leon-Manlagnit (2019) that is based on currency denomination, and Asonuma and Trebesch (2016) that focuses on foreign-law debt.
Documenting the restructuring of domestic-law public debt is challenging. We reviewed several and diverse sources, ranging from IMF documents to local news articles. The database was constructed using a bottom up approach, collecting data at the instrument level (default events) and aggregating them into episode-level variables. We collected key details, such as the timing of the restructuring, the volume and the type of instruments involved, the restructuring terms and methods, and, whenever possible, an estimate of the net-present-value (NPV) losses incurred by creditors. Our efforts led to the identification of 76 default episodes, composed of 134 default events on different instruments (bonds, bank loans or deposits), in 52 countries, from 1980 to 2018.3
Using the data contained in our database, we present various stylized facts that convey valuable lessons to policymakers in the need of considering debt restructuring in a world with growing public debt.’ Our database documents multiple aspects of the restructuring process, and provides comprehensive domestic debt statistics for the correct calibration of quantitative models of sovereign default featuring domestic debt.4
Domestic-law default is an increasingly frequent global phenomenon. Figure 1 combines our data with external defaults from Asonuma and Trebesch (2016). That the number of domestic and external defaults often differ, suggests that, contrary to conventional wisdom, selective defaults are the norm.
Figure 1: Occurrence of domestic and external defaults
Despite defaults on domestic law debt are smaller in size than external defaults (Table 1.A), creditors’ losses during domestic law defaults are larger than during external defaults (Table 1.B).
A: Volume of Debt in Default by Instrument (% of GDP)
B: Creditors NPV losses
The resolution of domestic debt restructuring is generally faster than that of external debt. Yet, a non- negligible fraction of episodes took very long time to resolve (Table 2). While negotiated pre-default solutions have gained ground recently, in the past unilateral post-default restructurings were the norm.
Table 2: Duration of Domestic-Law Defaults (months)
Despite financial globalization, during debt distress, domestic law debt is still mostly held by domestic residents and denominated in local currency (Table 3).
Table 3: Share of Domestic-Law Debt in Local Currency and Held Domestically
Our data might be useful not only for public finance specialists interested in the prevention and resolution of fiscal crises, but also to economists, political scientists and sociologists interested on the interplay between domestic defaults and political cycles, how they affect the performance and stability of political systems and local institutions, or whether and how such policy alternatives impact social cohesion and economic inequality.
Asonuma, T. and C. Trebesch (2016). Sovereign debt restructurings: pre-emptive or post-default, Journal of European Economic Association 14(1).
Beers, D. and P. de Leon-Manlagnit (2019). The BoC-BoE Sovereign Default Database: What’s New In 2019?, Bank of England Working Paper No. 829.
CGFS (2007). Financial stability and local currency bond markets, Committee on the Global Financial System Papers 28, BIS.
Erce, A., Mallucci, E. and M. Picarelli (2021a). A Journey in the History of Sovereign Defaults on Domestic Law Public Debt, Departamento de Economía, Universidad Pública de Navarra, Working Paper No. 2106.
Erce, A., Mallucci, E. and M. Picarelli (2021b). A Journey in the History of Sovereign Defaults on Domestic Law Public Debt – Sovereign Histories, Departamento de Economía, Universidad Pública de Navarra, Working Paper No. 2108.
Gulati, M., and M. Weidemaier (2015). The Relevance of Law to Sovereign Debt, Annual Review of Law and Social Science.
Gelpern, A. and U. Panizza (2021). Emerging Market Debt Crises Economic and Legal Aspects.
J.C. Hatchondo, Martinez, L., and C. Sosa-Padilla (2016). Debt Dilution and Sovereign Default Risk, Journal of Political Economy 124:5.
IMF (2021). Issues in Restructuring of Sovereign Domestic Debt. International Monetary Fund, Policy Paper. July 21, 2921.
Reinhart, C. and K. Rogoff (2011). The Forgotten History of Domestic Debt. The Economic Journal 121: 319-350.
Aitor Erce (UPNA, LUISS), Enrico Mallucci (Fed Board), Mattia Picarelli (ESM) ↩
Mexico exemplifies this trend. Domestic debt accounted for 22% of Mexico’s public debt in 1995. It was over 80% by 2010. ↩
In addition to uniquely detailed information about each case, our dataset uncovers 35 domestic default episodes not included by the IMF in its latest report on domestic sovereign default (IMF, 2021). ↩
Hatchondo et al. (2016) discuss the difficulties in calibrating quantitative models of sovereign default on domestic debt. ↩