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

IMF Working Papers, March 25, 2019

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Canonical URL: 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 is preemptive (without missing payments to creditors) or occurs after a default.
Post-default restructurings are associated with:
- larger declines in bank credit,
- an increase in lending interest rates,
- a higher likelihood of triggering a banking crisis than pre-emptive restructurings.
Local projection estimates show large declines in GDP, investment, and credit amplified by severe sudden stops and transmitted through a “capital inflow-credit channel”.

Distinct outcomes between preemptive restructurings and post-default restructurings highlight timing and credibility effects on financial sectors and capital flows.
Severe sudden stops amplify declines in macroeconomic aggregates and banking-sector performance.
The analysis emphasizes a “capital inflow-credit channel” as a key mechanism transmitting abrupt reversals in capital inflows into credit contraction and output losses.

The study uses local projection estimates to quantify dynamic responses of GDP, investment, and credit to sovereign debt restructurings and sudden stops.
Subjects listed: Asset and liability management, Balance of payments, Banking crises, Capital inflows, Credit, Debt restructuring, Financial crises, Money, Sudden stops.
Keywords listed: Banking crises, Banking Crisis, banking sector, Capital inflows, Credit, debt restructuring, Debt restructuring, default restructuring, GDP Growth, Global, growth rate, inflows-to-GDP ratio, Investment, Local Projection, net capital, net capital capital inflow, Sovereign Debt, Sovereign Debt Restructurings, Sovereign Defaults, Sudden stops, WP.