Working Paper

A seniority arrangement for sovereign debt

Abstract: A sovereign's inability to commit to a course of action regarding future borrowing and default behavior makes long-term debt costly (the problem of debt dilution). One mechanism to mitigate the debt dilution problem is the inclusion of a seniority clause in sovereign debt contracts. In the event of default, creditors are to be paid off in the order in which they lent (the ?absolute priority\" or ?first-in-time\" rule). In this paper, we propose a modification of the absolute priority rule that is more suited to the sovereign debt context and analyze its positive and normative implications within a quantitatively realistic model of sovereign debt and default.

Keywords: Debt dilution; Seniority; Sovereign default;

JEL Classification: E44; F34; G12; G15;

Bibliographic Information

Provider: Federal Reserve Bank of Philadelphia

Part of Series: Working Papers

Publication Date: 2015-01-31

Number: 15-7

Pages: 38 pages