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Sovereign Debt: Election Concerns and the Democratic Disadvantage

Author

Listed:
  • Dhillon, Amrita

    (Kings College)

  • Pickering, Andrew

    (University of York)

  • Sjöström, Tomas

    (Rutgers University)

Abstract
We examine default decisions under different political systems. If democratically elected politicians are unable to make credible commitments to repay externally held debt, default rates are inefficiently high because politicians internalize voter utility loss from repayment. A politician who is motivated by election concerns is more likely to default in order to avoid voter utility losses, and, since lenders recognize this, interest rates and risk premia rise. Therefore, democracy potentially confers a credit market disadvantage. Institutions that are shielded from political competition, such as independent central banks, may ameliorate the disadvantage by adopting a more farsighted perspective, taking into account how interest rates respond to default risk. Using a numerical measure of institutional farsightedness obtained from the Government Insight Business Risk and Conditions database, we find that the observed relationship between credit-ratings and democratic status is indeed strongly conditional on farsightedness. With myopic institutions, democracy is estimated to cost on average about 2.5 investment grades. With farsighted institutions there is, if anything, a democratic advantage.Keywords: Sovereign debt, Default, Risk premia, Autocracy, Democracy, Institutions JEL Classification: H63, F55, D72, D82, H75, O43, C72.

Suggested Citation

  • Dhillon, Amrita & Pickering, Andrew & Sjöström, Tomas, 2016. "Sovereign Debt: Election Concerns and the Democratic Disadvantage," CAGE Online Working Paper Series 308, Competitive Advantage in the Global Economy (CAGE).
    • Handle: RePEc:cge:wacage:308
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    References listed on IDEAS

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    Cited by:

    1. Amrita Dhillon & Andrew Pickering & Tomas Sjöström, 2019. "Sovereign debt: election concerns and the democratic disadvantage," Oxford Economic Papers, Oxford University Press, vol. 71(2), pages 320-343.
    2. Sayantan Ghosal & Marcus Miller, 2019. "Introduction to the special issue on sovereign debt restructuring," Oxford Economic Papers, Oxford University Press, vol. 71(2), pages 309-319.
    3. Calomiris, Charles W. & Tsoulouhas, Theofanis, 2022. "Bailing out conflicted sovereigns," Journal of Financial Intermediation, Elsevier, vol. 51(C).
    4. Eberhardt, Markus, 2018. "(At Least) Four Theories for Sovereign Default," CEPR Discussion Papers 13084, C.E.P.R. Discussion Papers.

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    More about this item

    Keywords

    sovereign debt; default; risk premia; autocracy; democracy; institutions jel classification: h63; f55; d72; d82; h75; o43; c72.;
    All these keywords.

    JEL classification:

    • H63 - Public Economics - - National Budget, Deficit, and Debt - - - Debt; Debt Management; Sovereign Debt
    • F55 - International Economics - - International Relations, National Security, and International Political Economy - - - International Institutional Arrangements
    • D72 - Microeconomics - - Analysis of Collective Decision-Making - - - Political Processes: Rent-seeking, Lobbying, Elections, Legislatures, and Voting Behavior
    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
    • H75 - Public Economics - - State and Local Government; Intergovernmental Relations - - - State and Local Government: Health, Education, and Welfare
    • O43 - Economic Development, Innovation, Technological Change, and Growth - - Economic Growth and Aggregate Productivity - - - Institutions and Growth
    • C72 - Mathematical and Quantitative Methods - - Game Theory and Bargaining Theory - - - Noncooperative Games

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