ENDOGENOUS ESTIMATION OF DEFAULTS IN SOVEREIGN CREDIT MARKETS

Because of the lack of theorical foundations in the literature on sovereign debt defaults, this paper constructs a detailed model that contains the peculiarities of the international credit markets, and particularly the sanctions in case of default. Several conclusions contrast with traditional results. First, in equilibrium there is credit rationing. Second, the optimal size of an international loan and its interest rate are endogenous, as is the case with the probability of default; that is why it is not adecuate to introduce the first two elements as an explanation of the third. Other works have incurred in this identification problem. Third, it has been proved that sanctions have an important role in explaining the default decision. The model determines the elements that are important in the probability of default of the sovereign debt, such as the degree of commercial and financial liberalization, the degree of ''bad luck'', foreign reserves and the free of risk interest rate. These theoretical results are empirically validated using probit models. Empirical results suggest that economic liberalization reduces the possibilities of a sovereign debt default and that such policy increases credit worthiness. It also suggests that external exogenous factors have had an important influence in the financial crises of several countries, in particular, it shows that the ''bad luck'' element explains the probability of default. The results also suggest that the possible sanctions in case of default have played an important role preventing actual defaults. In fact, sanctions reduce the dead zone in case of default; for that reason, renegotiations are seen as attempts to reduce this dead zone. Determinants of the spread on the LIBOR rate as of the size of the loan, are confirmed. It is shown that the vulnerability of an economy is very important in the determination of the interest rate.