Sovereign swaps and sovereign default

Abstract:

We study the effects of voluntary sovereign debt swaps using a model of sovereign default that incorporates both fundamental and self-fulfilling default risk. We show that the response of bond prices across the maturity profile to the announcement of a swap is informative about the presence of self-fulfilling risk. Whether or not the swap is beneficial to the government can also be assessed from the price responses. We illustrate the analysis using the Dominican Republic bond swap of December 2020.