Have commercial banks ignored history?

Abstract

What incentives do countries have to repay loans? Do banks credibly punish borrowers that behave badly - and if so, how? Two explanations are commonly offered for why countries repay debts: (a) to preserve their reputation as a good borrower; or (b) to avoid direct sanctions, such as trade sanctions or the seizure of overseas assets. The author empirically investigated the effect of repayment problems in earlier eras on the spreads paid by developing country borrowers in the 1970s. She found that creditor banks did take account of borrowers'default histories. Defaulters paid higher spreads than nondefaulters, and the defaulters that reneged on large portions of their past debt paid higher spreads. She also found that countries that acquired sovereignty more recently were charged higher spreads than other countries. These findings apply during an expansionist period. During an earlier crisis stage, markets failed to discriminate between borrowers that"behaved badly"and those that did not.Strategic Debt Management,Banks&Banking Reform,Financial Intermediation,Economic Theory&Research,Environmental Economics&Policies