There is a widespread expectation today that even distressed sovereign borrowers will generally try everything in their power to repay their international debts. As this article demonstrates, however, it was not always so: prior to World War II, the most common policy response to an external economic shock tended to be a unilateral suspension of payments. The insistence on uninterrupted debt servicing is actually a relatively novel phenomenon going back to the early 1980s, which saw the emergence of a contradictory approach to international crisis management, governed by the principle that governments should always repay their debts—even when they cannot. This shift in approach raises an important question: how are creditors capable of bridging the gap between the new repayment rule and the continued risk of insolvency? The answer, the article suggests, is through the extension and institutionalization of international bailout loans as a mechanism for (a) mobilizing resources from taxpayers in the creditor countries to underwrite the investments of private creditors; (b) shifting the burden of adjustment inside the debtor countries onto more vulnerable segments of society as part of an attempt to free up domestic resources for continued debt servicing. The new approach to crisis management therefore has important distributional implications, which have generally tended to redound to the benefit of private creditors.
Keywords: International Finance; Crisis Management; Sovereign Debt and Default; Austerity; Bailouts; International Monetary Fund.
WORKING PAPER (SEPTEMBER 2019)