The Costs of Sovereign Debt Crises
![This figure is a two-panel graph titled "Sovereign Defaults, Creditor Haircuts, and Debt Burdens". The left panel is a line graph with the y-axis labeled "Real per capita GDP, 100 at 4 years before default", ranging from 90 to 140 in increments of 10. The x-axis, labeled "years relative to default", spans from -10 to +10, with a vertical dotted line at 0 marking the default. Two lines represent "Defaults lasting 6 years or less" and "Defaults lasting 6 years or more". Both lines start at 90 at -10 years and rise to about 103 by -2 years. The shorter defaults line remains steady until +2 years, then rises to 130 by +10 years. The longer defaults line dips to 96 at +2 years before slowly recovering to 100 by +8 years. The right panel is a grouped vertical bar graph. Its y-axis, "Creditor losses by Debt/GDP quartile", ranges from 0 to 60% in 10% increments. The x-axis shows four debt/GDP quartiles: 1st (13%), 2nd (26%), 3rd (40%), and 4th (72%). Each quartile has two bars representing average face value loss and average net present value loss. The 1st quartile shows about 14% and 35%, the 2nd 12% and 31%, the 3rd 20% and 41%, and the 4th 32% and 51%, respectively. The figure on the note reads, “Average debt/GDP for each quantile is 16% (lowest), 26 % (second), 40% (third), and 72% (highest). In the right side panel, debt is external debt owned to private and official creditors”. The source line reads, Source: Researchers’ calculation using data from multiple sources and surveys.](/sites/default/files/inline-images/w32600_1.jpg)
Sovereign debt crises have been a recurring phenomenon in the global economy for over two centuries, with far-reaching consequences for both creditors and debtor nations. Two recent studies examine creditor losses as well as the often-overlooked social costs of sovereign defaults.
In Sovereign Haircuts: 200 Years of Creditor Losses (NBER Working Paper 32599), Clemens M. Graf von Luckner, Josefin Meyer, Carmen M. Reinhart, and Christoph Trebesch analyze creditor losses in 327 restructurings across 205 default spells since 1815. In each case, they calculate total creditor losses — “haircuts” — across all restructurings within the same default spell.
Creditor losses vary widely and in some cases are total, but they have averaged around 45 percent for over two centuries, despite significant changes in the global financial system. Poorer countries, first-time debt issuers, and those with heavy external borrowing face larger losses, on average, when they default.
Sovereign defaults have long-lasting economic and social costs for defaulting nations.
Geopolitical shocks such as wars, revolutions, or the breakup of empires often lead to the deepest haircuts. Longer debt crises typically result in larger creditor losses, while interim restructurings often provide limited debt relief. The researchers caution that creditor losses do not always translate directly into debt relief for the borrowing country, since a restructuring may address only a portion of a nation’s total debt.
Building on these findings, The Social Costs of Sovereign Default (NBER Working Paper 32600) by Juan P. Farah-Yacoub, Clemens M. Graf von Luckner, and Carmen M. Reinhart shifts the focus to the economic and social consequences of sovereign defaults. This study analyzes 221 default episodes from 1815 to 2020. Within three years of default, affected economies’ real per capita GDP falls behind that of nondefaulting countries by 8.5 percent, and after a decade, the gap is 20 percent. Longer defaults result in worse economic and social outcomes.
Ten years after a default, 10 percent more households in the defaulting nation are living in poverty compared to nondefaulting nations. The infant death rate is higher by 5 per 1,000, and life expectancy at birth is 1.1 years lower. The researchers cannot determine whether default-induced recessions have a larger impact on these social measures than recessions with other causes.
—Leonardo Vasquez