What determines debt intolerance? The role of political and monetary institutions

Why do some States default on their debt more often than others? We argue that sovereign default is the outcome of a political struggle among different groups of citizens. It is less likely to happen if domestic debt-holders are politically strong and/or the costs of the financial turmoil typically triggered by a sovereign bankruptcy are large. We show that these conditions are in turn more likely to be present if a country has a strong middle class and/or a sufficiently independent central bank.

Research highlights► The paper aims to explain why some governments are more likely to default than others. ► A formal political economy model is spelled out. ► In the model, default is the outcome of a political struggle among citizens. ► Default is less likely if a country has a strong middle class and/or a sufficiently independent central bank. ► The paper provides evidence consistent with the predictions of the model.