Holdout litigation and sovereign debt enforcement

Abstract

We present a model that characterises the ex ante and ex post implications of holdout litigation, and which highlights the importance of debt ownership and jurisdictional competition in determining the efficacy of the legal threat to sovereign debt enforcement. Our optimal contracting framework allows a role for secondary markets to mitigate liquidity risk and a role for bankruptcy courts to adjudicate disputes. We endogenise the extent to which the bankruptcy regime is based on judge-made law and identify conditions under which the disciplining effect of holdout creditors prevails. Our model contributes to the policy debate on sovereign debt restructuring by formalising some of the insights in Bolton and Skeel's (2004) proposal for a sovereign bankruptcy framework.