Why do lenders time and again loan money to sovereign borrowers
who promptly go bankrupt? When can this type of lending work? As
the United States and many European nations struggle with mountains
of debt, historical precedents can offer valuable insights.
"Lending to the Borrower from Hell" looks at one famous case--the
debts and defaults of Philip II of Spain. Ruling over one of the
largest and most powerful empires in history, King Philip defaulted
four times. Yet he never lost access to capital markets and could
borrow again within a year or two of each default. Exploring the
shrewd reasoning of the lenders who continued to offer money,
Mauricio Drelichman and Hans-Joachim Voth analyze the lessons from
this important historical example.
Using detailed new evidence collected from sixteenth-century
archives, Drelichman and Voth examine the incentives and returns of
lenders. They provide powerful evidence that in the right
situations, lenders not only survive despite defaults--they thrive.
Drelichman and Voth also demonstrate that debt markets cope well,
despite massive fluctuations in expenditure and revenue, when
lending functions like insurance. The authors unearth unique
sixteenth-century loan contracts that offered highly effective risk
sharing between the king and his lenders, with payment obligations
reduced in bad times.
A fascinating story of finance and empire, "Lending to the
Borrower from Hell" offers an intelligent model for keeping
economies safe in times of sovereign debt crises and defaults.
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