The recent European debt crisis has sparked a heated debate on the merits of fiscal austerity. Since the main objective of the proposed fiscal tightenings is to reduce sovereign default risk, the solution to this debate depends on the costs of a sovereign debt restructuring. One important cost...

In this paper, the author considers the sovereign debt in the form of one-period government bonds with default risk, which can be purchased by and traded among domestic and foreign investors. She shows that the weight assigned to the lenders' interest by the borrowing government at the time of...