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GunboatsandVultures: MarketReactiontotheEnforcementofSovereignDebt

LauraAlfaro

HBSandNBER

NoelMaurer

HBSandNBER

FaisalAhmed

UniversityofChicago

April

2010

Abstract: The reoccurring phenomenon of sovereign default has prompted an enormous theoretical

and empirical literature. Most of this research has focused on why countries ever chose to pay their

debts (or why private creditors ever expected repayment). The problem originates from the fact that

repaymentincentivesforsovereigndebtsareminimalsincelittlecanbeusedascollateralandtheability

ofacourttoforceasovereignentitytocomplyhasbeenextremelylimited,especiallygiventhelackofa

supranational legalauthoritycapableofenforcingcontractsacrossborders. Inthispaperwecontrast

themarketreactiontoattemptstoenforcesovereigndebtcontractsviaU.S.dollardiplomacyinLatin

AmericainthepreWorldWarIIperiodandbylegalactioninthe1990sandearly2000s. Wearguethat

dollardiplomacycreatedaneffectiveandcredibleenforcementregimewhilelegalactionsbycreditors,

conversely,donotappeartohavedoneso.

WhenpeopleaskmewhatImeanbystablegovernment,Itellthem,moneyatsixpercent.

GeneralLeonardWood

Weparticularlycondemntheperversitywherevulturefundspurchasedebtatareducedpriceandmakeaprofitfromsuing

thedebtorcountrytorecoverthefullamountowedamorallyoutrageousoutcome.

PrimeMinisterGordonBrown

Threethingsareeternal: death,taxes,andsovereigndefault. Thelatterisparticularlysurprisinginlight

ofthefactthatcreditorscontinuetoprovidebillionsofdollarsmorethan$130billionin2005

1of

creditstothegovernmentsofdevelopingcountries,despitealonganddoloroushistoryofsovereign

default. Whydocreditorscontinuetobelievethatsovereignswillrepaytheirdebts?2 Onemightim

aginethatthethreatoflosingaccesstofuturecreditmightbeenoughtodiscouragedefault,butthere

areampletheoreticalandempiricalreasonstobelieveotherwise.3 Studieshavefoundthatinvestorsdo

notdenycredittogovernmentswithahistoryofdefault,andtheinterestratepenaltieswhichdoarise

arenotsufficienttoinducerepayment. Currentparticipantsinthesovereigndebtmarketconfirmthese

1WorldBank,GlobalDevelopmentFinance.

2 ForoverviewsoftheliteratureseeEaton,J.andR.Fernandez,SovereignDebt,inHandbookofInternationalEconomicsVol.3,(Amsterdam,

NewYorkandOxford:Elsevier,NorthHolland,1995)editedbyGeneGrossmanandKennethRogoff,pp.20312077;Kletzer,K.1994.Sove

reignImmunityandInternationalLending,inTheHandbookofInternationalMacroeconomics,editedbyFrederickvanderPloeg,UnitedKing

dom:BasilBlackwellPublisher.3AlfaroandKanczuk(2005)showthattheinterestratepenaltiesthatactuallymaterializefollowingdefaultarenotnearlyenoughpunishment

tocausecountriestorepaytheirdebtsandfindthatfindthatadditionaloutputcostsofdefaultinginlinewitharenecessarytosustainthedebt

levelsobservedinemergingmarketseveninamodelofcontingentservices.Alfaro,L.,andF.Kanczuk,SovereignDebtasaContingentClaim:A

QuantitativeApproach,JournalofInternationalEconomics65,no.2(2005):297314.


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observations: forthem,Themarketshaveshortmemoriesispracticallyatruism.4 Inasmuchascoun

triesdorepaytheirdebts,itappearstobedueeithertotheirdomesticpoliticalinstitutions(ahardthing

toreplicate)orthehighoutputcostofdefaulting.5

Inaworldwheremarketshaveshortmemories,cansanctionsplayaroleinimprovingsovereign

debtmarkets? Legalsanctions,ofcourse,playakeyroleinsustainingprivatedebtmarkets. Defaulters

facethethreatofseizuresorgarnishmentsunlesstheycanmeetspecificbankruptcycriteria. Thepossi

bilityofsanctionsmakesdebtorslesslikelytodefault,whichhasthesalubriouseffectofreducingthe

costofcapitalandincreasingthevolumeoflending. Sovereigngovernmentsarefree,however,from

anysortofsupranationalauthoritythatmightenforcedebtcontracts. Intheory,however,applying

sanctionstogovernmentsshoulddecreasetheperceivedriskoflendingtothem,andthereforeincrease

lending. Inpractice,sanctionsagainstnominallyindependentdebtorgovernmentsappeartohave

played

a

role

in

sustaining

sovereign

debt

markets

before

1913.

Mitchener

and

Weidenmeir,

for

exam

ple,foundthatbetween1870and1913defaultinggovernmentsran40percentchanceoffacingforeign

intervention,eitherviagunboatenforcedblockadesor,morecommonly,theimpositionofforeigncon

trolovertheirdomesticfinancesunderthethreatofblockade.6 Inthemodernperiod,defaultsareas

sociatedwithdeclinesintradeandoutput,butthesedonotappeartobetheresultofanydeliberate

policybylenders. Rather,theyareahaphazardanddisorganizednegativesideeffectofdefault.7 Abet

terdesigneddebtenforcementregime,therefore,holdsoutthepossibilityofmakingsovereigndefault

morerareandlesscostly.8

DuringtheepochofDollarDiplomacy(roughly190429),theU.S.appliedwhatwasineffecta

strongdebtenforcementregimetothecircumCaribbeanregion. TheU.S.aimedtocreateastablein

ternationalregime: thatistosay,thegoalwastheeliminationofsovereigndefaultsratherthanacon

tinuingseriesofinterventions. First,theU.S.useditsinfluencetofacilitaterestructuring. TheU.S.bro

kerednegotiationswithColombiaandVenezuelain1905. In1913,theU.S.governmentarrangedadeal

inwhichGuatemalawouldstartpayinginterestonitsdefaulteddebts. In1923,theStateDepartment

sentamissiontoBogottoproposereformstoColombiasbankingsystem,taxcollection,andpublic

administration. Thelegislaturepassedtheproposedreforms,andtwomembersofthemissionstayed

onasemployeesoftheColombiangovernment.

4Lotsandlotsofciteshere.[COMPLETE]

5AlfaroandKanczuk(2005).

6KrisMitchenerandMarcWeidenmier,SupersanctionsandSovereignDebtRepayment,NBERWorkingPaper11472,June2005.

7AlfaroandKanczuk(2005).

8MartinezandSandlerishavecontestedthisresultontwogrounds: first,themechanismcausingthetradedeclineishardtofind,sinceno

countriesmakesanctioningdebtorsadeliberatepolicy;andsecond,theirinterpretationofthedataindicatesthatalltradewithallcountries

declinesafteradefault. ADDEXACTCITES


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Second,theU.S.arrangedcontrolledloans,inwhichthedebtorcountrypledgedtoallowtheU.S.

orU.S.appointedagentstotakeovertariffcollectionintheeventofdefault. TheU.S.tookoverthe

customhousesoftheDominicanRepublicin1905,Cubain1906(aspartofabroaderintervention),Ni

caraguain1911andHaitiin1915.TheU.S.arrangedacontrolledloanwithCostaRicain1911,butdid

nottakeoverthecustomhouses. Anadditionalloanin1926stipulatedthattheU.S.wouldtakeover

CostaRicasinternaltaxcollectionshoulditdefault. ElSalvadorsignedacontrolledloanin1912.In

1918,afterPanamausedtheproceedsfromarailroadloantomeetcurrentexpenses,theU.S.forced

thePanamaniangovernmenttoallowanAmericanfiscalagenttotakecontrolandchargeofthe

nationaltreasury. In1926,aloantoHondurasrequiredthecountrytoimposeadedicated3percent

exporttaxascollateral. Theenforcementmechanismwasingenious: exportersneededtopurchase

stampsequaltothetaxandthestampsweresoldexclusivelybytheNationalCityBankofNewYork.

Also

in

1926,

Peru

appointed

an

American

to

head

the

custom

service

as

a

condition

for

a

loan

and

Boli

viaacceptedateamofadvisorstomonitoritsfinances.

Third,theU.S.usedthemilitarytopreventinstabilityfromforcinggovernmentsintodefault. The

intervenednationsincludedCuba,theDominicanRepublic,Haiti,Honduras,Nicaragua,andPanama. In

threenationsCuba,theD.R.,andHaititheU.S.wentsofarastoadministerthemwhenlocalgov

ernmentscollapsed. TheU.S.ranCubain190609(andagainin1912and191722),Haitiin191534,

andtheD.R.in191624. InNicaragua,theU.S.neverformallytookover,butMarinesactivelyfought

antigovernmentinsurgentsin1912and192633. TheGreatDepressionbroughtDollarDiplomacytoan

end. AmericanadvisorstoBoliviabegantocalldefaultinevitableasearlyas1928,andtheyagreedto

suspensioninJanuary1931,aftera28percentfallinrevenues. Peru,Chile,andEcuadorsoonfollowed.

InOctober1931,AmericasdebtenforcementempireofficiallyclosedwhentheU.S.administratorsin

chargeofDominicanfinancesallowedthecountrytodefaultinthefaceofeconomiccollapse.

Today,thesocalledvulturefundshaveattemptedtocreateasimilardebtenforcementregime.

Moreproperlyknownasdistressedfunds,vultureshavetakenadvantageoflegalchangesthatgreatly

weakenedlegalsovereignimmunityinAmericaandEurope.9 Thevulturespurchasedefaultedsovereign

debtontheopenmarket. Theythensuethedefaultinggovernments. Ifsuccessful,AmericanandEuro

peanenforcetheirdecisionsbyattachinggovernmentrevenuesorotherpaymentsthatpassthrough

theircountries,ineffectimposingavirtualblockadethatisverydifficultfordefaultingcountriesto

9SeeRogoff,K.andJ.Zettelmeyer,2002,BankruptcyProceduresforSovereigns:AHistoryofIdeas,19762001,IMFStaffPapers49,470

507; Alfaro,L.andI.Vogel. CreditorActivisminSovereignDebt:VultureTacticsorMarketBackbone?HarvardBusinessSchoolCaseNo.

706057(2007); Sturzenegger,F.andJ.Zettelmeyer(2007),DebtDefaultsandLessonsfromaDecade,MITPress.


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GunboatsandVultures

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avoidwithoutincurringhighcosts. Inoneinfamouscase,vulturefundsattemptedtoattachVATpay

mentsandlandingfeesfromU.S.basedairlinestothegovernmentofNicaragua.Vultureshavealso

goneafteroilsales,privatizationrevenues,andotherfinancialflowspassingthroughAmericanandEu

ropeanpaymentssystems.

Infact,thepunishmentfromattachmentcanexceedthemonetaryvalueoftheattachmentitself. In

Peru,forexample,thevultureswentafterinterestpaymentsonthecountrysBradybonds. Hadthese

paymentsbeenattached,PerusBradybondswouldhavegoneintodefault.WhywouldthePeruvian

governmentfearadefaultonitsBradybondswhenitwasalreadyindefaultonsomanyothersecuri

ties? ThereasonisthatadefaultonBradybondswouldhavemadeitimpossibleforprivatelymanaged

mutualfundstoinvestinanysortofPeruviansecurityunderU.S.lawwhichwouldhaveforcedfire

salesofPeruviansecuritiesofallsortsandpromptedaseverefinancialcrisis. Virtualblockadescanbe

serious

indeed.

Thevultureshaveattractedagreatdealofopprobriumfortakingadvantageofpoorcountries.Ac

tivists,NGOs,journalists,andthePrimeMinisteroftheUnitedKingdomhavecondemnedthevultures

fortakingadvantageofpoorcountries. InGordonBrownswords,Weparticularlycondemntheper

versitywherevulturefundspurchasedebtatareducedpriceandmakeaprofitfromsuingthedebtor

countrytorecoverthefullamountowed amorallyoutrageousoutcome. Asomewhatdifferentcriti

quehasemergedfromtheIMFandWorldBank: thevulturesinterferewiththeorderlyrestructuringof

sovereigndebt.10 Thereasonisthatthehopeoflegalrestitutionprovidestheownersofdefaulteddebt

withanincentivetoholdoutfromparticipatinginanorderlydebtrestructuring. Moreover,debtholders

mayworrythatthecourtswillgrantthevulturesaclaimonthedebtorgovernmentsresourceswitha

higherprioritythantheirown.(Evenifthecourtsdonotdosoexplicitly,thegovernmentmaydecideto

paythevulturesinsteadofothercreditorsinordertoforestallavirtualblockade.)Inthatcase,deb

tholderswillbemorelikelytoimmediatelyselltheirdebtholdingsintheeventofacrisis. Runningfor

theexits,however,willcausetheinterestratesfacedbytheborrowertorise,furtherdecreasingthe

probabilityofrepayment.

Vulturesalsohavetheirdefenders. Inthisview,thethreatofsuccessfullitigationhelpsmaintainthe

viabilityofsovereigndebtmarketsbyreinforcingcreditorrights.11 Thevulturesprovideamarketfor

otherwiseilliquidassets. Theymakelendingtodevelopingcountrygovernmentscheaperbyincreasing

10AnneKrueger,NewApproachestoSovereignDebtRestructuring:AnUpdateonOurThinking,speechdeliveredatInternationalMonetary

FundConferenceonSovereignDebtWorkouts:HopesandHazardsInstituteforInternationalEconomics,WashingtonDC,April1,2002,avail

ableathttp://www.imf.org/external/np/speeches/2002/040102.htm,accessedOctober24,200611

SeeScott(2006).HalS.Scott,2006.SovereignDebtDefaults:CryfortheUnitedStates,NotArgentina,WashingtonLegalFoundation,Criti

calLegalIssues,WorkingPaperSeriesNo.140,September.


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GunboatsandVultures

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thesanctionssuchgovernmentsfaceintheeventofdefault. Vulturefundmanagersbelievethatthey

provideacriticalcheckonwillingnesstopayconstraintondebtrepayments. JayNewman,forexam

ple,isclearthathisfunddoesnotgoaftercountriesthattrulycannotpay,butcorrupt,deadbeatcoun

triesthataredraggingourlegalsystemdownbydisregardingtheruleoflaw.12 Otherbelievedthat

thethreatoflitigationmadesovereignlendingcheaper.13Thisviewgarneredsupportamong

U.S.lawmakers: inMay2009,Rep.EricMassa(DNY),introducedtheJudgmentEvadingFor

eignStatesAccountabilityAct,whichmadatedthatforeignstates(andtheircorporations)that

havebeenindefaultofU.S.judgmentsexceeding$100millionformorethantwoyearsbede

niedaccesstoU.S.capitalmarketsandrequiredthattheadministrationexplainwhyitdeserved

aid,inadditiontomandatingthatanyaidgrantedbearnoticethatthecountryisajudgment

evadingstate.14

Absentinthisdebatearetwoquestions. First,arethevultureseffective? Inotherwords,isthe

threatofavirtualblockadeincreasesovereignincentivetorepayenoughtoincreaseinvestorconfi

denceinthesecurityofsovereigndebt? Ifthevulturesdecreaseinvestorconfidenceinalargeandsus

tainedway,thentheiropponentshaveastrongargumentthatthevulturesinterferewithsovereign

debtrestructuringsandtheiractivitiesshouldbecurtailed. Ontheotherhand,ifthevulturesdonot

matter,thentheiropponentsaremakingamountainoutofamolehill. Second,againstwhatshouldthe

vulturesbebenchmarked?Perhapsnopossibledebtenforcementregimemightbeeffective,inwhich

casetherewouldbelittleargumentinfavorofstrengtheiningthecurrentone.Thepossibilityofusing

sanctionstoimprovesovereigndebtmarketsmaybenothingmorethananirvanathesis.

Inordertotestthehypotheses,twothingsareneeded: alogicalframeworkanddata. Howwould

weexpecttobondspreads(against,say,U.S.Treasuries)toreactunderacredibledebtenforcement

regime?First,wewouldexpecttoseealargedropinspreadswhentheregimebeginsforthecountries

thataresubjecttoit. Second,everytimetherewasanintervention(bytheU.S.governmentorthe

courts),wewouldexpecttoseeatemporaryriseinyieldsforbondsissuedbythecountriesunderthe

regimethatwerenotbeingintervened,untilitbecomesclearthattheinterventionhassucceeded. At

thatpoint,wewouldexpectyieldstodrop.TouseametaphorfromBrooklyn,thelogicisthatofafor

merlycrimeriddenneighborhoodinwhichanincreaseinthepolicepresencehassucceededinreducing

mayhem. Whenresidentsofsuchaneighborhoodseethepoliceoutsideaneighborshouse,lights

12Bosco,p.38.

13 SeeScott(2006).HalS.Scott,2006.SovereignDebtDefaults:CryfortheUnitedStates,NotArgentina,WashingtonLegalFoundation,Criti

calLegalIssues,WorkingPaperSeriesNo.140,September.14

Forthebillstext,seehttp://www.govtrack.us/congress/bill.xpd?bill=h1112493,accessedonJanuary5th

,2010.


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GunboatsandVultures

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flashingandgunsdrawn,theywillbecomenervousuntilitbecomesclearthattheperpetratorshave

beenapprehended,oratleastuntilitbecomesclearthattheenforcementactiondoesnotportendan

increaseincrime. Investors,weexpect,shouldreacttodebtenforcementactionsunderacredible

debtenforcementregimeliketheneighborhoodresidentsreacttocrimeenforcementactionsundera

crediblecrimeenforcementregime.

Howwouldweexpectspreadstoreactunderanoncredibledebtenforcementregime?Wewould

expecttoseenochangeinyieldswhentheregimefirstcameintobeing.Norwouldweexpecttoseea

reactionfromdebtenforcementinterventions.Afterall,iftheactionswerenotexpectedtochangebe

havioreitherbecausetheenforcementistoounpredictableorbecausethesanctionsaretooweak

thentheholdersofthebondsofthirdcountrieswillgainnoinformationfromastabilizationoren

forcementaction.

We

therefore

benchmark

the

vultures

against

the

dollar

diplomacy

of

the

early

20th

century.

We

beginbyfollowingMitchenerandWeidenmeirsstudyofthedeclarationoftheRooseveltCorollary,and

comparetheeffectofthebeginningofboththedollardiplomacyandthevultureregimes. Didtheini

tialactionthatstartedeachregimeTeddyRooseveltsactiontostabilizetheDominicanRepublicin

1905andElliottAssociatessuitagainstPerin1993generatealargeandsustaineddropininvestor

perceptionsoftheriskofLatinAmericansovereigndebt? (Forcomparisonssake,welimitourstudyto

LatinAmericanissues.) Inordertodeterminewhethertheinitialeventcreatedaregime,weexamine

theeffectoninvestorperceptionsregardingissuesotherthanthoseoftheintervenedcountry. Didthe

initialeventchangeinvestorexpectationsaboutsovereigndebtingeneral?

Wethenexaminetheeffectoflaterinterventions. (Inthedollardiplomacyregime,interventions

areU.S.actionstostabilizegovernmentsortakecontroloftheirfinances,e.g.,militaryinterventionsor

theappointmentofsomesortoffiscalagent. Inthevultureregime,interventionsaredecisionsby

AmericanorEuropeancourtstoattachfundflowstosovereigndebtors.) Inaneffectiveandcredible

debtenforcementregime,laterinterventionsshouldrevealunanticipatedinformation. Thatis,thefact

theU.S.neededtointerveneinonecountryshouldrevealnegativepoliticalandeconomicinformation

toinvestors. Afterall,inaperfectregime,nointerventionshouldbenecessarybeyondthefirstone. If

theregimeretainsitscredibility,however,thenthenegativeeffectoflaterinterventionsshouldbe

shortlivedasinvestorsregaintheirconfidencethattheregimecancopewiththeshock. Inacredible

debtenforcementregime,therefore,investorexpectationsofrepaymentshouldimprovemarkedlyand

sustainedlywhentheregimebegins,andlaterinterventionsshouldproducesmallandshortliveddrops

ininvestorexpectationwhennegativeinformationisrevealed.Notethatinthisframeworkinterven


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GunboatsandVultures

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tionsdonotandmostU.S.interventionsunderdollardiplomacywerenothavetobesanctions

aimedatdefaultingregimes.Rather,theyweremostly(withafewexceptions)aimedatpreservingsta

bilityandinsuringthattheintervenedregimewouldcontinuetomakegoodonitsobligation.Theywere

prophylactic,notpunishment.

WefindthatDollarDiplomacyunliketodaysvulturescreatedaneffectiveandcrediblere

gime. InlinewiththeresultsfromMitchenerandWeidenmeir,theinitialinterventionundertheregime

generatedalargeandsustainedfallininvestorperceptionsofthedefaultriskofthebondsoftheLatin

Americancountriessubjecttotheregime. Thisdropindefaultriskwassustaineduntilthelate1920s,

despitestatementsbytheU.S.governmentthatitintendedtogetoutofthedebtenforcementbusi

ness. Vultures,conversely,donotappeartohavecreatedacredibledebtenforcementregime. Mostof

ourspecificationsshownoeffect,althoughwehavebeenabletofindastatisticallysignificantbutsmall

and

transient

negative

effect

on

investor

expectations

of

default

risk.

The

implication

is

that

neither

the

fearsofthevulturesopponentsnorthehopesoftheirsupportersarejustifiedbythedata: intheeyes

ofinvestors,wehaveseenneitherareturntothehalcyondaysofTeddyRoosevelt(withoutthevi

olence)noraperniciousinterferenceintheabilitytorestructurethedebtsofpoorcountriesthatfind

themselvesunabletomakepayments. Wenotethatouranalysisdoesnotcommentdirectlyonthe

welfareimplicationsassociatedwiththeenforcementofsovereigndebt. Indeed,ourresultsareconsis

tentwithmanyofthefindingsintheliterature,andshouldbeinterpretedaspositivestatements,notas

normativeones.

GUNBOATS

Ifanationshowsthatitknowshowtoactwithreasonableefficiencyanddecencyinsocialandpoliticalmatters,ifitkeeps

orderandpaysitsobligations,itneedfearnointerferencefromtheUnitedStates.Chronicwrongdoing,oranimpotencewhich

resultsinagenerallooseningofthetiesofcivilizedsociety,mayinAmerica,aselsewhere,ultimatelyrequireinterventionby

somecivilizednation,andintheWesternHemispheretheadherenceoftheUnitedStatestotheMonroeDoctrinemayforce

theUnitedStates,howeverreluctantly,inflagrantcasesofsuchwrongdoingorimpotence,totheexerciseofaninternational

policepower.

PresidentTheodoreRoosevelt,20May1904

OnDecember6th,1904,PresidentRooseveltdeclaredthattheUnitedStateswouldexerciseaninter

national

police

power

across

the

Western

Hemisphere

in

order

to

insure

that

countries

kept

order

and

paidtheirobligations. TheinitialreasonforRooseveltsdecisiontoannouncethenewpolicywasthe

fearthatchronicdisorderwouldleadtodebtdefaults,whichwouldinturnprovideapretextforEuro

peanintervention.

Europeaninterventionwasnotadistanttheoreticalabstraction. In1899,CiprianoCastroseized

powerinVenezuelaafterabriefcivilwar. Castrosgovernmentconfiscatedforeignownedproperty,


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GunboatsandVultures

8

leviedvoluntarycontributionsonresidentEuropeans,occupiedadisputedislandbetweenVenezuela

andTrinidad,seizeddozensofBritishflaggedfishingvessels,andinterferedwithBritishshippingin

theCaribbean.15 Inaddition,Castrodefaultedonthecountrysforeigndebts. Asaresult,aBritish

GermanItaliancoalitionblockadedVenezuelanportsandseizedthecountryscustomhousesinDecem

ber1902. CastrobackeddowninFebruary1903,andtheHagueTribunalgrantedfirstpreferenceon

VenezuelandebtuntiltheVenezuelangovernmentpaid30percentofthetotalclaimsagainstit.

TheVenezuelanincidentsettwobadprecedentsfromtheAmericanpointofview. First,itindicated

thatEuropeanpowerswouldinterveneinthishemispheretoprotectthesecurityoftheirinvestments.

Second,suchinterventionswouldhavetheeffectofprivilegingEuropeanbondholdersoverAmerican

ones. Muchasmodernholdersofdefaulteddebtworrythatthevulturefundsvirtualblockadeswill

givethevulturesdebtpriorityandleaveotherdebtholderswithnothing,U.S.creditorsfearedthatEu

ropean

military

actions

would

give

European

claims

priority

and

leave

them

with

nothing.

DollarDiplomacyBegins

TheRooseveltCorollarycommittedtheU.S.toinsuringthatLatinAmericandebtorswouldbeable

topaytheirobligations. TheU.S.reluctantlyimplementedtheCorollaryin1904asaresultofthesitua

tionintheDominicanRepublic. TheD.R.hadbeeninastateofcivilwarsince1899,andthecountryde

faultedonitsdebts. AmidsignsofapossibleEuropeanintervention,theU.S.Navyselectivelybombard

edrebelcontrolledtownsinFebruary1904anddemandedthatthewarringfactionssitdowntowork

outtheirdifferences. Rooseveltsimultaneousorderedaspecialpresidentialcommissiontoundertakea

full,impartial,searchingaccountoftheDominicansituation.16 InMarch,thecommissionrecommend

edthattheUnitedStatesassumecontrolofDominicancustomhousesandpaytheDominicangovern

ment$1mfortheuseofa(strategicallyunnecessary)navalbaseinSamanBay. Withlimitedsupport

forinterventionintheUnitedStatesmemoriesofthe18981902PhilippineWarwerestillfresh

Rooseveltdemurred,preferringtoputofftheactionuntilthenecessitybecamesoclearthateventhe

blindestcanseeit.17

Unfortunately,thenecessityofactionsoonbecameclear. AmericanagentsinSantoDomingourged

theU.S.totakeoverDominicancustomhouses,fearingthatiftheU.S.didnot,Europeangovernments

wouldblockade,worseningthechaoswhichhadalreadykilledseveralAmericans.18 (Infact,theagents

15A.M.Lowe,VenezuelaandthePowers,TheAmericanMonthlyReviewofReviews,JanuaryJune1903,p.42.

16RoosevelttoGeorgeDewey,20February1904,inMorison,LettersofTheodoreRoosevelt4:734.

17RoosevelttoCharlesW.Eliot,inMorison,LettersofTheodoreRoosevelt4:770.

18Munro,InterventionandDollarDiplomacy,9394.PowelltoHay,16and18April1904,andPowelltoP.Castillo,17and19April1904,inDD,

M93,roll11;HaytoPowell,4May1904,inDiplomaticInstructionsoftheDepartmentofState[INS],M77,roll98,RG59.


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GunboatsandVultures

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wentsofarastosuggesttotheirsuperiorsthattheybeallowedtotakeoverthecustomsoftheirown

accord,givingWashingtonplausibledeniability.)19 Evenintheabsenceofablockade,theU.S.worried

thatEuropeanpowersmightattempttosecuretheirfinancialinterestsbysupplyingweaponstovarious

factionsinthecivilwar.20 Theseworrieswerenotunfounded: inApril,PresidentCarlosMoralessettled

hisdebtswithItaliancreditorsusingfundspledgedtoFrenchandBelgiumbondholders.21

OnMay20th,1904,RooseveltofficiallyproclaimedtheCorollary. U.S.navalofficersanddiplomatic

personnelbrokeredapeaceagreementbetweenthewarringfactionsinJune.22 PresidentCarlosMo

ralessgovernmentpromisedtorestartpaymentsonitsdebtsinNovember.23 Unfortunately,withan

nualrevenuesof$1.85millionagainst$0.9millioninarrearsandobligationsof$1.7millioncomingdue

in1905(notincludingannualexpensesof$1.3million,ratherimportantconsideringtheneedtopaythe

armyinthemidstofanongoinginsurgency),itseemedhighlyunlikelythattheDominicanRepublic

would

be

able

to

comply.

24

Morales

asked

the

U.S.

to

take

control

of

the

countrys

customhouses,

as

longasitcouldguaranteeenoughrevenuetokeepthegovernmentoperational.25 Rooseveltresisted

MoralessentreatiesuntiltheItaliangovernmentsentabluntrequesttoWashingtononDecember24th,

1904,demandingthattheU.S.eitherassumetheobligationtopayItalianclaimsorpermitRometocol

lectthequotadueherdirectlyfromthecustomhousesoftheRepublic.26

OnJanuary20th,1905,theU.S.andtheD.R.concludedanagreementtoplaceDominicancustom

collectionunderAmericanmanagement. AlayerofAmericanofficialswouldassumecontroloverthe

customsagency,reportingdirectlytotheDominicanpresident. TheU.S.woulduseamaximumof55

percentoftherevenuestomakedebtpayments,andremittheremaindertotheDominicangovern

ment. TheagreementalsopreventedSantoDomingofromissuingnewdebtorchangingtariffrates

withoutAmericanapproval.27 RooseveltsubmittedtheagreementtotheSenateonFebruary7th. Itis

supremelytoourinterestthatallthecommunitiesimmediatelysouthofusshouldbeorbecomepros

perousandstable,andthereforenotmerelyinname,butinfactindependentandselfgoverning.28

TheSenate,however,rejectedthemeasure. OnMarch24,therefore,theDominicanfinanceminister

submittedaproposaltohaveanAmericantakeovermanagementofDominicancustomswithoutatrea19

Dillingham

to

SN,

18

April

1904,

CCR,

entry

40,

p.

137.

20DillinghamtoSN,19April1904,SDCG,entry305,pp.12.

21Dawson,"ChronologyofPoliticalEvents,"595;MacMichael,"UnitedStatesandtheDominicanRepublic,"164.Hollander,DebtofSantoDo

mingo,127.DillinghamtoSN,19April1904,SDCG,entry305,pp.12.22

Rippy,HAHR,Vol.17,Nov1937,p.419.23

DawsontoHay,September12,1904.24

DawsontoHay,September12,1904.25

DawsontoHay,Oct.6,1904.26

RoosevelttoBishop,February23,1904,inJosephBishop,TheodoreRooseveltandHisTimeShowninHisOwnLetters.Volume:1.C.Scribn

er'sSons,NewYork,1920,p.431,andMunro,p.98.27

Munro,p.101.28

FRUS,1905,pp.334342.


10/32

GunboatsandVultures

10

ty.29 Rooseveltaccepted,andonMarch31staretiredAmericancolonel,GeorgeColton,tookoverthe

administrationofthecountryscustomsagency.30 Rooseveltexplainedthenewpolicyinaspeechin

Chautauqua,NewYork: Thiscountrywouldcertainlynotbewillingtogotowartopreventaforeign

governmentfromcollectingajustdebtortobackuponeofoursisterrepublicsinarefusaltopayjust

debts,andthealternativemayinanycaseprovetobethatweshallourselvesundertaketobringabout

somearrangementbywhichsomuchasispossibleofthejustobligationsshallbepaid.31

BondholdersreactedpositivelytotheCorollary. OnApril5th,1905,JamesCooper,thesecretaryof

theCorporationofForeignBondholdersreported,ThesecuritiesofSouthandCentralAmericanrepub

licswhichashorttimeagowerespokenofasrubbishandtobecarefullyavoidedbyallbutthemost

hardenedspeculatorsarenowapparentlyregardedasrapidlyapproachingthepositionofgiltedged

securities. CooperwentontoattributetherisetoU.S.debtenforcement. Therisesthathaveoc

curred

appear

to

be

largely

due

to

the

idea

that

the

United

States

is

going

to

intervene

in

some

way

so

astomakeallthesedefaultingcountriespaytheirdebtstherecentactionoftheUnitedStatesexecu

tiveinSantoDomingowasregardedasconfirmationofthisidea.32

DollarDiplomacyinAction

HowdidtheUnitedStatescontinuetoenforcefinancialstabilityinLatinAmericaafter1905? Figure

1showsthatCircumCaribbeanbondspreadsremainedlowuntilthelate1920s. TheU.S.exercisedits

powerinthreeways. First,theU.S.useditsdiplomaticinfluencetofacilitatedebtsettlements. Follow

ingitsinterventionintheDominicanRepublic,theU.S.helpedbrokersettlementswithColombiaand

Venezuelain1905.33 In1913,afteraworrisomevisitbyaBritishwarship,theU.S.governmentarranged

adealinwhichGuatemalawouldstartpayinginterestonitsdefaulteddebts,butaccruedarrearswould

beforgiven.34 In1923,theStateDepartmentsentamissiontoBogottoproposereformstoColombias

bankingsystem,taxcollection,andpublicadministration. TheColombianlegislaturepassedallofthe

proposedreforms,andtwomembersofthemissionstayedonasemployeesoftheColombiangovern

ment. Inreturn,BlairandCompanyunderwroteanewloantotheColombiangovernment.35 Latermis

sionsrangedoutsidetheCircumCaribbeantovisitChile,Bolivia,Ecuador,andPeru.

Second,theU.S.arrangedcontrolledloans,inwhichthedebtorpledgedtoallowtheU.S.totake

overcustomscollectionintheeventofadefault. Intwocases(notincludingthe1905interventionin

29FRUS,1905,p.358.

30FRUS,1905,p.366.

31TrustsMustSubmittoLawRoosevelt,NYT,12August1905,p.3.

32SouthAmericanBondsupOver100PerCent,NYT,5April1905.

33Mitchener,Empire,p.686.

34LaughlintoKnox,Jan.28,1913. FRUS,1913,p.565.

35Rosenberg,FromColonialismtoProfessionalism,inDrake,p.72.


11/32

GunboatsandVultures

11

theD.R.),theU.S.hadtofollowthroughonitspledge: Nicaraguain1911andHaitiin1915.Infourother

cases,theU.S.tookcontroloffiscalpolicybeforedefaultoccurred. In1918,afterPanamausedthe

proceedsfromarailroadloantomeetcurrentexpenses,theU.S.pressuredthePanamaniangovern

mentintoallowinganAmericanfiscalagenttotakecontrolandchargeofthenationaltreasury.36

In

1926,aloancontractwithHondurasrequiredthecountrytoimposeadedicated3percentexporttaxto

collateralizetheloan. TheloanwascollateralizedbycollectingthetaxrevenueinNewYork: exporters

neededtopurchasespecialstampsequaltothetaxdueinordertoexport,andsuchstampsweresold

exclusivelybytheNationalCityBankofNewYork. TheU.S.governmentagreednottoadmitHonduran

importsunlesstheyhadpaidthetax.37 Finally,in1926,PeragreedtoappointanAmericantoheadthe

customserviceasaconditionforaloanfromtheGuarantyTrustCompany.38 TheU.S.arrangedtwo

controlledloanswithCostaRicain1911and1926,butdidnothavetofollowthrough.39 Inaddition,El

Salvador

signed

a

controlled

loan

in

1912

which

allowed

the

lenders

to

appoint

a

fiscal

agent

to

monitor

customscollection,buttheagentwouldonlytakeoverthecustomhousesintheeventofdefault.40

Third,theU.S.usedmilitaryforcetopreventinternalconflictfromforcinggovernmentsintodefault.

TheintervenednationsincludedCostaRica,Cuba,theDominicanRepublic,Haiti,Honduras,Mexico,Ni

caragua,andPanama. InthreeofthosenationsCuba,theD.R.,andHaititheU.S.wentsofarasto

occupyandadministerthemwhenthelocalgovernmentscollapsed. TheU.S.ranCubain190609(and

againin1912and191722),Haitiin191534,andtheD.R.in191624. InNicaragua,theU.S.neverfor

mallytookoverthegovernment,butU.S.Marinesactivelyfoughtantigovernmentinsurgentsin1912

and192633. Inaddition,theU.S.workedtopromoteinterstatepeaceintheregion,particularlyinCen

tralAmerica. TheU.S.brokeredthe1907PeaceConferencewhichledtotheestablishmentoftheCen

tralAmericanCourtofJustice. ItlaterintervenedwhenexpansionistgovernmentsinNicaraguathreat

enedthepeaceandlandedtroopsontheCostaRicaPanamaborderin1925toforestallconflict.

ThereweregapsinAmericandollardiplomacy. Threeattemptsatcontrolledloansfailedduringthe

period.In1910,aUnitedFruitbackedcoupoustedPresidentMiguelDvilaofHonduras. Dvilassuc

cessor,MiguelBonilla,backedoutofa1909agreementtoplacecustomsadministrationunderU.S.con

36

Major,Possession,pp.13940.37

ChesterJones,TheCaribbeanSince1900,PrenticeHall: NewYork,1936,pp.43233.38

Rosenberg,FromColonialismtoProfessionalism,inDrake,p.71.39

The1926loanstipulatedthattheU.S.wouldtakeovertheCostaRicasinternaltaxcollectionintheeventofdefault.Inaddition,thecontract

stipulatedthatdisputeswouldbesubmittedtotheChiefJusticeoftheSupremeCourtoftheUnitedStatesforbindingarbitration. LaRepublica

deCostaRicaandCentralUnionTrustCompanyofNewYorkasTrustee,TrustAgreement,November1,1926.40

Intheeventofdefault,thefiscalagentwouldnominatetwopeopletotakecontrolofthecustomservices. TheSalvadoreangovernment

wouldthenselectoneofthemafterrunningthedecisionthroughtheofficeoftheSecretaryofStateoftheUnitedStatesanydisagreement,

questionordifferenceofanynaturewhateverwouldbereferredtothebindingauthorityoftheU.S.ChiefJustice. JuanFranciscoParedesto

CharlesEvansHughes,Oct.20,1921,NationalArchives,RecordGroup59,816.51/176.


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GunboatsandVultures

12

trol. (BonillathencancelledvariousAmericanownedrailroadandwharfconcessions,andUnitedFruit

offeredtorefinancethecountrysdebtinreturnforthem. OppositionfromtheU.S.government,how

ever,meantthatthenewloanwasnevermade.41) In1913,theU.S.failedtopersuadeGuatemalato

includeanexplicitsanctioningmechanisminitsdebtsettlement. Finally,in1922acontrolledloanto

Boliviaprovokedafirestormofopposition(particularlywhenthesizeofthe9pointspreadthattheun

derwriterswouldearnbecamepublic)andtheBoliviangovernmentbackedoutofthedeal.42 Argentina,

Brazil,andChile(andpresumablyUruguayandParaguay),meanwhile,wereneverconsideredtargetsfor

Americandebtenforcement,partiallybecausetheywereconsideredmoreresponsible,butmostly

becausethosecountrieswereconsideredabletodefendthemselvesagainstintervention.

WastheAmericanregimeinthecircumCaribbeancredible? Investorshadreasonstodoubtthe

U.S.commitment. PoliticiansregularlymadepublicproclamationsthattheUnitedStateswasnolonger

in

the

debt

enforcement

business.

Warren

Harding,

for

example,

promised

to

withdraw

U.S.

troops

fromtheDominicanRepublicinhis1920campaign. (Hedidnotfollowthrough.) Ontheotherhand,the

StateDepartmentinsistedonvettingallLatinAmericansovereignbondissuesinU.S.markets,which

manyobserversinterpretedasanunofficialguarantee,andCalvinCoolidgeproclaimedina1927:

Whileitiswellestablishedinternationallawthatwehavenorighttointerfereinthepurelydomesticaf

fairsofothernationsintheirdealingswiththeirowncitizens,itisequallywellestablishedthatourGov

ernmenthascertainrightsoverandcertaindutiestowardourowncitizensandtheirproperty,whatever

theymaybelocated.Thepersonandpropertyofacitizenareapartofthegeneraldomainofthenation,

evenwhenabroad.Ontheotherhand,thereisadistinctandbindingobligationonthepartofselfrespec

tinggovernmentstoaffordprotectiontothepersonsandpropertyoftheircitizens,wherevertheymaybe.

This

is

both

because

it

has

an

interest

in

them

and

because

it

has

an

obligation

toward

them.

It

would

seem

tobeperfectlyobviousthatifitiswrongtomurderandpillagewithintheconfinesoftheUnitedStates,it

isequallywrongoutsideourborders.Thefundamentallawsofjusticeareuniversalintheirapplication.

Theserightsgowiththecitizen.Whereverhegoesthesedutiesofourgovernmentmustfollowhim.43

EmpiricalAnalysis

Inordertoanalyzemarketperceptionsofdefaultrisk,weanalyzetheeffectontheperceivedmar

ketriskinnonintervened(orspillover)LatinAmericancountriesfollowinginterventionintheperiod

1900to1929. Thatistosay,weexcludedebtissuedbytheinterveninggovernmentitself.

Weendouranalysisin1929,whentheDepressionpromptedHerbertHoovertodisavowdollardip

lomacy. BoliviawasthefirstLatincountrytodefault,inJanuary1931,inthewakeofa28percentfallin

taxrevenuesandasubsequentmilitarycoup. AmericanadvisorstotheBoliviangovernmentbegancall

ingadefaultinevitableasearlyas1928andtacitlybegantoencourgeBoliviatocometosomesortof

41Munro,p.235.

42Rosenberg,FromColonialismtoProfessionalism,inDrake,p.70.

43JohnT.WoolleyandGerhardPeters,TheAmericanPresidencyProject[online].SantaBarbara,CA:UniversityofCalifornia(hosted),Gerhard

Peters(database).AvailablefromWorldWideWeb:(http://www.presidency.ucsb.edu/ws/?pid=419).


13/32

GunboatsandVultures

13

arrangementwithitscreditors.Peru(whichwasunderAmericansupervision)andChileandEcuador

(whichwerenot)soonfollowed.44 InOctober,theeraofdebtenforcementofficiallycametoanend

whentheU.S.administratorsinchargeofDominicanfinancesagreedtoallowthecountrytodefaultin

thefaceofamassivedeclineinexportrevenues.45

Weusespreadsasourmeasureofperceivedmarketrisk.Wecalculategovernmentbondyieldrates

fromthemonthlyopeningbondpricesaslistedineditionsoftheInvestorsMonthlyManualforvarious

LatinAmericancountries.WesubtractthemonthlyvaluesoftheU.S.longterminterestratefromeach

countrysyieldratetocalculatethespread. ThesourceoftheU.S.longtermrateistheGlobalFinancial

Database. Table1presentsmainsummarystatisticsforouryieldseries.

TABLE1AROUNDHERE

WebeginbytestingthehypothesisthatthedeclarationoftheRooseveltCorollaryinMay1904

caused

a

change

in

regime

and

had

a

lasting

effect

on

Latin

American

bond

spreads.

Following

Mitchen

erandWeidenmeir,weconsidertheeffectsontheLatinAmericancountriesasawholeandasmaller

subsetofCircumCaribbeancountrieswhichfellunderAmericanprotection.46 Wetestedthesignific

anceoftheMay1904datewithourgunboatsdataforvariousepisodewindows: onemonth,three

months,sixmonths,andoneyearaftertheannouncement.47

FIGURE1,TABLE2ANDTABLE3AROUNDHERE

Intheveryshortterm(1and3monthwindows)thereisasmallandinsignificantpositiveeffecton

bondspreadsfollowingthedeclarationof0.0to0.3percentagepoints. Inthelongerterm,however,

theeffectoftheCorollaryonspreadsbecomesnegativeandsignificant,consistentwiththehypothesis

thattheCorollarychangedinvestorexpectations. TheeffectislargerfortheCircumCaribbeancoun

triesmostsubjecttodebtenforcement,andquitesmall(veryclosetozero)inmagnitudeforArgentina,

Brazil,andChile.48 Inaddition,wetestedfora1904structuralbreakinthetimeseriesonthespreadsof

CircumCaribbeanbondseriesusingaconventionalWaldtestfora1,3,6,and12monthwindowofthe

declaration.49 ForallthewindowstheFtestissignificantatthe.01levelindicatingthepresenceofa

44OnU.S.fearsofaBoliviandefault,seeStateDepartmentRecords(RecordGroup59),NationalArchives,MemorandumfromtheEconomic

Adviserof9May1928,NA824.511449. OntheU.S.governmentsdecisiontopreventarestructuringoftheBoliviandebt,seeFINDCITEIN

CONTRERAS45

USCustomsReceivershipReports.46

Inourdataset,theseareColombia,CostaRica,Guatemala,Nicaragua,Honduras,andVenezuela.47

MitchenerandWeidenmier usedweeklysovereigndebtbondpricesfromtheLondonStockExchangeandtestforabnormalreturnsfollow

ingthedeclaration. Weusemonthlyfrequencydataandcalculateyieldsandthenestimatetheeffectofthedeclarationonbondyields. When

abondwasindefault,weusedthenotionalyield;thedefaultedcouponovertheactualmarketprice.48

Ourcoefficientresultsdonotchangewhenwealsocontrolwithyeartrend*countrydummies.49

Basically,weinteractallRHSvariableswithadummyforthedateofthebreakanduseajointFtesttodeterminethesignificance.


14/32

GunboatsandVultures

14

structuralbreakafterMay1904.TheresultconfirmedMitchenerandWeidenmeir(andtheeyeballeco

nometricsinFigure1)after1904,CircumCaribbeanbondspreadsweresignificantlylower.

WethencodedU.S.interventionsinLatinAmericancountriesfortheperiod19001929. Formilitary

interventions,thesedateswerecompiledfromvariousWarDepartmentreportsattheNationalArchives

andBenjaminBeede,ed.,TheWarof1898andU.S.Interventions,18981934: AnEncyclopedia. For

controlledloans,weusedthedatenegotiationsbeganandthedateonwhich(ifnecessary)American

fiscalagentstookoverfinancialsupervision.

TABLE4AROUNDHERE

Figure1presentsspreadsfor3setsofcountries:allcountries(Argentina,Brazil,Chile,Colombia,

CostaRica,Cuba,ElSalvador,Guatemala,Honduras,Mexico,Nicaragua,Paraguay,Peru,Uruguay,and

Venezuela);CircumCaribbeancountries(Colombia,CostaRica,Cuba,ElSalvador,Guatemala,Hondu

ras,

Nicaragua,

and

Venezuela);

and

the

ABC

countries

(Argentina,

Brazil

and

Chile).

We

use

the

ABC

countriesasabaseline,sincetheywereconsideredbetterrisksthantheCircumCaribbeancountriesat

thebeginningofthedollardiplomacyperiod,andneveratriskofAmericaninterventionforbothprac

ticalandpoliticalreasons.Weattemptedtoisolatespillovereffectswherewehaveexcludedinter

venedcountryobservationsina12monthwindowaroundtheintervention.50Forthemostpartthespil

loverseriesandourcompleteseriesmovetogether,butthereareasexpected,somedifferencesinthe

seriesaroundtheinterventiondates. Theaveragemonthlyspreadforourbaselinecountriesislower

thanthosefortheCircumCaribbeancountries. TogaugewhetherU.S.gunboatdiplomacyhadanyef

fectoninvestorperceptions,weuseeventregression.51

Methodology

Ourfirststepwastoconstructtherelevanteventwindow.Supposecountryiisintervenedindatet.

Measuringtheimpactoftheeventonthespillovercountrieswouldrequireregressingthespreadona

constant,asetofcontrolsandadummythatwouldpickuptheeffectoftheinvasionatt. Theshorter

theeventwindow,thelowerthechancethattheresultsaredrivenbyotherevents.Wearelimited,

however,bythefactthatourbonddataismonthly.52 Nevertheless,givenlags,aonemonthwindow

maynotfullypickupthemarketreactiontotheinvasion.Assuchwepresentalsoresultsforwindowsof

50ThefigurewasconstructingbyexcludingdatafortheintervenedcountriesforTmonths beforeandaftertheintervention,withT[1=.

12].WepresentresultsforT=151

CITATIONS52

Inaddition,controldataisgenerallynotavailableathigherfrequencies(mostisavailableonlyyearly).Inthemoderncontext,Errunzaand

Miller(1998)andHenry(2000)argueinfavororbroaderwindowsinemergingmarketsastheremightbewidespreadinformationleakageprior

tomanyevents.Also,aswearguelaterinthetext,evenifwehadhigherfrequencydataitishardtocontrolformanypoliticaleventswhich

spanformorethanoneday,weeksorevenmonths.


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GunboatsandVultures

15

onemonthto12months. (The12monthwindowhasthefurtheradvantageofallowingustoincorpo

ratemacrocontrols: exports,thetermsoftrade(whereavailable),andgovernmentrevenues.)

Themagnitudeandstatisticaleffectonspreadsofthespillovercountriesfollowingtheinterven

tionofcountryareevaluatedbyestimatedthefollowingpanelregression:

Spreadit=i+Interventiontt+Controlsit+t + it (1)

whereInterventionitisadummyvariablethattakesonthevalueof1onoraftertheepisode(i.e.,month

ofandmonthsafterintervention) forT=112andSpreaditismeasuredinpercentagepoints. Weex

cludedatafortheintervenedcountryforTperiods(i.e.,months)beforeandaftertheintervention,with

T[1=.12]. ireferstocountrydummieswhichcapturetimeinvariantcountryspecificfactorswhich

maydrivecrosscountrydifferencesinspreads.tisavectoroftimedummiesincludedtocontrolfor

crosscountrycorrelationovertimeduetocommonworldshocksanditisanerrorterm.53

Somespeci

ficationsincludealsocountryspecificperiodtrends.Perceiveddefaultriskor/governmentsdesiretopay

areintricatelylinkedwiththemacroeconomy,hence,whenusingyearlyevents(duetodatarestric

tions),wealsoaddasetofcountryspecificmacroeconomiccontrolvariablestoaccountforotherva

riablesthatmayaffectdifferenceinspreads. TheestimationprocedureusesWhitescorrectionforhe

teroskedasticityintheerrortermanderrorsareclusteredatthecountrylevel.54

Results

Table5presentsmainresultsforthesampleofCaribbeancountriesColumn(1)presentsresults

controllingforcountryandtimeperiodeffectswhilecolumn(2)Weincludecountryspecifictimetrends

aswellascountryandperiodfixedeffects.Wefindapositiveandsignificanteffectonspreadsfollowing

U.S.gunboatintervention.Thisresultsuggeststhatmarketstendtoassigngreatdefaultriskinnearby

countries. Ourresultsarealsoeconomicallysignificantintermsoftheimpliedimpactonspreadsbefore

andafterintervention.55 Theestimatesincolumn(1)implya0.165percentagepointincreaseinspread

53 Weperformedsomesimpleteststocheckfornonstationaryvariablesinthedata(inparticularspreads).Severalunitroottestshavebeen

extendedtopaneldata,andinparticulartolargeNpaneldatasetssuchastheoneusedinthispaper.(SeeBaltagi(2001)foranoverviewof

non

stationary

panels).

Data

limitations

(in

terms

of

obtaining

data

for

all

countries

all

periods

as

to

construct

a

balanced

panel)

limited

the

use

ofmanyofthesetests. WeperformmedDickeyFuller(DF)andAugmentedDickeyFuller(ADF)testontheaveragespreaddataasacheckon

stationarity. Underdifferentspecifications(e.g.,numberoflaggedterms,theinclusionofatimetrend,etc)weconsistentlyfoundthatnounit

rootwaspresentintheaveragemonthlyCaribbeanandLatinAmericanspreads.54

Oneconcernthatemergesfromtheseresultsisthattheestimationofequation(1)isthatourstandarderrorsmaybebiaseddownwarddue

tothefactthatthedependentvariablesmaybepositivelyseriallycorrelated.Inaddition,ourmainindependentvariableisbyconstruction

highlyseriallycorrelated,exacerbatingthedownwardbiasinstandarderrors.WefollowthesolutionsproposedinBHLandBertand,Duflo,and

Mullainathan(2004),performingaseriesofteststoaddressthisissue.AsBertand,Duflo,andMullainathan(2004)emphasize,othersolutions

typicallyemployedtoaddressserialcorrelationissuesarenotappropriateforthetypeofpaneldatausedinthisstudy.Henceallspecifications

adjuststandarderrorsallowingforcountryclusteredheteroskedasticyandautocorrelation55

WepresentresultsexcludingTperiodsofintervenedcountrydata. Resultarerobusttoexcludingoneyearofobservations(aroundinterven

tiondate)forintervenedcountryasawaytomakesureresultsarenotdrivenbyeventsinsuchcountry.


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GunboatsandVultures

16

onemonthfollowinganintervention.(Theannualizedresultis120.165=1.98percentagepoints).

Thecoefficientestimatesincolumns(2)and(3)aresimilarinmagnitudeandsignificance.

TABLE5AROUNDHERE

TimingofEffectandDynamics

Animportantconcernfromthepreviousanalysisiswhetherthedatesareacleardemarcationbe

tweendistinctperiods.Arelatedissueiswhethertherearepotentialtrendsinthedata(renderingour

resultsspurious).Table6comparesspreadonemonthbeforeandafterspreadsuggestingthatthereis

indeedachangeinspreadfollowingintervention.

TABLE6AROUNDHERE

Tofurtheraddressthisconcern,weexplorethedynamicsoftherelationshipillustratedintheinitial

regressions.Inparticular,werunthefollowingregression:

(Spreadit)

=

i+

1PreInv3it

+

2PreInv2it

+

3PreInv1it

+

0InvDateit

+1PostInv1it

+

2PostInv2it

+

3PostInv3it + 3PostInv12it + +Controlsit+Dt +it

wherePreInv1it,PreInv2it,andPreInv3ittakethevalueofonerespectivelyinthefirst,second,andthird

periodsbeforecountryiisinvadedandzerootherwise,InvDateittakesthevalueofoneintheperiodin

whichcountryiisinvadeddatesandzeroineveryotherperiod;PostInv1it,PostInv2it,PostInv3it,and

PostInv12ittakethevalueofonerespectivelyinthefirst,second,thirdandtwelveperiod(month)after

invasionandzerootherwise.TheresultsinTable7useWhitescorrectionforheteroskedasticityinthe

errortermandclusterederrorsatthecountrylevel.56

TABLE7AROUNDHERE

Couldtherebeathirdfactorcorrelatedwith,butindependentof,Americaninterventionthat

changedmarketconfidence? Webelievereservecausalitynottobeasanimportantconcernitis

hardtobelievethatthefuturespreadonsovereignbondspromptedU.S.policymakerstodecidetoin

tervene. Omittedvariables,ontheotherhand,areaconcern. Inparticular,itmaybethecasethatre

cessionscausedbothincreasesinbondspreadsandpromptedmilitaryinterventions. Wehavecon

trolledforvariablesthatmightinfluencethepolicymakerstiminginopeningupthemarkets,including

laggedGDPgrowth.

Inconclusion,theevidencefrombondyieldsisconsistentwiththehypothesisthatU.S.dollardip

lomacyprovidedacredibledebtenforcementregime. Thebeginningoftheregimesawalargeandsus

taineddropinthebondspreadsofthecountriesmostsubjecttoAmericandebtenforcement. Later

interventionsrevealedinformationaboutnegativeshockstoinvestorsifgovernmentsprovokedaU.S.

56Resultsexcludesimilardataforintervenedcountry;resultsrobusttoexcludingoneyearofdataofintervened country.


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GunboatsandVultures

17

intervention(eitherbymisbehavingorthreateningtocollapse),thenthethreattothevalueoftheir

bondholdingsmustbeveryserious.

VULTURES

Thecompactbetweenborrowersandlendersisthatdebtcontractsareenforceable. Ifasovereignisheldtoadifferentstan

dardofenforceability,itvitiatesthecontractanderodesboththeruleoflawandconfidenceintheU.S.judicialsystem. Inthe

longrun,whatismoreimportanttotheU.S.economy: enforcingcontractsinaccordancewiththeirtermsorpermittingasmall

selfinterestedgroupofdefaultingregimestoredefineoursystemofcontractlaw?

JayNewmanofElliotAssociates

GunboatdiplomacyofthesortthattheU.S.engagedinduringtheearly20thcenturyisprobablycer

tainlynotcomingback,althoughrecenteventsconcerningBrazilianinvestmentsinSouthAmericamay

createroomfordoubt.57 Theremaybe,however,akinderandgentlerwayofaccomplishingthesame

result: thevulturefund. ThevulturefundsuseAmericanandEuropeancourtstoenforcesovereign

debtcontracts. Theypurchasedefaultedsovereigndebtinthesecondarymarket. Thevulturesthensue

thedefaultingcountryintheU.S.orE.U. Thecourtsystemthenenforcesdecisionsthatfavorthevul

turesbyattachingassetsorflowsoffundsofthedefaultinggovernmentthatpassunderitsjurisdiction.

Theemergenceofmodernvulturing,therefore,requiredtwopreconditions: first,thecreationofanac

tivesecondarymarketinemergingmarketsovereigndebtissues;andsecond,thatAmericanandEuro

peancourtsrelaxthedoctrineofabsolutesovereignimmunity.

SecondaryMarketsandSovereignImmunity

TheGreatDepressionandSecondWorldWarkilledoffthemarketforLatinAmericansovereign

debtsecurities. WhenprivatelendingonceagainbegantoflowtoLatinAmerica(andtoalesserextent

tothenewlyindependentcountriesofAsiaandAfrica)inthe1960s,ittooktheformoflendingbybanks

orconsortiumsofbanks. The1982debtcrisis,however,leftthebankswithbillionsofdollarsofnonper

formingsovereigndebtontheirbooks. The1989BradyPlan,namedafterU.S.TreasurySecretaryNi

cholasBrady,arrangedforthebanksandtheirdebtorstowritedowntheiroutstandingloansinarrears,

andthenexchangethemfornewlyissuedlongtermdollardenominatedbonds,withprincipalandone

yearsworthofinterestpaymentssecuredbyU.S.Treasurynotes. Intotal,Bradydealsrestructured

57InarecentspatbetweenBrazilandEcuadorovertheoperationsofOdebrecht,aBrazilianconstructionfirm,theBraziliangovernmentwith

drewitsambassadorandthreatenedQuitowitheconomicsanctionsuntiltheEcuadoreansbackeddown.InasimilardisagreementwithBolivia,

theBrazilianpresidentsupportedLaPazsattempttoraisetaxesonPetrobras,aBraziliancompanyextractinggasinBoliviaseasternprovinces,

buttheforeignministerbluntlystatedthatshouldBoliviaalterthepriceorquantityprovisionsofthecontract,thenBrasiliawouldhaveno

choicebuttorecognizetheeasternsecessionists.


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GunboatsandVultures

18

$202.8billionofdebtfor18countries. Theresultwas$63.7billionofdebtreliefandthecreationof

anactivesecondarymarketinbondsissuedbydevelopingcountrygovernments.

Modernvulturefundsrequiredoneothercondition,however: theabilitytouseAmericanandEu

ropeancourtstosanctionsovereigns. Underthedoctrineofabsolutesovereignimmunity,whichheldin

mostcountriesuntilSecondWorldWar,statescannotbesuedinthecourtsofanothersovereignstate.

AbsolutesovereignimmunityheldeventheduringtheDollarDiplomacyperiod. Infact,intheabsence

ofabsolutesovereignimmunitytherewouldhavebeennoneedtoincludespecialarbitrationandpu

nishmentprovisionsinthecontrolledloans.

AbsolutesovereignimmunitybecameaproblemaftertheSecondWorldWar,asgovernmentsand

governmentownedcompaniesincreasinglyengagedincrossbordercommercialactivities. Privatefirms

complainedthatsovereignimmunityputthematadisadvantagewhendealingwithstateownedcom

petitors.

Belgium

and

Italy

were

the

first

countries

to

deny

sovereign

immunity

in

such

cases.

Switzer

land,France,Austria,andGreecefollowed.58

TheU.S.joinedthebandwagonin1952,whenStateDepartmentdeclaredthattheU.S.nolongerac

ceptedabsolutesovereignimmunityintheTateLetter. TheLetterstatedthatstateswerenotimmune

withrespecttoclaimsarisingoutofactivitiesofthekindthatmaybecarriedonbyprivatepersons.

TheU.S.issuedtheletterfortworeasons. First,thewidespreadandincreasingpracticeonthepartof

governmentsofengagingincommercialactivitiesmakesnecessaryapracticewhichwillenablepersons

doingbusinesswiththemtohavetheirrightsdeterminedinthecourts. Second,thegrantingofsove

reignimmunitytoforeigngovernmentsinthecourtsoftheUnitedStatesismostinconsistentwiththe

actionofthegovernmentoftheUnitedStatesinsubjectingitselftosuitinthesesamecourtsinboth

contractandtort.59

Unfortunately,theStateDepartmentinterpretedtheTateLetterinaconfusingandcontradictory

manner,usuallyallowingpoliticalconsiderationstoguideitsdecisions.60 Othergovernmentsacted

equallyinconsistently. TheresultinguncertaintysurroundingsovereignimmunityledtheCouncilofEu

ropetonegotiateaconventionontheissuein1963. Theresultwasthe1972EuropeanConventionon

StateImmunity,whichcodifiedthecircumstancesunderwhichsovereignimmunitydidnotapply.61

Austria,Belgium,Cyprus,andtheNetherlandsratifiedtheConventionalmostimmediately.62 TheU.S.

didnotratifytheConvention,butCongresspassedtheForeignSovereignImmunityAct(FSIA)in1976,

58 JackTatetoJamesMcGranery,May19,1952,DepartmentofStateBulletin24.

59 JackTatetoJamesMcGranery,May19,1952,DepartmentofStateBulletin24. Italicsintheoriginal.

60TomMcNamara,APrimeronForeignSovereignImmunity,DavisGraham&StubbsLLP,March8,2006 Colorado,USA.

61JohnO'Brien,InternationalLaw,RoutledgeCavendish2001,p.290.

62http://conventions.coe.int/Treaty/Commun/ChercheSig.asp?NT=074&CM=8&DF=&CL=ENG.


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GunboatsandVultures

19

whichwrotemostofitsstipulationsintoAmericanlaw.63 TheFSIAwaivedsovereignimmunityinnine

situations:(1)waiver;(2)commercialactivity;(3)expropriation;(4)propertyintheUnitedStates;(5)

tortinjuryoccurringintheUnitedStates;(6)arbitration;(7)torture,extrajudicialkilling,sabotage,or

kidnapping;(8)enforcementofamaritimelien;and(9)foreclosureofamaritimemortgage.64 Britain

adoptedEuropeanConventionwiththeStateImmunityActof1978,andby1990Australia,Canada,

Germany,Luxembourg,Pakistan,Singapore,SouthAfrica,andSwitzerland,hadeitheradoptedtheEu

ropeanConventionorpassedsimilarlawsembodyingitsprecepts.

TheFSIAdidnotmentionsovereigndebt,butU.S.courtseventuallybroughtitunderthepurviewof

thelaw. AlliedBankbecamethefirstcreditortousetheFSIAtosueasovereignin1982,whenCosta

Ricadefaultedonthedebtitoweda39bankconsortiumtowhichAlliedbelonged. CostaRicaargued

thattheinternaldecresspreventingpaymentsqualifiedasactsofstate,andthereforecouldnotbechal

lenged

in

a

foreign

court.

The

courts

found

for

Allied

in

1985,

but

the

U.S.

government

pressured

the

bankintosettlingonthesametermsastheother38creditors.65 Thenextyear,in1986,Argentinas

centralbankdefaultedonaseriesofdollardenominatedbondsthatithadissuedin1982torefinance

existingdebts. TwoPanamaniancorporationsandaSwissbanksuedinNewYork. In1992,theU.S.Su

premeCourtdecidedruledintheirfavorinWeltoverv.RepublicofArgentina: sovereignbondissuesin

theUnitedStatesqualifiedascommercialactivities,andstateimmunitydidnotautomaticallyapply.66

Weltoverusheredintheageofmodernvulturing. In1992,theDartfamilyacquireddefaultedBrazil

ianpublicdebtwithafacevalueof$1.4billionatasteepdiscount.TheDartsrejectedaBrazilianofferto

restructurethedebtundertheBradyPlan. Rather,theysued. InMay1995,aNewYorkcourtsided

withtheDarts. Thenextyear,Brazilsettled,payingtheDarts$77millioninpastdueinterest. TheDarts

thensoldthedebtfor$1.1billion;lessthanthefacevalueofthedebt,butmorethanthatreceivedby

theparticipantsintheBradyrestructuring. TheDartcaseconfirmedthevulturesrighttolitigateonthe

basisofaclaimacquiredinthesecondarymarket. Italsoconfirmedthatvulturefundsdidnotviolate

Section489oftheNewYorkJudiciaryLaw,whichostensiblyprohibitedthepurchaseofaclaimwiththe

expresspurposeofbringingalawsuit,adoctrinecalledchamperty. TheDartssuccessfullyarguedthat

theyhadpurchasedthedebtwiththeintentionofreceivinginterest,notofbringingalawsuit.67

63AkeyfeatureoftheFISAisthatitpermitscountriestowaivesovereignimmunityinmanycommercialtransactions.Mostdeveloping

countrygovernmentdebtcontractsafter1976havecontainedexplicitwaiversofsovereignimmunity.]ORp.35364

TomMcNamara,APrimeronForeignSovereignImmunity,DavisGraham&StubbsLLP,March8,2006 Colorado,USA.65

SturzeneggerandZettlemeyer, DebtDefaultsandLessonsfromaDecadeofCrises,p.65.66

RepublicofArgentinav.Weltover,Inc.,504U.S.607(1992).67

SturzeneggerandZettlemeyer, DebtDefaultsandLessonsfromaDecadeofCrises,p.69.


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GunboatsandVultures

20

Thecourtsenforceddecisionsinfavorofthevulturesbyattachingassetsorflowsoffundsthat

passedthroughtheirjurisdictions. In1997,forexample,ElliottAssociatessuccessfullysuedPanamafor

thefullfacevalueof$70millionofdefaulteddebt,forwhichithadpaid$17.5million. WhenPanama

balkedatpaying,ajudgeattachedtheproceedsfroma$232millionsaleofthecountrystelecomscom

panytoCableandWirelessPLC. Twoyearslater,in1999,Elliottobtainedaprejudgmentattachment

orderagainstPeruviancommercialassetsintheUnitedStates. Itlaterreceiveda$57millionjudgment

initsfavor. PerudidnothavemanycommercialassetswithintheUnitedStates,butaBrusselsappeal

courtagreedtoattachinterestpaymentsonPerusBradybonds. Ratherthandefaultonitsentirestock

ofBradybonds,thePeruviangovernmentpaidElliott$63.5million.68

Thevulturessuccessengenderedstrongopposition. Thestrongestcameonhumanitariangrounds.

LianaCisneros,headoftheLatinAmericanCampaignofJubilee2000anactivistorganizationthat

sought

to

convince

leaders

of

G

7

countries

to

forgive

the

debt

of

the

worlds

poorest

countries

ar

gued: Thesepeoplearetradinginhumanmisery.ElliottAssociates,L.P.,arepickingoverthebonesof

thePeruvianeconomylikeapackofvultures.Itmaybejustbusinesstothem,buttothePeruviansit

representsschoolbooks,medicine,andcleanwater.TheU.S.Treasurymustinvestigatethiscaseasa

matterofurgencyandtakeimmediatestepstostopthesescandalouspractices. GordonBrownand

othermajorWesternpoliticiansagreed.

Moresurprisingly,perhaps,theIMFalsoagreedthatthevultureswerepernicious,albeitforadif

ferentreason. AnneKruegerdenouncedElliottdirectly. Themorerecentsuccessofanaggressivelegal

strategyemployedagainstPerubyavulturecompanycalledElliottAssociatesunderlinesthepowerthat

holdoutcreditorsretain. Thethreatofdisruptionremainslikelytodetercountriesfromseekingane

cessaryrestructuringforlongerthanisdesirableeitherforthecountryitselforfortheinternational

community....ItisnotclearifElliottsstrategywouldsurvivelegalchallengeinfuturecases.Butthis

caseandthepossibilitythatroguecreditorswillopenotherlegalavenuesshinesaspotlighton

whatisamissingelementintheinternationalcommunityscurrentapproachtotherolesofthepublic

andprivatesectorsindebtrestructuring. Shefearedthatthevulturesmightprovokecreditorruns,

inwhichindividualcreditorswoulddeclinetoparticipateinrestructuringanunsustainablesovereign

debtburdeninthehopethattheycouldgetthecourtstoattachpaymentsaheadofothercreditors. In

extremis,suchcreditorrunscouldprovoketheverydefaultthatthecreditorshopedtoavoid,andwind

upwithfewerresourcesforeveryone.69

68Alfaro,p.9.

69Barnett,Galvis,andGouriage1984.


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GunboatsandVultures

21

Absentinthisdebate,however,isonekeyquestion: doesvulturingwork? Ournullhypothesisis

thatvulturesareperceivedbyinvestorstobeineffective,certainlycomparedtodollardiplomacy. In

otherwords,ournullhypothesisisthatthereisnovultureregimeinthewaythattherewasadollardip

lomacyregime. Inthenextsectionwetestthishypothesis.

EmpiricalAnalysis

OurdatasetonemergingmarketsovereignbondsaredrawnfromJ.P.MorganandconsistsofU.S.

dollardenominateddailytradedEMBI(EmergingMarketsBondIndex)plusbondyields. EMBIspreads

arethemostcloselywatchedindicatorsofemergingmarketsbymarketparticipantsandhavebeen

widelyusedbyresearchersinpreviouswork(e.g.,Mauroetal,2002).70 EMBIdataisavailablefora

largenumberofemergingmarketsinAsia,Africa,Europe,andLatinAmericabutforcomparabilityto

our

historic

gunboats

analysis

we

look

at

bond

spreads

from

Latin

American

countries.

We

examine

the

availablespreadsfromDecember1993untilMay2007forBrazil,Colombia,Ecuador,Mexico,Panama,

Peru,andVenezuela.71

Perhapsoneofthemostchallengingfeaturesinascertainingtheeconomiceffectsfromvulturing

activityiscorrectlyidentifyingtheappropriateeventdates. Thereisnocentraldatabasedocumenting

thelegalhistoryofvultureactivity. Oneofthemostwidelyciteddocumentsintheliteraturecontaining

alistofrecentvulturecasesisbySingh(2003). However,uponverificationofthedateslistedinthat

paperwediscoveredthatmanyofthemwereincorrect. Infact,manyofthemwerenotevencasesin

volvingvulturing,althoughthedocumentwasusefulinidentifyingtheactorsinsomeofthemajorvul

turelegaldisputes.

Wecompiledourownoriginaldatasetofcasefilingandsettlementdates,andifavailabledatesof

attachment. WeusedtheJuryVerdicts,Settlements&JudgmentdirectoryintheLexisNexisResearch

Software7.2databaseandreadthroughtherelevantcasehistoriestodiscernthecasedates. Unfortu

nately,thisdatabasedidnotcontainalltherelevantdates. WethereforesearchedthroughtheWes

tlawdatabaseandnewspaperandlawjournalarticlestoidentifytheremainingcasedates.72 Wewere

abletoidentifyandverifythefilingandsettlement/attachmentdatesyear,month,anddayforfive

LatinAmericanvulturecases(i.e.,atotalof10events,listedinthetopofTable8),thusourresults

70Mauro,Mauro,NathanSussmanandYishayYafeh. 2002. EmergingMarketSpreads: ThenVersusNow. TheQuarterlyJournalofEconom

ics,May:695733.71

Notallofthesecountrieshavetraded/issuedEMBIbondssinceDecember1994. TableYYliststhedatacoverageforoursetofSouthAmeri

cancountries.72

Wewereabletoidentify(andconfirm)mostofourdatesintheWallStreetJournalandtheNewYorkTimes.


22/32

GunboatsandVultures

22

shouldbetakenasverypreliminary.73 Inmostinstances,thedateofattachmentcoincideswiththeset

tlementdate. Webelievethesefivecasesareagoodfirstpassinevaluatingtheimpactofvulturelaw

suitsoninvestorperceptionsintheLatinAmericanEMBImarketastheyhavebeenthemostwidelydo

cumentedvulturecasesintheexistingliteratureandhavereceivedthemostpublicmediaattention

(Singh,2003;SturzeneggerandZettelmeyer,2007). Moreover,theamountsuedhasnotbeentrivial

theDartfamily,forexample,suedArgentinaforover$750million.

TABLE8AROUNDHERE

WeidentifiedthePeruviancasetobethefirstone. Wasthecourts1996decisioninPravinv.Peru

themodernequivalentofTeddyRooseveltsdecisiontotakeoverthefinancesoftheDominicanRepub

lic? WeknowthattheRooseveltCorollaryproducedahugeandlonglastingchangeinperceivedrisk

fromholdingthesovereigndebtoftheCircumCaribbeancountries. DidthesamethinghappentoLatin

AmericancountrieswhenElliotttriedtoinaugurateakinderandgentlerdebtenforcementregime? The

answerseemstobeno.

FIGURE2AROUNDHERE

Table10,PanelApresentsourmainresults.Inallthespecifications,ourdependentvariableisthe

dailyvalueoftheEMBIplusspreadforeachcountrymeasuredinpercentageunits. AswehaveEMBI

spreadsatthedailyfrequency,weredefinetherelevantepisodewindowsas4weeks,2weeks,1week,

and1dayafterthedateofvulturingactivity. Inthiscontext,definingsmallereventepisodesallowsus

tobetterpinpointthemarketeffectifanyofvulturingactivity.74 Ourregressionsexcludeobserva

tionsfortheintervenedcountryepisodesfortherelevanteventwindow,thuswearecapturingthe

spillovereffectsintheLatinAmericanEMBImarketfollowingvulturingactivity.AsseeninTable9,Panel

A,aneventstudyanalysisoftheeffectofthePeruattachmenthadanegativebutnotsignificanteffect.

TABLE9AROUNDHERE

AskepticalreadermayarguethatthisparticularPerucasedidnotcreatearegime,butperhapsthe

cumulativeeffectoflatersuccessfulattachmentscreatedaregime. Henceweanalyzedthemarketper

ceptionofthedifferentsuccessfulattachments(knowntoustodate)andfoundaveryweakresult. As

seeninTable9,PanelB,wefindanegativeeffect,buttheresultsarenotsignificantatconventionalle

vels.

73 Narrowingdowntheactualdayoffilingandsettlementprovedespeciallytedious. Mostoftheexistingliteraturelistsatmosttheyearand

monthoffilingandsettlement. Thecurrentversionofthepaperhasthecasesforwhichwecouldverifyinformation.74

Asarobustnesscheck,wealsoestimatedourregressionsusingtheaveragemonthlyEMBIspreadfor1,3,6,and12monthwindowsandfind

verylittleeffectofvulturingactivity(thecoefficientsignsarepositive,butnotstatisticallysignificant). Theresultswithlongerwindowsare

consistentwiththeresultsreportedinthetext.


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GunboatsandVultures

23

Anevenmoreskepticalreadermightarguethatitmightbethecasethatinformationwasrevealed

beforetheactualattachmentdate.75Thatistosay,perhapsinvestorscouldidentifywhichvulturecases

weregoingtoobtainfavorablerulingsbeforetherulingsweremade. Inthatcase,therelevantevent

datewouldnotbethedatethejudgeruledinfavorofattachment,butthedatewhenthecasewasfiled.

IftheIMFiscorrectandinvestorsfearedthatsuccessfulvulturingwouldreducetheirchanceofobtain

ingasettlementwiththesovereign,thenthevalueofthedebtshoulddecreaseatthedateoffiling,and

theEMBIshouldcorrespondinglyincrease. Ontheotherhand,ifthevultureswererecreatingadollar

diplomacyregime,thenonewouldexpectthevalueofdebttoincrease,andtheEMBItofall.

InTable9,PanelC, wereporttheresultsoftestingtheeffectsontheEMBIspreadforLatinAmeri

cancountriesusingthefilingdateofcasesthateventuallyresultedinsuccessfulattachments. Weare

abletoteaseout,onaverage,aonepercentagepointdropintheEMBIspread. Theresultissignificant

at

ten

percent

when

we

open

the

window

to

one

week

up

to

4

weeks,

but

small

in

magnitude.

Table

10

considerstheshortrundynamics. Wefindasmallandstatisticallysignificantdropinspreadsfollowing

theevent,buttheeffectdoesnotseemtobelonglasting. VulturinginLatinAmericaproducedatbesta

shortlivedandrelativelysmallreductiononLatinAmericanEMBIspreads.

Didother,unsuccessfulattachmentsproduceasimilarriseinthepricesofLatinAmericansovereign

debt? Thatis,doourpreviousfindingsholdonlyforcasesthatsucceeded,oraretheytrueforcases

thatfailedorhavenotyetmaterialized? Wehavenotsofarobtainedthefulluniverseofvulturefilings,

butwehaveobtainedthedatesforvariouslitigationcasesincludingtheArgentinecasesthatoutside

observersbelieveareunlikelytosucceed,andwedonotfindasignificanteffect.

CONCLUSION

Ourevidencesuggeststhattheremaybeavultureregime,butitisveryweakatbestcomparedto

thedollardiplomacyoftheearly20th. Tosomeextent,thisresultshouldnotbesurprising. Repre

sentativeMassanotwithstanding,theactivitiesofthevulturefundshavereceivedlittlesupportfrom

governmentsintherichworld. Belgium,forexample,altereditslawafterElliottsucceededinattaching

Peruvian

payments

that

passed

through

the

Euroclear

system.

The

World

Bank

has

also

strongly

come

outagainstthevultures,declaringonMay31,2007,Wecallonallofficialandcommercialcreditorsto

providetheirshareofdebtrelieftoHIPC{HighIndebtedPoorCountries]countriesandtoavoidselling

75Ofcourse,onedrawbackofthetraditionaleventstudymethodologyistheincapabilitytodetecttheimpactwhentheevendateisuncertain

(orinformationprotractsforalongperiod).


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GunboatsandVultures

24

theirclaimsonHIPCcountriestoothercreditorswhodonotintendtoprovidedebtrelief.76 TheParis

Clubgroupofcreditorgovernmentsfollowedsuit.77 EvenundertheBushAdministration,aTrea

suryspokespersonstated,Secretary[Henry]Paulsonhassaidthathedeploreswhatvulture

fundsaredoing,andthedepartmentfiledamicusbriefsinseveralsuitswherethefundscould

undermineIMFpolicy.78In2009,MaxineWaters(DCalifornia)introducedtheStopVulture

FundsAct,whichwouldbananyonefromsuingpoorcountriesinU.S.courtsformorethenthe

purchasepriceofthedebtplus6%ayearinterest.79

OnFebruary26,2010,theU.K.parliament

bannedvulturelawsuitsatthebehestoftheLiberiangovernment.80

Ifonebelievesthatacrediblesanctionregimewouldbedesirablefordevelopingcountries,then

thecurrentlegalframeworkneedstobeconsiderablytightened. Ontheotherhand,ifonebelievesthat

thevultureshaveoverallnegativeconsequences,thenourresultsimplythatthisfearismisplaced.

Thereisnoevidenceofarunforthecourthouse;noristhereevidencethatvulturingsystematically

increasestheperceivedriskofholdingLatinAmericansovereigndebt. Inshort,wesawacredibledebt

enforcementregimeintheearly20thcentury.81 Intheory,thefeaturesofthisregimeshouldberepli

cableintheearly21stusingalegalframeworkandwithoutrecoursetotheMarines. Therearefew

practicalreasonwhyvirtualblockadescannotbeaseffective(andlesscostly)thanrealones. In

practice,however,wehavenotreplicatedthisregime,andwithoutanexplicitpoliticaldecisiontodoso,

thereisnosignofsucharegimespontaneouslyemergingasaresultofjudicialaction.

76WorldBanktoIncreaseSupporttoCurbVultureFundActions,PressReleaseNo:2007/415/PREM,http://go.worldbank.org/J2FE06IQI0.

77

Press

release

of

the

Paris

Club

on

the

threats

posed

by

some

litigating

creditors

to

heavily

indebted

poor

countries,

May

22,

2007.

PR_Paris_Club_Lit___HIPCmay2007.PDF.78

http://thehill.com/leadingthenews/vulturefundstargeted20071101.html.79

AshleySeager,USbillwouldoutlawvulturefunds,TheGuardian,19June2009.Availableat

http://www.guardian.co.uk/business/2009/jun/19/usoutlawvulturefunds.80

BBCWorldNewsAmericaSpecialReport,BroadcastMarch,2,2010.Availableathttp://www.gregpalast.com/bbconthehuntforan

americanvultureattackingliberia,accessedonMarch31,2010.81

Moregenerally,thethreatoflitigationandattachmentorthelackoforderlydebtworkoutscouldbeanimportantincentivefordebtrepay

ment.AsDooley(2000)andRogoff(2003)note,ifprivatefinancialarrangementsdependonthethreatofcostlydefaultsandoutputlosses,

mechanismsthatallowforswiftresolutionsmayreduceinternationallending,becausesuchproposalsmightweakentheconfidenceofinterna

tionalinvestorsandtheincentivesthatmakeinternationaldebtpossible.Dooley,Michael.(2000).CanOutputLossesFollowingInternational

FinancialCrisesbeAvoided?NBERWorkingPaperW7531.


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GunboatsandVultures

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Table1:SummaryofSpread(byCountry),19001929

Country Mean Std.Dev. Freq.

Argentina 1.59 0.98 352

Brazil 2.67 1.12 352

Chile 1.33 0.83 352

Colombia 0.10 2.85 352CostaRica 3.87 3.06 352

Cuba 0.89 0.79 292

ElSalvador 4.23 1.91 250

Guatemala 7.59 5.15 352

Honduras 6.39 3.69 352

Mexico 3.79 2.65 352

Nicaragua 3.28 1.11 352

Paraguay 5.30 4.34 352

Peru 1.68 0.55 203

Uruguay

1.73

1.16

352Venezuela 2.15 2.76 352

All 3.15 3.37 4969

Table2:TheEffectsoftheDeclarationoftheRooseveltCorollary,May1904,allLatinAmerica

Dependentvariable: Spread(Percent)

LatinCountries 1month 3months 6months 12months

Corollary 0.48 0.07 0.69 0.20

[0.30]

[0.11]

[0.31]**

[0.11]*

No.obs 4969 4969 4969 4969

Rsq 0.52 0.52 0.52 0.52

Countrydummies Y Y Y Y

Yeardummies Y Y Y Y

Robuststandarderrors,clusteredbycountry.*significantat10%;**signif.at5%;***

signif.at1%.Macrovariablesare: oneyearlaggedexportgrowth,oneyearlaggedCPI(%

annual)


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GunboatsandVultures

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Table3:TheEffectoftheDeclarationoftheRooseveltCorollary,May1904,

AllLatinAmericancountries,pre,during,andpostDeclaration

Dependentvariable: Spread(Percent)

LatinCountries 1month 3months 6months 12months

Pre

Corollary

1.09

1.43

1.11

0.88

[0.50]** [0.65]** [0.58]* [0.44]*

Corollary 0.74 1.11 1.03 1.01

[0.41]* [0.57]* [0.58]* [0.58]

PostCorollary 0.45 0.44 0.06 0.15

[0.30] [0.26] [0.15] [0.20]

No.obs 4969 4969 4969 4969

Rsq 0.52 0.52 0.52 0.52

Country

dummies

Y

Y

Y

Y

Yeardummies Y Y Y Y

Robuststandarderrors,clusteredbycountry.*significantat10%;**signif.

at5%;***signif.at1%.

Table4:SelectedU.S.interventionsinLatinAmericancountries(19001929)

Date: Event:

February,1904 U.S.bombardDomRep.

September,

1906

U.S.

takes

control

of

Cuba

April,1907 U.S.marineslandinHonduras

June,1912 U.S.gunboatsdispatchedtoCuba

August,1912 U.S.marineslandinNicaragua

January,1914 U.S.beginperiodlandingsinHaititoprotectUSproperty

April,1914 U.S.occupiesVeracruz,Mexico

August,1915 U.S.marinesoccupyHaiti

May,1916 U.S.bombardsSantoDomingo,DomRep.

March,1917 U.S.marineslandinCubatoprotectU.S.propertyowners

August,1921

U.S.marinesinterveneontheborderbetweenPanama&

CostaRica

December,1926 U.S.marineslandinNicaragua


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GunboatsandVultures

27

Table5:Gunboats(SpilloverEffects)

Dependentvariable: Spread(1MonthWindow)

LatinCountries (1) (2)

Episode 0.15 0.14

[0.05]** [0.05]**

No.obs 4953 4953

Rsq 0.52 0.69

Countrydummies Y Y

Perioddummies Y Y

PeriodTrend*Country dummies N Y

Robuststandarderrors,clusteredbycountry.*significantat10%;**

signif.at5%;***signif.at1%

Table6:Gunboats,CaribbeanCountries(SpilloverEffects),Pre,During,andPostInvasion

Dependentvariable: Spread(1MonthWindow)

CaribbeanCountries (1) (2)

PreInvasion 0.006 0.001

[0.04] [0.05]

Invasion 0.13 0.13

[0.07]* [0.07]

PostInvasion 0.19 0.19

[0.08]** [0.08]**

No.obs 2982 2982

Rsq 0.53 0.73

Countrydummies Y Y

Perioddummies Y Y


Robuststandarderrors,clusteredbycountry.*significant

at10%;**signif.at5%;***signif.at1%


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GunboatsandVultures

28

Table7:Gunboats,CaribbeanCountries(SpilloverEffects)

Dependentvariable: Spread

(1) (2)

T3 0.02 0.01

[0.02] [0.03]

T2 0.00 0.00

[0.02] [0.01]

T1 0.04 0.04

[0.04] [0.04]

T 0.008 0.02

[0.02] [0.02]

T+1 0.04 0.05

[0.02]* [0.02]**

T+2 0.05 0.06

[0.03]* [0.03]*

T+3 0.04 0.05

[0.02] [0.02]**

T+12 0.02 0.02

[0.02] [0.02]

No.obs 2639 2639

R

sq

0.51

0.8

Countrydummies Y Y

Perioddummies Y Y


Robuststandarderrors,clusteredbycountry.*significantat10%;**signif.at5%;***signif.at1%


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GunboatsandVultures

29

Table8:

Case:Creditorvs.Debtor Casefiled

Summary

judgment

SUCCESSFULATTACHMENT:

Pravinvs.Peru 1Feb93 19Jan96

CBICvs.Brazil 29Jun94 16Mar96

Elliotvs.Panama 15Jul96 16May97

Elliotvs.Peru 8Oct96 29Sep00

Dartvs.Argentina 10Apr03 12Sep03

SETTLEMENT,NOATTACHMENT:

LNCInvestmentsvs.Nicaragua 21Aug96 2Apr99

GPHemispherevs.Nicaragua 22Jul97 30Oct98

Urbanvs.Argentina 20Nov02 9Mar06

Lightwatervs.Argentina 6May02 14Apr03

OldCastlevs.Argentina 6May02 14Apr03

MacrotecnicIntlCorpvs.Argentina 18Jun02 14Apr03

Fontanavs.Argentina 29Oct03 24May04

Latinburgvs.Argentina 29Oct03 24May04

NMLvs.Argentina 7Nov03 10May06

Sources: Courtbriefings(identifiedusingLexisNexisLegal),newspa

perarticles(throughFactiva),Singh(2003),andSturzeneggerandZet

telmeyer(2006).Note: mostoftheArgentinecases,saveDart,were

settled. Onlythefirstfivecasesresultedinattachments.


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GunboatsandVultures

30

Table9:Vulturing,LatinCountries(SpilloverEffects)

Dependentvariable: EMBI

Day 1week 2weeks 4weeks

PanelA

RegimeChange 0.73 1.28 1.26 1.15

[1.23] [0.92] [0.93] [0.99]

No.obs 24087 24082 24077 24067

R2 0.54 0.54 0.54 0.54

PanelB

AllAttachments 0.99 0.70 0.64 0.63

[0.60] [0.57] [0.38] [0.45]

No.obs 24085 24070 24055 24025

R2 0.54 0.53 0.53 0.53

PanelC

SuccessfulFilling 0.981 0.907 0.87 0.84

[0.57] [0.41]* [0.39]** [0.44]*

No.obs 24087 24082 24077 24067

R2 0.54 0.53 0.53 0.53

Robuststandarderrors,clusteredbycountry.significantat20%;*signif.at10%;**signif.at

5%;***signif.at1%.Resultsincludecountry,time,country*timedummies,.RegimeChange

referstotheattachmentofthePerucase;Allattachmentsreferstoallsuccessfulattachments;

Successfulfilingsreferstothefilingoflawsuitsthatresultinsuccessfulattachments.SeeTable

9foracompletelistofcases.


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GunboatsandVultures

31

Table10:Vultures,SuccessfulFilling,(SpilloverEffects)

WeeksBeforeandAftertheEvent

Dependentvariable: EMBI

LatinCountries EMBI(Percent)

T3 0.38

[0.37]

T2 0.27

[0.20]

T1 0.099

[0.13]

T 1.05

[0.55]*

T+1 0.56

[0.39]

T+2 0.49

[0.40]

T+3 0.38

[0.45]

T+4 0.53

[0.48]

No.obs 24087

R2 0.54

Robust

standard

errors,

clustered

by

country.

significant

at

20%;

*

signif.

at

10%;**

signif.

at

5%;***signif.at1%.Resultsincludecountry,time,country*timedummies,controls.


32/32

GunboatsandVultures

Figure1: AverageMonthlySpreadsforAllCountries,CaribbeanCountries,BaselineCountries

(Argentina,BrazilandChile)andandInterventiondates

Figure2:AveragedailyEMBIforLatincountriesanddecisiondates

0.00

1.00

2.00

3.00

4.00

5.00

6.00

7.00

8.00

9.00

10.00

1900 1902 1904 1906 1908 1910 1912 1914 1916 1918 1920 1922 1924 1926 1928

Average Spread, ABC Countries

Average Spread, All Countries

Average Spread, Circum-Caribbean Countries

Spread (Percent)

Feb 1904

Sept 1906

April 1907

June 1912

Aug 1912

Jan 1914

Aug 1915

May 1916

Mar 1917

Aug 1921

Dec 1926

Average Daily Latin America EMBI-plus

0

5

10

15

20

25

12/31/1993 12/31/1994 12/31/1995 12/31/1996 12/31/1997 12/31/1998 12/31/1999 12/31/2000 12/31/2001 12/31/2002 12/31/2003 12/31/2004 12/31/2005 12/31/2006

Percent

6/29/94

1/16/96

3/16/96

7/15/96

5/16/97

10/8/96

9/29/00

4/10/03

9/12/03

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