Sovereign Debt Auctions with Strategic Interactions

In this paper, we build a model of sovereign borrowing and default, disciplined with proprietary bid level data, to study the impact that alternative ways of issuing sovereign debt have on borrowing decisions, the cost of debt, and welfare. We focus on the two most common types of auctions used for sovereign debt issuances: uniform and discriminatory price auctions. We calibrate the model to the Portuguese economy and find that the type of auction used has quantitative implications. In particular, discriminatory auctions generate spreads that provide a better fit to the data. In a counterfactual, we find that switching to a uniform protocol constitutes a Pareto improvement, and that the difference in welfare is highest during crises (0.6 percent of permanent consumption). Finally, we find that accounting for dynamic effects is crucial. In a single auction setting, a risk averse government prefers the discriminatory protocol. However, with repeated auctions, the properties of the discriminatory protocol incentivize over-borrowing. The anticipatory effect it has on prices makes the uniform protocol a better option.