The Political Economy of Private Debt Governance Today

Private debt governance is a crucial aspect of regulating credit markets, especially in the Global South. Since the 1980s, increasing financialization worldwide has given rise to unprecedented levels of private debt (Pettifor 2017, 2020).

Much of the existing work rather narrowly focuses on the relationship between lenders and borrowers to explain how private debt is governed. Among other factors, lenders pay attention to 1) past borrowing behavior, 2) estimated ability to repay the loan on or before the maturity date and 3) risk of force majeure events (Hand and Henley 1997, Abdou and Pointon 2011) while borrowers pay attention to 1) terms of interest rate, 2) the type of currency they borrow in and 3) the maturity of the loan (Wonder et al. 2008). When assessing their individual borrowers in case of a bank loan, lenders may either make an independent assessment, or collaborate with private or public credit rating agencies to assess past borrowing behavior and estimate the ability of the borrowers to repay their loans. Firms may be subject to closer scrutiny and the lenders may either 1) resort to public agencies to collect information about firm’s financials or 2) demand greater transparency regarding the balance sheet and future investment plans.

In addition, borrowers and lenders are also assumed to be attentive to their ability to renegotiate as allowed under the legal framework. These agreements may be formal (written agreements enforced by courts) and/or informal (written or unwritten agreements that are not enforced by courts), depending on the location of these exchanges. In addition to bank loans and syndicated loans, corporate bonds are another debt instrument used by firms to finance their operations (Altunbas et al. 2010).

However, this is often available to large firms that exhibit some level of transparency regarding their financials. The issuing of corporate bonds usually involves international banks (as underwriters) and courts (as enforcers). Investors who put their money in these firms by buying their bonds are highly numerous and dispersed. Bonds can also be traded in secondary markets, which adds another layer of complexity to the governance of this debt instrument. In advanced industrialized countries, bank loans may also be securitized and traded in derivative markets.

In emerging markets, governance of these relations involves a complex set of actors and institutions that exhibit a lot of variation. The terms of these borrowing and lending arrangements can be subject to change not only by private or public actors but also the state. In that sense, the governance of private debt is a political process that effectively regulates the terms and conditions for access to credit and repayment of the loans. This is of critical importance since market crises happen more frequently, which may affect borrowers and lenders adversely in the Global South. Under these circumstances, the terms and conditions of loan access, restructuring and debt collection turn out to be important issues that politicians care about.

Importantly, debt restructuring is often governed by taking political considerations into account (Pepinsky 2009). This is because modern debt regimes require social blocs—that is, a social alliance that favors the incumbent (Amable and Palombarini 2023)—that support them: the strength and cohesiveness of these coalitions influence the durability of institutions that emerge out of these exchanges and interactions. The decision of the incumbent to intervene directly or indirectly is influenced by the composition of private debt under distress, and whether the incumbent has monetary policy tools under its direct control. In that sense, the broader political environment matters. Even when monetary policy powers are transferred to independent central banks, the executive is more likely to intervene when the social bloc that supports the incumbent expects a favorable resolution of their financial troubles following a major crisis (Chwieroth and Walter 2022).

References:

Abdou, H. A., & Pointon, J. (2011). Credit scoring, statistical techniques and evaluation criteria: a review of the literature. Intelligent systems in accounting, finance and management, 18(2-3), 59-88.

Altunbaş, Y., Kara, A., & Marqués-Ibáñez, D. (2010). Large debt financing: syndicated loans versus corporate bonds. The European Journal of Finance, 16(5), 437-458.

Amable, B., & Palombarini, S. (2023). Multidimensional social conflict and institutional change. New Political Economy, 1-16.

Chwieroth, J. M., & Walter, A. (2022). Neoliberalism and banking crisis bailouts: Distant enemies or warring neighbors?. Public Administration, 100(3), 600-615.

Hand, D. J., & Henley, W. E. (1997). Statistical classification methods in consumer credit scoring: a review. Journal of the royal statistical society: series a (statistics in society), 160(3), 523-541.

Pepinsky, T. B. (2009). Economic crises and the breakdown of authoritarian regimes: Indonesia and Malaysia in comparative perspective. Cambridge University Press.

Pettifor, A. (2017). The Production of Money: how to break the power of bankers. Verso Books.

Pettifor, A. (2020). The Case for the Green New Deal. Verso Books.

Wonder, N., Wilhelm, W., & Fewings, D. (2008). The financial rationality of consumer loan choices: Revealed preferences concerning interest rates, down payments, contract length, and rebates. Journal of Consumer Affairs, 42(2), 243-270.