What is default in economics?

Default means that the borrower does not comply with a clause in a loan contract. In general, the term is used when the debtor does not pay his debt correctly, because he does not want to or because he cannot.

The term default is generally used in its English version to designate a moratorium, that is, the act of a country that suspends the payment of its external debt, normally assumed in the form of Treasury bills.

Since it is closely related to non-payment, non-compliance is usually translated into Portuguese as “non-compliance”. In the case of a country moratorium, the default is also often referred to as “sovereign default.”

The meaning of default covers not only the non-payment of the debt, but also any unilateral change in the terms of the contract, that is, not negotiated with the creditor, in relation to the terms or interests established in the contract.

Why does a country declare non-compliance?

An uncontrolled increase in loans by a country can lead to an unsustainable expansion of its external debt. If the debt gets out of control, the country may be left without sufficient resources to meet its financial obligations.

Another factor that can lead to default is political instability, with the outbreak of war or revolution, for example.

Debt restructuring

Faced with a default or a threat of default, creditors can accept a restructuring of the country’s sovereign debt. This means renegotiating it, reducing its value or granting better payment conditions, reducing interest rates or increasing the term. Often, the creditor has no alternative, as he is required to accept the agreement to recover at least part of the money from the debt.

Consequences for the country declaring non-compliance

  • Greater difficulty in launching new government bonds and obtaining loans.
  • Worsening of the risk rating note, leading to an increase in interest on the loans.
  • The greatest difficulty in obtaining financing may jeopardize the country’s growth.
  • The country may be weakened by its credibility, driving investors away

Default examples

Greece

In 2012, due to the European crisis, Greece did not pay US $ 138 billion in debt, which is considered the largest default in history. After the rape, Greece was rescued by European countries. However, in 2015, the country did not pay a debt of 1.6 billion euros with the IMF (International Monetary Fund) and re-entered a moratorium.

Argentina

In 2001, the Latin American country was unable to pay a debt of US $ 95 billion, due to its economic crisis. After much negotiation, the debt was only restructured in 2005, in an agreement that forced creditors to agree to receive only about 30% of what was owed to them. The country’s credibility was tarnished after the episode.

Iceland

After the 2008 financial crisis, the population of this European island decided, in a referendum in 2010, not to pay a debt of 3.8 billion euros with the United Kingdom and the Netherlands. The debt was related to the compensation these countries had given to investors affected by the bankruptcy of an Icelandic bank. The strong recovery of the Icelandic economy in the following years is often used by social movements to defend debt restructuring as a more efficient alternative to economic recovery than the austerity plans imposed to rescue the countries that enter into breach.