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This book analyzes the relative balance of bargaining power between governments and the banks in charge of underwriting their debt during the first financial globalization. Brazil and Mexico, both indebted countries that underwent major changes in reputation and negotiating power as they faced financial crises, provide valuable case studies of government strategies for obtaining the best possible outcomes. Previous literature has focused on bankers’ perspectives and emphasized that debtors were submissive during negotiations, but Weller finds that governments’ negotiating power varied over time. He presents a new analytical framework that interprets when and why officials were likely to negotiate loans more or less effectively, with newly uncovered primary sources from debtors’ and creditors’ archives suggesting key causes of variation: fiscal accounts, political stability, and creditors’ exposure and reputation.

Inhaltsverzeichnis

Frontmatter

Governments versus Bankers

Frontmatter

Chapter 1. Introduction

Abstract
The relations between governments and banks were at the very core of the sovereign debt market of the first financial globalisation, which lasted from the 1870s to the outbreak of the First World War. The public associated the governments with the banks in charge of underwriting their debt and vice versa. Defaults imposed penalties on both players: it restricted the former’s credit and downgraded the latter in the hierarchical debt underwriting market. This book addresses the complex relations between banks and governments through the contrasting cases of Brazil and Mexico. The Brazilian government handed a monopoly on its debt to the prestigious London Rothschilds, while the government of Mexico never issued two loans with the same group of underwriters. Rothschilds’ status depended on Brazil’s commitment to debt payments, which allowed the government to pressure for cheap rescue loans during the crises that hit the country in the 1890s and 1910s. Mexico bargained with many banks to improve borrowing terms, but it failed to access cheap credit during the debt crisis that followed the 1910s Revolution.
Leonardo Weller

Chapter 2. Governments versus Bankers in the Pre-1914 Sovereign Debt Market

Abstract
Most of the literature on sovereign debt focuses on the supply side of the market—the banks that underwrite loans and the final creditors that hold bonds—and assumed that governments were passive when negotiating borrowing conditions. This chapter addresses the role of governments as independent decision-makers. Governments decided whether to grant exclusivity to a single patron bank or to negotiate with competing banks to reduce borrowing costs. Both options entailed positive and negative payoffs. Patron banks could raise the governments’ reputation and create business connections. Exclusivity also increased the chances that banks would grant cheap rescue loan in times of crisis to prevent their clients from defaulting. By agreeing on exclusivity, however, governments would not bargain for better deals with other underwriters. The outcomes of lending negotiations depended on the relative power of governments and banks. Both players were strong when they counted with good reputation among the public. Yet premier banks became weak when they were exposed to governments that faced debt crises, for these troubled clients could threaten to default to pressure for the issuing of rescue loans.
Leonardo Weller

Brazil versus Rothschilds

Frontmatter

Chapter 3. Rothschilds’ Tropical Empire: Brazil, 1822–1889

Abstract
Brazil’s sovereign debt was a matter of Rothschilds’ par excellence. The bank underwrote two loans in the 1820s, shortly after the country’s independence from Portugal. In the 1850s, the government appointed the bank as its financial agent in Europe, a role that included a debt underwriting monopoly that lasted until 1908. Brazil would not have been able to borrow to the extent and at the rate it did had it not been associated with Rothschilds. By 1889, Brazil was the bank’s second most important client, and therefore an default would have been detrimental to its reputation. Exposure explains why Rothschilds did not suspend relations when a republican coup deposed the monarchic regime. That is striking, because the bankers feared for the dissolution of Brazil as a nation state. Rothschilds was locked in, a fact that was going to have profound effects in the turbulent decades that followed the establishment of the Republic.
Leonardo Weller

Chapter 4. Rothschilds’ Troubled Republic: Brazil, 1889–1898

Abstract
Political turmoil increased the defence budget and caused a debt crisis in Brazil’s first republican decade, which followed the fall of the monarchy in 1889. The Brazilian government pressured Rothschilds for rescue loans with which it defended the new regime and maintained a clean debt record. The debt crisis only finished after the 1898 Funding Loan, which was conditioned on orthodox policymaking. The national currency appreciated, which improved payment capacity but penalised the coffee-exporting sector. The Funding Loan was a case of shared policy ownership rather than an unilateral imposition of economic policy, as it is commonly interpreted in the literature. The officials proposed the deal and threatened to default so that Rothschilds would accept it. Politics had stabilised by 1898, which permitted the government to consolidate fiscal accounts without jeopardising the regime. Rothschilds was a power broker that empowered policymakers committed to orthodox policies, in line with their peacetime priorities but at the expense of coffee growers.
Leonardo Weller

Chapter 5. Rothschilds and Coffee Finance: Brazil, 1898–1914

Abstract
The coffee state of São Paulo launched a stockpiling programme to sustain world prices in 1906. Rothschilds publicly opposed the initiative but secretly participated in the transfer of funds to São Paulo in 1908, when a large harvest jeopardized the scheme. The end of the coffee programme would have deteriorated Brazil’s finances in the 1900s. That did not stop Brazil from borrowing in Paris that same year from banks that charged lower commission, suspending Rothschilds’ five-decades-long monopoly. Coffee prices fell in 1913, when the government pressured Rothschilds for a rescue loan. The bankers delayed the operation until the outbreak of the First World War. The conjunction of these adverse shocks—cheap coffee and the war—pushed Brazil to the edge of a default, which Rothschilds would not allow. Rothschilds launched the Second Funding Loan, which was similar to the homonymous operation of 1898 but did not include conditions on economic policy.
Leonardo Weller

Mexico versus Mediocre Banks

Frontmatter

Chapter 6. From Defaults to Redemption: Mexico, 1821–1890

Abstract
Mexico issued loans in London and defaulted in the 1820s. The debt remained unpaid for about six decades, during which the creditors imposed a financial embargo on the country. Mexico was a failed state, subject to foreign invasions, civil wars and territorial losses. Matters changed under Porfirio Díaz (1876–1880, 1884–1911), who built an autocratic and centralised regime that delivered political stability and economic growth. The government converted the old debt in 1885 and issued a new loan three years later. The underwriters of the first Porfirian loan controlled Banamex, a semi-official bank that provided domestic credit to the government. The syndicate used Banamex to force Díaz to accept poor borrowing condition, from which it profited substantially. Anticipating a series of other good deals, the German banker Bleichroeder, the main underwriter of the 1888 loan, intended to hold exclusivity over Mexico’s debt. Yet the government refused to have a patron bank and issued a second loan through different underwriters in the following year. That enabled Mexican negotiators to bargain for cheap credit.
Leonardo Weller

Chapter 7. The Bankers’ Beloved Dictatorship: Mexico, 1890–1910

Abstract
Mexico established a reputation in the 1890s, a decade that begun with a payment crisis. Falling silver prices depreciated the Mexican peso and nearly pushed the government to default on its newly issued sovereign debt. The government counted with the support of Bleichroeder, its most important underwriter, which granted a rescue loan during the crisis. Fiscal accounts became sound after silver prices stabilised at low levels in the mid-1890s. The weak peso boosted merchandise exports, which together with the integration of the domestic market promoted economic growth. Mexican risk fell sharply, but the government still managed to issue loans that paid lower returns than the older debt floating on the market. This chapter demonstrates that Finance Minister Limantour fostered competition among different bankers to improve credit conditions. Reputation raised the government’s power over the banks in charge of underwriting new loans and enabled the Mexicans to squeeze their profitability.
Leonardo Weller

Chapter 8. The Loans of the Revolution: Mexico, 1911–1914

Abstract
The Revolution that deposed Porfirio Díaz in 1911 escalated into a civil war. Yet the governments of Madero (1911–1913) and Huerta (1913–1914) managed to borrow abroad to fight the insurgents. The debt went on default, and the state collapsed in the following year. This chapter shows that inside information and conflict of interest explain why Paribas, the main underwriter, launched a loan in 1913. The bank’s managers had access to first-hand information on Mexican politics that was more accurate than the over-optimistic press. Paribas forced the government to issue bonds at terms that were substantially worse than those on the market and subsequently sold the debt at a margin on the secondary market. The loan enabled the government to continue servicing its debt for a few months, which was enough time for Paribas to sell its entire Mexican portfolio without realising losses. Paribas was not significantly exposed and the government was too weak to negotiate borrowing terms. That outcome could have been different had Mexico granted a monopoly over its debt to a patron bank during the Porfiriato.
Leonardo Weller

Chapter 9. Conclusion

Abstract
Governments were strong or weak vis-à-vis banks depending on their reputation and the banks’ exposure. The cases of Brazil and Mexico show a number of contrasting combinations. Mexico borrowed cheaply during the Porfiriato because it negotiated loans with many banks. The Brazilian officials handed a monopoly to Rothschilds and arranged rescue loans in times of crises, which the Mexicans failed to do during the Revolution. Choices and outcomes differed, but one conclusion holds: The governments acted as independent players, devising their approaches to underwriters based on country-specific payoffs. Whenever they could, high officials took advantage of their relative power over bankers to borrow cheaply.
Leonardo Weller

Backmatter

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