October 28, 2020
Didac Queralt (Yale)
State Building in the Era of International Finance
View the archived webinar here.
Abstract
Governments run on borrowed money. In State Building in the Era of International Finance I argue that the origins of borrowed money—domestic or foreign—is key to understand the conditions under which rulers expand state capacity and agree to political reform. The first globalization of public finance took place in the nineteenth century, a period in which new countries were formed or joined (willingly or forcefully) the Western international system. Despite having weak fundamentals, emerging economies had access to relatively cheap credit compared to European states in premodern times and to the developing world today. Although external default occurred on a regular basis, the average spread declined over time. In this chapter, I examine why. Along with standard explanations—the gold standard, reputation, and empire—I articulate and test for a complementary hypothesis to explain the decrease of the spread: “extreme conditionality,” or foreign financial control by foreign bondholders in case of default. I elaborate on the conditions under which private bondholders took over local assets and test the hypothesis against an original dataset of external finance listing interest rates and pledges for 90+ polities and 900+ sovereign bonds between 1816 and 1914. Results suggest that pledging reduced interest rates of emerging economies but exposed them to foreign interference and potential looting. The chapter is organized in three parts: I begin by reviewing leading explanations of the spread in the nineteenth century. Then, I articulate the extreme conditionality hypothesis and test some of its empirical implications. Finally, I discuss the risks of pledging national assets for long-term state building and macroeconomic stability.