Deck 14: Sovereign Risk

Question 1

Sometimes banks received criticism because domestic governments take special political steps to reduce the probability that foreign borrowers will default or repudiate their debt contracts,an occurrence that could cause financial harm to the domestic banks.

Answer 1

True

Question 2

A lending decision to a firm in a foreign country should involve both a credit risk analysis and a sovereign risk analysis.

Answer 2

True

Question 3

Prior to World War II,most international debt was in the form of bank loans.

Answer 3

False

Question 4

Lending to a foreign party is a two-step decision involving both sovereign risk and interest rate risk.

Question 5

Lenders often are willing to reschedule debt payments of foreign corporations to avoid forcing the borrower into outright bankruptcy.

Question 6

FIs that lend to foreign entities often need to make provisions to their loan loss reserves.

Question 7

Rescheduling loans is easier than renegotiating payments on bonds because the same FIs typically form loan syndicates that create cohesiveness in negotiations.

Question 8

Multiyear restructuring agreements (MYRAs)involves the rescheduling of debt payments of foreign governments.

Question 9

Sovereign country risk is largely independent of the credit standing of the foreign borrower.

Question 10

A foreign government's decision to keep a domestic corporation from making debt payments to outside investors automatically makes the corporation a bad credit risk for the investor.

Question 11

Sovereign risk involves restrictions placed on borrowers and investors regarding the movement of funds into and out of a foreign country.

Question 12

If the credit risk of a foreign borrower is good,then the sovereign country risk is irrelevant.

Question 13

International loan contracts that contain cross-default provisions allow the country to select specific lenders for special default treatment.

Question 14

Through June of 2012,the cost of bailouts required to keep Greece's reform efforts moving forward and to remain part of the European Union totaled more than $480 billion.

Question 15

During 2014,Argentina defaulted on government debt and also passed legislation that led to default on $30 billion of corporate debt owed to foreign creditors.

Question 16

Sovereign country risk exposure is a result of the FI's inability to be fully diversified.

Question 17

When making a loan decision to a foreign party,an FI should consider sovereign risk above credit risk.

Question 18

The Economist Intelligence Unit is a rating of sovereign risk based on economic and political risk within a country.

Question 19

All of the following are relevant determinants of sovereign risk exposure: the rate of domestic money supply growth;the variance of export revenue,and the size of the population.

Question 20

International bond finance is more likely to be rescheduled than international loan finance because of the relatively fewer lenders involved with a loan finance issue.

Question 21

In exchange for the loss of some present value of the interest and principal on a loan after a rescheduling,the lender avoids the permanent loss that would result from a default.

Question 22

For any given country risk variable,the greater the size of the systematic risk relative to the unsystematic risk,the less important the variable is to the lender.

Question 23

A positive relationship is considered to exist between domestic money supply growth and the probability of rescheduling debt.

Question 24

From the perspective of the lending FI,the risk of a well-diversified portfolio of loans should be less than weighted average risk of the individual loans.

Question 25

The larger the import ratio of a country;the higher is the probability that the country will have to schedule its debt payments.

Question 26

Both the debt service ratio and the import ratio typically have low systematic risk elements in a country risk analysis (CRA).

Question 27

Money supply growth and the import ratio tend to have low systematic risk elements in a country risk analysis (CRA).

Question 28

By rescheduling its debt,a borrower raises the present value of its future payments in hard currencies.

Question 29

In the statistical modeling of the country risk analysis,the investment ratio is considered to have a negative impact on the probability of rescheduling because the larger expenditures on investment infrastructure leaves less funds for debt payment.

Question 30

Traditional country risk analysis (CRA)that is based on discriminant statistical models often suffers from problems of using data that is not current.

Question 31

The export revenue variance (VAREX)ratio tends to have high systematic risk elements in a country risk analysis (CRA).

Question 32

In international finance,the variance of export revenue is based solely on the quantity of product available for export.

Question 33

One problem with using country risk analysis (CRA)statistical credit scoring models to evaluate sovereign credit risk is the classification into only two possible outcomes.

Question 34

Country risk analysis (CRA)statistical credit scoring models are very adept at capturing political risk events such as strikes,elections,corruption,etc.

Question 35

Country risk analysis (CRA)statistical credit scoring models have difficulty measuring political risk events.

Question 36

Export revenue may be highly variable due to the quantity of exports and the prices that may be realized on the exported products.

Question 37

In international finance,the investment ratio measures the amount of real investment relative to the gross national product of the country.

Question 38

The export revenue variance (VAREX)should be negatively related to the probability of debt rescheduling.

Question 39

The debt service ratio of a country should be negatively related to the probability of rescheduling.

Question 40

Rescheduling may cause the borrower to lose future borrowing opportunities for investment projects.

Question 41

Both buyers and sellers of LDC debt seem willing to participate in the LDC debt markets for the purpose of rebalancing the country risk exposure on their balance sheets.

Question 42

The advantage to the lender (purchaser)of a Brady bond versus a loan to a foreign country is that U.S.Treasury bonds serve as collateral for Brady bonds.

Question 43

The Institutional Investor Index is based on

A)spread of the required interest rate on a country's debt over LIBOR.
B)a number of economic and political factors weighted according to their relative importance in determining country risk problems.
C)surveys of the loan officers of major multinational banks.
D)combined economic and political risk on a 10-point (maximum)scale.

Question 44

As recent economic conditions improved,trading volumes in the secondary market for LCD and EM debt reached approximately $6.5 trillion in 2011.

Question 45

Which is NOT a key economic ratio in credit scoring models to estimate sovereign country risk exposure?

A)The debt service ratio.
B)The import ratio.
C)The variance of export revenue.
D)The discount on rescheduled debt.

Question 46

One advantage of swapping a sovereign loan for a bond is the capability to sell the bond in the secondary market.

Question 47

Under the doctrine of sovereign immunity,creditors cannot force repayment of the debt.

Question 48

In the LCD and EM debt markets,sovereign bonds must be collateralized by domestically-issued government bonds.

Question 49

The advantage to the borrowing country of a Brady bond versus a loan from an FI is the much longer maturity and thus the lower payment schedule of a Brady bond.

Question 50

Making a lending decision to a party residing in a foreign country is a two-step decision.What are the two steps involved in such a decision?

A)Assessing credit quality of the borrower and sovereign risk quality of the borrower's country.
B)Assessing political economy risk and exogenous risks.
C)Assessing sovereign risk quality of the borrower's country and other country risks.
D)Rescheduling of existing loans and deciding on the terms for new loans.

Question 51

Sellers of LDC debt in secondary markets include small FIs wishing to disengage themselves from the LDC market.

Question 52

Which of the following describes debt rescheduling?

A)Outright cancellation of all current and future debt obligations.
B)Changing the contractual terms of a loan,such as its maturity and interest payments.
C)Direct nationalization of private sector assets.
D)Automatic default of all international loans upon default of any one loan.

Question 53

Which of the following describes debt repudiation?

A)Changing the contractual terms of a loan,such as its maturity and interest payments.
B)Direct nationalization of private sector assets.
C)Outright cancellation of all current and future debt obligations.
D)Automatic default of all international loans upon default of any one loan.

Question 54

One cost of rescheduling for a lender is the potential placement of the lender on a regulatory watch or problem list.

Question 55

Buyers of LDC debt in secondary markets typically are large FIs who are willing to accept write-downs of loans on their balance sheets.

Question 56

Performing loans in the LDC debt market are loans on which the foreign country is making promised payments.

Question 57

In the LCD and EM debt markets,sovereign bonds have historically been issued in foreign currencies.

Question 58

Which of the following observations concerning international loan cross-default provisions is NOT true?

A)They ensure that if a country defaults on just one of its loans,all its other outstanding loans would automatically be put into default as well.
B)They prevent a country from selecting a group of weak lenders for special default treatment.
C)They make the outcome of any individual loan default decision potentially very costly for the borrower.
D)They protect strong lenders in any loan default by guaranteeing the repayment of such defaulted loans.

Question 59

The Euromoney Country Risk Index for a given country currently is based on the

A)spread of the required interest rate on that country's debt over LIBOR.
B)a number of economic and political factors specifically weighted according to their relative importance in determining country risk problems.
C)a combined economic and political risk survey of economists and political analysts presented on a 100-point scale.
D)surveys of the loan officers of major multinational banks.

Question 60

Which of the following describes debt moratoria?

A)Delay in repaying interest and/or principal on debt because of government prohibition of such action.
B)Special reserves created on the balance sheet against which to write off bad loans.
C)The official terminology for a sovereign loan rescheduling.
D)Debt issued by a country that is swapped for an outstanding loan to that same country.

Question 61

Lenders may find it costly to reschedule non-accruing sovereign country debt because

A)it is politically embarrassing.
B)of tax reasons.
C)they might be subject to greater regulatory attention.
D)it is detrimental to maintaining good customer relations.

Question 62

The allocation of country resources between present and future consumption is measured by which of the following variables of the credit scoring model of sovereign country risk exposure?

A)The debt service ratio.
B)The import ratio.
C)The variance of export revenue.
D)The investment ratio.

Question 63

A possible reason for the high systematic risk of the debt service ratio (DSR)in LDCs and EMs is

A)the tendency of world commodity prices to reflect non-similar economic conditions.
B)the sensitivity of this ratio to rising nominal and real interest rates in the developed,or lending,countries.
C)the tendency of prices and world demands for commodities to reflect simultaneously economic conditions.
D)the discretionary nature of money supply growth for LDC governments.

Question 64

Which of the following variables can have a negative impact on the probability of rescheduling in the credit scoring model to estimate sovereign country risk exposure?

A)The debt service ratio.
B)The import ratio.
C)The variance of export revenue.
D)The investment ratio.

Question 65

Each of the variables in the credit scoring model of sovereign country risk

A)cannot be measured independently.
B)has a systematic and unsystematic component.
C)has a predictable and an unpredictable component.
D)is determined by a weighted risk index.

Question 66

A possible reason for the high systematic risk of VAREX in LCDs and EMs is

A)the tendency of world commodity prices to reflect non-similar economic conditions.
B)the sensitivity of this ratio to rising nominal and real interest rates in the developed,or lending,countries.
C)the tendency of prices and world demands for commodities to reflect simultaneously economic conditions.
D)the discretionary nature of money supply growth for LDC governments.

Question 67

In international finance,the investment ratio is determined by dividing the value of real investment by the

A)total foreign exchange reserves.
B)real investment.
C)gross national product.
D)value of exports.

Question 68

What is the approximate yield on a 20-year 10 percent annual coupon less developed country (LDC)bond selling at 25 cents on the dollar? (Choose the closest answer)

A)10 percent.
B)40 percent.
C)14 percent.
D)25 percent.

Question 69

Investors are willing to purchase rescheduled less developed country (LDC)and emerging market (EM)debt because of

A)political pressure.
B)the potential for capital gains.
C)tax considerations.
D)side payments from FIs.

Question 70

The relationship of this variable with the probability of rescheduling is often disputed.

A)The debt service ratio.
B)The import ratio.
C)The variance of export revenue.
D)The investment ratio.

Question 71

Lenders may find it beneficial to reschedule sovereign country debt

A)to avoid political embarrassment.
B)for tax reasons.
C)to avoid marking the balance sheet to market.
D)to maintain good customer relations.

Question 72

Which of the following is NOT a reason why international loans are more likely to be rescheduled than international bonds?

A)Governments appear to view the social costs of default on bonds as less critical than on loans.
B)Many international loan contracts contain cross-default provisions that automatically put into default all loans by that country in the case of one default.
C)Banks receive no subsidies from major governments to make international loans.
D)Many international loan syndicates contain the same group of banks which increases the cohesiveness of loan renegotiations.

Question 73

Which of the following makes international loan rescheduling more likely than international bond rescheduling?

A)International loan contracts are not allowed to contain cross-default provisions.
B)Typically there are more FIs in an international lending syndicate compared to the number of potential bondholders.
C)Since World War II more international debt has been in the form of bonds.
D)An international loan syndicate typically comprises the same FIs which allows greater cohesiveness for negotiations.

Question 74

In international finance,the debt service ratio is found by dividing interest and amortization payments by the

A)total foreign exchange reserves.
B)real investment.
C)gross national product.
D)value of exports.

Question 75

Commodity price and quantity risk is measured by which of the following variables in the credit scoring model to estimate sovereign country risk exposure?

A)The debt service ratio.
B)The import ratio.
C)The variance of export revenue.
D)The investment ratio.

Question 76

High rates of domestic inflation impact the credit scoring model of sovereign country risk exposure through which of the following variables?

A)The debt service ratio.
B)The import ratio.
C)The variance of export revenue.
D)The investment ratio.
E)Domestic money supply growth.

Question 77

Which of the following is an attempt to measure the absence of governmental constraint on the production,consumption,and distribution of goods?

A)Euromoney Index.
B)Index of Economic Freedom.
C)Corruption Perceptions Index.
D)Economist Intelligence Unit.

Question 78

The statistical results of the country risk analysis models

A)may have limited usefulness if parameters are unstable.
B)are not subject to estimation error.
C)cannot be extrapolated to influence financial decision making.
D)are theoretical depictions of underlying relationships.

Question 79

In international finance,the import ratio is determined by dividing the value of imports by the

A)total foreign exchange reserves.
B)real investment.
C)gross national product.
D)value of exports.

Question 80

What is the approximate yield on a 20-year 10 percent annual coupon less developed country (LDC)bond selling at 75 cents on the dollar? (Choose the closest answer)

A)10 percent.
B)40 percent.
C)14 percent.
D)25 percent.