Why Do Investors Still Hope? The Soviet Repudiation Puzzle (1918-1919)

This paper provides an empirical study of bond prices reactions following a repudiation. Based on an original database, it analyses the repudiation by the Soviets of bonds issued under the Tsarist regime. For the two years following the repudiation two striking feature of a representative Tsarist bond traded in Paris must be highlighted: first, the price decline following the repudiation announcement is limited; second the price remains relatively high, and even increases, during the two following years. This is the so-called Soviet Repudiation Puzzle. We argue that the bonds' persistent high relative value can be approached via the Peso problem hypothesis: prices are affected by expected events that never took place and thus remained unobservable. In the Russian case, several unusual events could be expected: a dramatic change in the Russian attitude, due for instance to the Soviet overthrow or a takeover of part of the debt either by the French or by another government (most likely countries created from the former Russian Empire). In this respect, the Soviet Repudiation Puzzle appears as a multidimensional peso problem