First, they should enjoy better sovereign credit ratings such as the highest “AAA” rating, which indicates a country's ability and willingness to repay its debt commitments. As a consequence, this reasoning goes, democracies should be more creditworthy and have an advantage in financial markets. In one context, North and Weingast ( 1989) and Schultz and Weingast ( 2003) have argued that because democracies have greater accountability and the public can punish its leaders, democracies can credibly commit to repay sovereign (national) debt. The question regarding whether democratic institutions can serve as effective credible commitment devices has received considerable attention and has been examined in diverse ways. These findings help to revise and clarify the causal logic surrounding the democratic advantage hypothesis. I further test the causal pathway of the democratic advantage by constructing democracy scores of “market-friendly” and “adjustment-difficulty” democracy, finding that democracy worsens debt outcomes due to adjustment difficulty.

Notably, I also show that large debt burdens increase credit risk mainly in more democratic countries. In a sample of up to 96 developing countries, I show that democracies have worse credit ratings and CDS Spreads and are more likely to default than their autocratic counterparts when foreign reserves are low relative to external debt. Thus, I argue that democracies with high debt levels and low foreign reserve assets experience worse credit outcomes, whereas democracies with low vulnerability experience more positive outcomes. Because democracies have more diffuse decision-making and are more accountable to the public, they encounter greater difficulty than autocracies in passing unpopular economic adjustment measures. In contrast to this expectation, I argue that the advantage of democracies in credit ratings is conditional on the countries' level of financial vulnerability and adjustment needs.

Many have argued that democracies are able to make credible commitments to repay their debts and consequently enjoy higher sovereign credit ratings.

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