Breakfast Session 2: Recent Developments in Sovereign Debt-Management and Resolution
Séance du petit-déjeuner 2:
November 16, 2014
Université de Montréal
Bennett Jones LLP Counsel
CIGI (Director of Economy Program)
2018 JD/MA Candidate
The chair, Konstantia Koutouki, explained that the focus panel would be on the sovereign debt crisis and the threat it poses to global stability. A recent article in the New York Times examined the recent cuts to government subsidies in European countries that are not able to deal with sovereign debt, which has caused investment in green energy to fall by twelve percent. This demonstrates the environmental consequences of sovereign debt crises and the need for sufficient restructuring methods.
The first speaker, Domineco Lombardi, gave a broad overview about sovereign debt restructuring, which was proposed as early as the 1930s in Mexico. All proposals are usually triggered in response to an economic crisis and have all been largely unsuccessful to date. The discussion on sovereign debt restructuring is timely since this in the first time in several decades that problems of sovereign debt is occurring in developed countries with advanced economies and not simply emerging economies. Private capital flows have also increased in size, which causes a problem in terms of coordination. The debate on sovereign debt restructuring is polarized between two extremes: i) the austerity approach, which includes attempts by developing economies to convince the United Nations to create a corresponding resolution or convention; and, ii) the contract approach, which focuses on provisions in contracts aiming to facilitate coordination of bond holders. We will most likely see will see a more modular and multi-pronged approach in the future aimed at providing collective incentives for states and creditors to come together after a crisis.
The second speaker, Mark Jewett, highlighted the fact that while we have the Canada Bankruptcy Act, there is no comparable regime to protect states or their creditors. When a country’s debt becomes unmanageable, there is no option for a new start even with regime change and there is no mandatory framework to support debt restructuring negotiations with creditors. There are two main approaches to the sovereign debt restructuring. They both allow for timely remedial action and minimizing holdouts and free riders but have different ways of bringing this about. The contractual approach focuses on improving mechanisms through collect action clauses (CACs), which helps shift decision-making from individual debtor-creditor offers to creditors as a collective, but only apply to bonds. There are three initiatives of the contractual model: a two limb variety, principle and interest tied to Gross Domestic Product, and a single limb proposal. The treaty approach proposes a sovereign debt restructuring mechanism, but due to practical and political difficulties this will probably not be a feasible approach. In 2001, Argentina defaulted on its external debt, resulting in a major victory for holdout creditors in the case Argentina v NML Capital Ltd. This will have huge effects until the existing debt stock runs off.
The third speaker, Brett House, gave an explanation of the depth and urgency of dealing with the issue of sovereign debt crises, and mapped a variety of responses to demonstrate how Canadian lawyers can become engaged in this initiative. The debt crisis in 2008 has lowered the taboo against discussing sovereign debt restructuring and reinvigorated efforts to reduce the costs of restructuring. Earlier this year, private and public actors endorsed improvements to CACs to stop holdout creditors from getting significant payments in the aftermath of a crisis. The International Monetary Fund (IMF) decision to endorse reprofiling of debt obligations in the midst of crises gives countries breathing room to address their problems instead of moving directly to a more draconian 'haircut'. Nevertheless, countries still hesitate to go to the IMF owing to fears of negative stigma that may undermine rather than assist their efforts to address their debt problems. The Sovereign Debt Forum (SDF) proposal would provide a forum to overcome this concern by bringing creditors and debtors together at an early stage to solve sovereign debt problems. Canada is one of the major shareholders in the IMF; therefore, we have an opportunity to make changes to its lending practices, to issue new forms of debt, such as sovereign contingent convertibles (“COCOs”) that would make restructuring easier, to push for better protections of payment systems from uncooperative creditors, and to ensure that emerging episodes of debt distress get treated better than we have managed to do in the past. The implications for human welfare are enormous.