Fairness in Sovereign Debt

Abstract

Christian Barry and Lydia Tomitova Fairness in Sovereign Debt WHEN CAN WE SAY THAT A DEBT CRISIS HAS BEEN RESOLVED FAIRLY? What makes the processes of debt restructuring, debt cancellation, or the enforcement of debt contracts more or less fair, or the outcomes of such processes better or worse? These are not idle questions. The recent economic collapse in Argentina and financial crisis in Turkey, along with the persistent unsustainable debt burdens of many developing countries, highlight the urgent problem of excessive indebtedness. High debt levels can limit a sovereign government’s capacity to provide social services necessaryforthe well-being ofits citizens, and divertresources and energy from the pursuit of long-term development strategies. In addition, after a government defaults, the mechanisms for managing the restructuring of sovereign debt usually act slowly, do not return the country to debt sustainability, and often leave the different classes of creditors as well as the people of the indebted country feeling as if they have been treated unfairly. This in turn can create disincentives for lending and investment that can be crucial to the prospects of developed and developing coun­ tries alike. An often overlooked but veiy important effect of financial crises and the debts that often engender them is that they can lead the crisis countries to increased dependence on international institutions and the policy conditionality they require in return for their continued support. This limits their capabilities and those of their citizens to exer­ cise meaningful control over their policies and institutions. These outcomes have been viewed by many not merely as extremely unfortunate and regrettable, but also as deeply unfair. And social research Vol 73 : No 2 : Summer 2006 649 indeed, increasingly potent popular movements have pressured govern­ ments, financial institutions, and the financial community to seek what they take to be fairer solutions to debt crises. Some of these resulting initiatives, including that for the Heavily Indebted Poor Countries (HIPC), have focused on defining sustainable debt levels for poor countries and designing policies to maintain debt at these levels. Other proposals, such as the Fair and Transparent Arbitration Process, mimic at the global level the legal bankruptcy regimes under national law (albeit without the same enforcement authority). These proposals have sought to distin­ guish between debts for which creditors deserve full repayment from those for which creditors either lack claims or have claims that are too weak to recover what they have lent (see Raffer, 1990; Afrodad, 2001; Erlassjahr, 2001). Still others have instead recommended a contractual approach to sovereign debt crises in which new clauses are introduced into bond contracts to enable debts to be restructured more easily and quickly (see EMTA, 2003; Porzecanski, 2003; Group of Ten, 2002). The merits ofthese programs and proposals for dealing more fairly with sovereign debt remain hotly disputed. In this essay, we try to take a step back from the political fray and examine some more fundamental considerations that seem relevant to assessing the fairness of current arrangements governing economic exchanges related to debt contracts and alternatives that have been (or might be) proposed to them. Our discussion is organized into seven sections. First, we char­ acterize briefly the concept of fairness and its role in social evalua­ tion. Second, we clarify what sovereign debt is, and, third, the ethical statuses that particular sovereign debts can have. Fourth, we identify and describe the main features of current practices related to sovereign debt. Fifth, we describe an “ideal picture” of creditor-debtor relations and argue that, in such a scenario, a broad range of ethical consider­ ations can plausibly be invoked in support of practices that closely resemble those presently governing sovereign debt. Sixth, we draw attention to the many ways in which in reality the relations between sovereign debtors and their creditors differ markedly from the relation­ ships between the creditor and debtor in the ideal picture. Because of this, many of the ethical considerations that would support present 650 social research practices were relations between sovereign debtors and their credi­ tors to resemble more closely those depicted in the ideal picture fail to do so under present circumstances. We conclude, moreover, that the remaining ethical considerations that might be advanced...