Sovereign Debt Restructuring: the Road Ahead

Abstract

Despite a long history of debt crises and defaults,2 the framework to restructure debt in a timely and efficient manner is beset with legal and institutional gaps. Stakeholders in this process have repeatedly failed to reach an agreement that would set up a rules-based sovereign debt restructuring mechanism.3 The IMF’s proposal for a statutory “Sovereign Debt Restructuring Mechanism” (SDRM) did not elicit sufficient support a decade ago but served as an impetus to changes in contractual technology in the so-called “voluntary” market-based debt restructuring process. These contractual changes included tools to effectively coordinate a diverse group of creditors through the introduction of Collective Action Clauses (CACs) in bond contracts4 and laying out voluntary principles5 for a code of conduct. Despite these developments, the challenge still remains on how to return a country that is in debt distress to a sustainable fiscal track, resuscitate its growth and balance the risks which debt restructuring poses to the banking system. Debt restructurings are often “too little too late”6 and especially problematic pre-default. Every decade or so, the discussion is reanimated prompted by events — the Latin American debt crisis in the 1980s, the Brady Plan in the 1990s, and with restructured bonds in the 2000s, and propose solutions. In the last decade, the issue of sovereign debt restructuring fell off the international policy agenda as a result of the ample global liquidity and the benign global environment that preceded the recent global financial and economic crisis, conditions which may have led policymakers and private investors to discount the risks associated with sovereign lending.