I would like to bring you up to speed on progress on the two-track approach to improving sovereign debt restructuring—an approach that the United States and the rest of the international community endorsed at our recent spring meetings [see also IMF Survey, April 29]. The first track involves more ambitious use of collective-action clauses in sovereign bond contracts. The second—and complementary—track involves creating a statutory mechanism that we believe can help secure more orderly and timely restructuring of unsustainable sovereign debts by empowering a supermajority of creditors to make key decisions in the restructuring process in negotiation with the debtor.
A key challenge confronting both approaches is the coordination of a diffuse and diverse creditor base to enable different creditors to seek enforcement of their rights in different legal jurisdictions. Dealing with this issue when relying entirely on collective-action clauses is very difficult. But within the statutory approach, we believe it is possible to resolve this coordination problem by creating a framework that would aggregate claims across instruments for voting purposes while paying due regard to the seniority of certain creditors and, more generally, to creditors’ varying economic interests.
A framework that provides for such aggregation would require the establishment of a dispute resolution forum that would enjoy limited but exclusive powers for the orderly conduct of the restructuring process, including the resolution of disputes between a sovereign debtor and its creditors, on the one hand, and among creditors, on the other hand. Some commentators have expressed fears that the creation of such a forum might be a back-door way for the IMF to exert a malign influence over the restructuring process. That is not the case.
The key to improving the current system is to allow a supermajority of creditors—across a broad range of instruments—to make the terms of a restructuring binding on the rest. This should help secure restructuring prior to default. But in case this proves impossible, the new approach would also need to do the following: First, give the debtor legal protection from creditors while negotiating; second, give the creditor assurances that the debtor will negotiate in good faith and pursue policies that protect asset values and restore growth; and, third, guarantee that fresh private lending would not be restructured. Finally, you also need a way to verify claims, oversee voting, and adjudicate disputes.
Use of the mechanism would be for the debtor to request, and not for the IMF or anyone else to impose. The existence of a predictable framework should, in most cases, be sufficient to encourage voluntary agreement “in the shadow of the law,” without formal activation.
Collective-action clauses—typical of bonds issued under English law—are one way to provide the key features of the new approach. But they have important drawbacks. To begin with, they only bind holders of a single bond issue. If these are to facilitate comprehensive restructuring, then they need to be adapted to aggregate across all claims, including banks. But such “super collective-action clauses” are problematic for three reasons:
• First, how do you persuade creditors and debtors to issue new debt and exchange existing debt for bonds that include these clauses when they are already reluctant to include ordinary collectiveaction clauses? One suggestion has been to make this a condition of access to IMF lending. But this would be the time at which the private sector is most reluctant to lend and when the debtor may be most reluctant to signal a greater chance of default by adopting them.
• A second problem is that emerging market sovereigns typically borrow in several legal jurisdictions. Not even identical restructuring language in collective-action clauses would necessarily guarantee uniform interpretation or application.
• Third, the current domestic laws of some of our members do not provide a clear statutory basis that allows the rights of minority creditors to be modified without their consent.
We are working on ways to tackle these drawbacks, but in the end I am sure that we will need a statutory underpinning too.
The statutory approach would use a treaty obligation—probably achieved through an amendment of the IMF’s Articles of Agreement—to empower a supermajority of creditors to reach agreement with the debtor and bind in the rest. This would resolve the problem posed by different legal jurisdictions, as the treaty obligation would provide for legal uniformity in all jurisdictions. But an amendment of the Articles would be used only as a tool to empower the creditors and debtor, not as a way to extend the IMF’s legal authority. The IMF would influence the process only as it does now, through its normal lending decisions.
For the new approach to sovereign debt restructuring to enjoy credibility and legitimacy, it will need to have the capacity to resolve disputes among creditors—and between creditors and the debtor—in a way that is demonstrably fair to all parties.
This role could not therefore be played by the Executive Board of the IMF. Not only do Executive Directors lack the necessary expertise, but their decisions could be thought to be influenced by the IMF’s role as a creditor and by the representation of the debtor and bilateral creditors on the Executive Board. Indeed, the dispute resolution forum should operate—and be seen to operate—independent not only of the Executive Board but also of the governors, management, and staff of the IMF. The flip side of this independence is that the role of the dispute resolution forum should be strictly limited.