Current Legal Issues Affecting Central Banks, Volume V

Afterword to Chapters 12 to 15

Robert Effros
Published Date:
May 1998
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Resolution of Sovereign Liquidity Crises: Recourse to an Interpretation of Article VIII, Section 2 (b) of the International Monetary Fund’s Articles

In Chapters 12 to 15, the concepts of sovereign debtors, liquidity crises, and external debt were explored; a legal framework for dealing with defaults and rescheduling was examined; the role of sovereign immunities was reviewed; and the pitfalls and hazards of debt rescheduling were addressed. Experts have long sought a means to resolve sovereign liquidity crises through the application of law. One important avenue that has from time to time been suggested is to build on the jurisprudence that surrounds the meaning and interpretation of Article VIII, Section 2 (b) of the Articles of Agreement of the International Monetary Fund.1

Under the Fund’s Articles, a member country may impose restrictions on international capital movements2 and may also impose exchange controls on current payments other than exchange restrictions.3 It will need the approval of the Fund to impose restrictions on the making of payments and transfers for current international transactions.4 Therefore, it has been suggested that a sovereign debtor may use these provisions of the Articles either to suspend the payment of its external debt or to replace a payment in foreign currency with a payment in local currency.

However, the problem is whether foreign courts will recognize these actions as a valid exercise of sovereign power against the creditors. Here, another provision of the Articles could be invoked: Article VIII, Section 2(b). The first sentence of this provision reads: “Exchange contracts which involve the currency of any member and which are contrary to the exchange control regulations of that member maintained or imposed consistently with this Agreement shall be unenforceable in the territories of any member.”

Undoubtedly, this provision is not clear, and it has received different interpretations in the courts of different countries. Therefore, in order to be able to invoke Article VIII, Section 2 (b), a unifying interpretation would have to be adopted. Indeed, the Fund itself could adopt an official interpretation of this provision or any other provision of the Articles. Under Article XXIX, the Fund has the final say in matters of interpretation of its Articles, precisely in order to avoid conflicting interpretations among its members.

Some have argued that an interpretation of Article VIII, Section 2 (b) could resolve the problem of foreign courts recognizing a sovereign debtor’s decision to postpone the discharge of its external debt or to change the currency of payment (which is also a form of default). However, this proposal raises a number of difficult issues.

First, although an interpretation by the Fund would be binding on its members under international law, it would not necessarily be binding on their national courts. Depending on each country’s constitutional system, some form of incorporation of the Fund’s interpretation into domestic law may be necessary. Otherwise, the interpretation would be regarded only as advisory, with no more than a persuasive effect. Courts, such as those of the United Kingdom or the United States, which have adopted a narrow interpretation of “exchange contracts,” and those of Germany, which have excluded capital movements from the scope of the provision, may not be easily convinced to follow the Fund’s interpretation.

Second, an interpretation is a general, abstract statement clarifying the meaning of a rule of law. It is not sufficient by itself to determine the application of the rule in concrete cases. This application requires factual findings and legal characterization, which, even after an interpretation by the Fund, would be the responsibility of national courts. If, for instance, the Fund’s interpretation were to state that a loan agreement between a resident and a nonresident is an exchange contract for the purposes of Article VIII, Section 2 (b), the determination that a particular contract meets these conditions would have to be left to the national courts. A more difficult issue arises with respect to a particular aspect of this provision, namely, the condition that the exchange control regulation be consistent with the Articles. When the regulation has been approved by the Fund under Article VIII, Section 2 (b), there should be no doubt that it is consistent with the Articles. In other cases, where no approval is required, the Fund can only make a declaratory finding of consistency with the Articles, but it would seem that such a finding should be binding on the court. However, the comments to Section 822 of the American Law Institute’s Restatement (Third) of the Foreign Relations Law of the United States take the opposite view: a finding of consistency with the Articles by the Fund would not be binding on the national courts of the United States.5 Oddly enough, the opposite conclusion is reached by the American Law Institute for findings of inconsistency: they would be binding.6

Last but not least, the main objection to the proposed approach is that Article VIII, Section 2(b) only applies to exchange controls, whereas a sovereign debtor’s default is not an exchange control measure. The position of the Fund on this point is well established. Failure by a debtor to pay its debt is not an exchange restriction. It can be the result of an exchange restriction when the debtor is not allowed to make the payment, but a sovereign state cannot impose a restriction upon itself. A sovereign state can restrict its subjects, but its own decision not to pay is not a restriction. For this reason alone, and setting aside all other considerations, Article VIII, Section 2(b) cannot be used to ensure the international recognition of a sovereign debtor’s default.

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