IV Comparability of Treatment
- G. Kincaid, K. Dillon, Maxwell Watson, and Chanpen Puckahtikom
- Published Date:
- October 1985
As a key element in effective debt relief operations, official creditors attach importance to the principle of comparable treatment for all creditors and for all types of debt, apart from obligations owed to multilateral institutions. Concern with comparable treatment arises not only from the desire to achieve an equitable sharing of the burden of debt relief among creditors, but also from the need to ensure an appropriate balance between financial support from all creditors and the adjustment efforts of the debtor countries themselves. This question has received increased emphasis in recent years as a number of countries have sought debt relief and other exceptional financing in substantial amounts or for prolonged periods and both official and private creditors have recognized the need to ensure that their efforts are integrated into an overall financing plan for the debtor.
The Agreed Minutes governing Paris Club reschedulings have long contained a provision that the debtor will accord to each of the participating creditor countries a treatment no less favorable than that accorded to any other creditor country, including nonparticipants in the Paris Club, for the consolidation of debt of comparable term. Moreover, from the early 1970s, in line with the growing importance of private lending to developing countries, it became increasingly common for Agreed Minutes to incorporate an “initiative” clause whereby the debtor undertakes to seek to secure from public and private external creditors a comparable rescheduling for credits of comparable maturity. This initiative clause is now a standard feature of Agreed Minutes, and since the mid-1970s it has included a specific reference to banks. Reference to nonguaranteed suppliers was first made in the agreement for Romania of May 1983, and since July 1983 an explicit reference to suppliers has also become a standard feature of the initiative clause. Official creditors have underscored the importance they attach to these comparability provisions by introducing into any goodwill clause a stipulation that the completion of effective arrangements with other creditors, along the lines described in the initiative clause, will be a precondition for a subsequent rescheduling. Such a stipulation was included in 15 out of 18 goodwill clauses incorporated in Agreed Minutes during the past two years, in marked contrast to the earlier period when goodwill clauses rarely referred explicitly to arrangements with such other creditors.
As noted above, Agreed Minutes specify not only that the debtor will seek a rescheduling on comparable terms from nonparticipating official creditors, but also that the debtor will not accord any creditor country treatment more favorable than that accorded to each participating country for the consolidation of debts of comparable term. This is a strong and precise provision, and Paris Club creditors have, on a number of recent occasions, emphasized the importance they attach to the debtor obtaining comparable treatment from other official creditors. Moreover, failure of the debtor country to comply with these provisions has in practice influenced the attitude of Paris Club creditors toward the terms of subsequent reschedulings.
In this connection, Paris Club creditors have noted that they welcome participation in Paris Club meetings by all creditors that are prepared to accept the practices and principles of the Club. In particular, no distinction is made between debts owed to developing country governments and those owed to other governments and, as noted earlier, a number of developing countries have participated as creditors in recent Paris Club meetings. Paris Club creditors have also recently reaffirmed that comparability provisions apply to all types of debt, including untied concessional development assistance and loans repayable in commodities. While recognizing the diverse legal frameworks governing the activities of lending agencies in different countries, Paris Club creditors have noted that it is not the form the restructuring of debt service obligations takes, whether rescheduling or refinancing, for instance, but rather the effective debt relief actually provided that is relevant for assessing comparable action.
The importance official creditors attach to the conclusion of comparable rescheduling agreements with a country’s bank creditors is indicated by the specific references to banks both in the initiative clause and, more recently, in the goodwill clause of Agreed Minutes. The banks, similarly, have often required implicitly or explicitly that countries approaching them for a rescheduling also seek debt relief from official creditors. Each group may, however, attach less importance to this provision in cases where debt service falling due to the other group is small. Each instance of official rescheduling during the past two years has been preceded or followed by parallel discussions on a bank debt restructuring, except in one case where there was no medium-term debt to banks. Banks, on the other hand, have restructured debts for six countries that did not intend to seek a multilateral rescheduling from official creditors.
While comparability of treatment with bank creditors, as with non-participating official creditors, is a relatively long-established Paris Club principle, differences between official and bank creditors in terms of the structure of lending, market environment, and regulatory provisions render it somewhat more difficult to define what does or should constitute comparable treatment between bank and official creditors and to assess, ex ante or ex post, whether that comparability has been achieved.
It has been a general practice of the Paris Club to reschedule part of both principal and interest falling due during the consolidation period. Banks, on the other hand, have almost without exception rescheduled only principal, although they have in a number of cases agreed in addition to provide specified amounts of new credits. As a starting point for assessing comparable effort, official creditors look at a ratio for each creditor group, calculated as principal and interest rescheduled plus new money provided, divided by total principal plus interest due. For their part, banks look at the percentage increase in exposure (principal outstanding) when considering requests for new money and apportioning those amounts among themselves. These two approaches to burden sharing can have different indications, since the former implies that relief provided should be proportional to debt service falling due while the latter assumes that the share of each creditor in a country’s debt should remain constant. Comparable effort, as measured by the ratio used by official creditors, would tend to imply a larger percentage increase in exposure for creditors that had lent at higher interest rates. Also, when new money is sought on a concerted basis, both groups of creditors focus on the absolute magnitudes involved, as well. The scope of export credit cover assistance has been a significant consideration in a number of recent instances where, on a case-by-case basis, official creditors provided additional trade credits and insurance for a few debtor countries rescheduling their official debt-service obligations.13
In most cases there are additional factors that need to be taken into account in any assessment of comparable action. There may, for example, be differences in consolidation periods and in the amounts and treatment of arrears. There are also differences in the coverage of debt of the private sector and short-term debt, although the practices of official and bank creditors appear to be converging on these. While official creditors have traditionally rescheduled debt service on obligations of both the public and the private sectors in debtor countries, until recently most bank rescheduling agreements covered only public sector maturities. During the past two years, however, bank rescheduling agreements have covered private sector debt in nearly half the cases. Both banks and official creditors have traditionally resisted rescheduling short-term debt because of the adverse consequences for trade finance. Recently, official export credit agencies have shown increased flexibility in standing ready to maintain cover on short-term export credits, provided that the debtor has not sought a rescheduling of this type of debt and has sound adjustment policies. Similarly, banks have recently demonstrated increased willingness to reach understandings on the maintenance of short-term trade facilities and interbank deposits.
Given differences in practices, any standardized ratios or formulas can only partially capture the range of factors that need to be taken into account in an assessment of comparability of treatment. The different objectives of and constraints faced by various creditor groups, as well as the need to maintain autonomous decision making for each creditor group, also argue against a mechanistic approach. In order to facilitate the rescheduling process, official creditors and banks are seeking to improve their understanding of the procedures and constraints under which each operates. Increased and more timely provision of data by both banks and official creditors would facilitate judgments concerning appropriate burden sharing and comparability of treatment.
Another aspect of comparability of treatment that has received increased attention is that vis-à-vis non-bank commercial creditors, generally referred to as nonguaranteed suppliers since these creditors comprise mainly private suppliers of goods and services without the guarantee of official creditor agencies.14 As noted above, since mid-1983 explicit reference to suppliers has been incorporated in the initiative and goodwill clauses of the Paris Club Agreed Minutes.
Assuring comparability of treatment with nonguarmteed suppliers raises, however, complex practical issues. The primary problems are lack of data and the absence of an established framework within which a multilateral or collective approach to rescheduling could take place. Frequently there is a very large number of suppliers, each with relatively small claims, located in various countries with different legal constraints. Also, individual suppliers may not consider themselves to be in a position to provide a rescheduling on terms comparable to banks or official creditors, since their financial position is not structured to allow for a significant portfolio of financial assets. On the other hand, the terms of the original transaction may have already incorporated a significant risk premium.
The majority of countries that have had recent Paris Club reschedulings have not, in fact, sought a generalized refinancing or rescheduling of nonguaranteed suppliers’ credits. In most cases the necessary statistics are nonexistent or severely deficient and the amounts involved are believed to be small. Although some countries may have sought a bilateral restructuring of amounts due to key suppliers, especially when arrears had accumulated, little information is generally available publicly on the terms and conditions of such arrangements. Debtor countries may, moreover, feel compelled to keep current with suppliers so as to maintain trade and credit flows, especially for essential imports, and to avoid facing a higher implicit markup on import costs owing to delays in payments.
A number of countries (such as Peru, Sierra Leone, and Zaïre) have attempted to secure terms comparable to those from the Paris Club from their nonguaranteed suppliers on a bilateral basis. The experience so far suggests that a satisfactory outcome depends on a high degree of cooperation and discipline among creditors. In several instances, the agreed terms involved relatively shorter grace and maturity periods than those granted by either the Paris Club or the commercial banks.
In recent experience, a multilateral approach to debt rescheduling with nonguaranteed suppliers has been attempted by only two countries, Romania (1982) and Nigeria (1984). For Romania, the rescheduling negotiations with nonguaranteed suppliers took place in tandem with the rescheduling discussions with the Paris Club and the banks, and proved particularly difficult since they involved a large number of creditors with widely divergent interests. In the discussions with Nigeria, the nonguaranteed suppliers were for the first time represented by an advisory committee with the services of an investment banking firm and agreement was reached relatively speedily. It appears that a multilateral approach could be adopted by a few other countries, for instance, the Ivory Coast in its current discussions with the group of suppliers known as the Abidjan Club.
A few of the debtor countries for which service on official debt has recently been rescheduled have adopted a unilateral approach to consolidating debt owed to suppliers (for instance, Turkey in 1980, Costa Rica in 1983, and Mexico in 1983). These countries established refinancing procedures and defined instruments with which obligations to suppliers were to be settled, and essentially set rescheduling terms and conditions without multilateral discussions with the suppliers concerned. Although the provision of a range of options under some of these schemes made them somewhat more palatable to creditors, the overall financial results, from the debtors’ perspective and over the longer term, are likely to be less desirable than in those cases where creditors and debtor have had the opportunity to work out a mutually satisfactory solution to the financing problems. Moreover, this approach raises a dilemma for official creditors in that, while they seek comparable treatment with nonguaranteed suppliers, they will not accept a unilateral debt rescheduling.
Overall, the limited recent experience suggests that the issue of comparability of treatment with nonguaranteed suppliers would need to be addressed for those debtor countries where such claims are large relative either to other types of debt or to the debt-servicing capacity of the country. However, there are practical and technical complications, the foremost being the lack of an effective channel of communication and a reliable information base, that need to be resolved on a case-by-case basis. Even debtor countries’ best efforts may well not result in broad comparability, and a certain degree of flexibility in approaches will be necessary.
Debt Owed by the Private Sector
The Paris Club, generally and as a matter of course, reschedules the debts of the private sector in the debtor country on the same terms and conditions as are applied for public sector debt. Official creditors are, however, the only creditor group that has well-established procedures for addressing the debt service of the private sector. Until recently, most bank rescheduling agreements covered only the debt of, or guaranteed by, the public sector in the debtor country. Furthermore, as noted in the preceding section, the majority of rescheduling countries have not attempted to establish procedures to address systematically non-guaranteed suppliers credits owed by either the public or private sectors.
The absence of generalized procedures for the restructuring of private sector debt may, at least in part, reflect the fact that in the past debt-servicing difficulties could generally be dealt with through rescheduling public sector debt. (Indeed, the Paris Club tradition of including private sector debt under the terms of Agreed Minutes was dictated primarily by concerns regarding equitable burden sharing among official creditors, who might have very different distributions of claims as between the public and private sectors.) However, in some countries, particularly in Latin America, private sector debt had grown rapidly in the years immediately preceding the current period of widespread debt-servicing difficulties. Generally, such borrowing was relatively short term and was often induced—sometimes intentionally—by the exchange rate, interest rate, and other policies pursued by the authorities. When the pace of international lending slowed abruptly in 1982, these countries were faced not only with heavy service obligations on private debts but also with a situation where essential policy adjustments, particularly the correction of substantially overvalued exchange rates, posed a threat to the liquidity and even the solvency of a large number of private sector firms. In these circumstances, several governments introduced schemes to require or induce the private sector to reschedule its debts in accordance with specified minimum terms; these schemes generally incorporated a preferential exchange rate, and sometimes special domestic credit arrangements, for the servicing of foreign debts thus rescheduled. Also, interest payments on rescheduled debts were sometimes given priority under an exchange allocation system.
While the Paris Club stands ready to reschedule private sector debts under its procedures, official creditors are not prepared to accept rescheduling terms set unilaterally by the debtor country, under either voluntary or compulsory rescheduling schemes. Moreover, exporters are normally instructed by official export credit insurance agencies that acceptance of these terms will result in a cancellation of their insurance in respect of the associated claim. Experience has shown, however, that the existence of such schemes can be compatible with a regularization of payments to official creditors if the debtor country also seeks a Paris Club rescheduling and if private sector debts to official creditors restructured on multilaterally negotiated terms remain eligible for the preferential exchange rate and other incentives made available to domestic debtors under the more general scheme.
The assessment of the liquidity or solvency of the local borrower at the time of a rescheduling is of particular importance under Paris Club procedures. When the bilateral agreements are negotiated, the debtor and creditor governments identify which private borrowers are incapable of repaying their debts in local currency. For private debt determined to be in default at the time of the conclusion of the bilateral agreement, the guarantee is executed and the debt is not subject to rescheduling. If, however, the private sector borrower is determined to be able to meet his obligations in local currency, the debt service is rescheduled and the debtor government normally assumes responsibility for repayments in foreign currency according to the schedule stipulated in the Agreed Minute.