Executive Summary

There have been significant developments in sovereign debt restructuring involving private-sector creditors since the IMF’s last stocktaking in 2014. Specifically:

• Over a dozen sovereign debt restructurings of private claims have been completed or are forthcoming. Compared with previous periods, recent restructurings have generally proceeded smoothly, were largely preemptive, and had a shorter average duration and higher average creditor participation, mainly due to the use of collective action clauses (CACs). However, sovereign debt restructurings in a few low income countries were protracted, incomplete, and non-transparent.

• Total sovereign debt has increased as a share of GDP. Debt instruments have become more diverse, including bonds, loans, collateralized debt contracts and repurchase agreements. The creditor base has also become diverse and more fragmented and creditor coordination has raised challenges in some recent restructurings.

• The uptake of enhanced CACs continues to be high. The two-limb aggregated voting mechanism of these clauses was first used in the recent Ecuador and Argentina restructurings. The single-limb voting mechanism has not yet been used.

• Targeted statutory tools, such as “anti-vulture fund legislation”, are in effect in a few advanced economies that complement the contractual approach to sovereign debt restructurings.

While the current contractual approach has been largely effective in resolving sovereign debt cases since 2014, it has gaps that could pose challenges in future restructurings.

• First, while enhanced CACs are a significant step forward in resolving collective action problems, there is still a large outstanding stock of international sovereign bonds without these clauses, and these clauses have only recently been started to be used.

• Second, other forms of debt, such as syndicated loans or sub-sovereign debt, often lack majority restructuring provisions for payment terms, increasing the potential complications in a restructuring where such debt is dominant.

• Third, the use of collateral and collateral-like instruments has increased, which has the potential to complicate sovereign debt restructurings.

• Fourth, the perennial issue of information asymmetry preventing common understandings of the perimeter of the restructuring operation and how each claim will be classified—continues to complicate inter-creditor equity and add tensions to restructurings.

Given these challenges, the note lays out several reform options for strengthening the resolution toolkit going forward.

• First, the current contractual approach could be further augmented on the margins to limit holdout behavior. The note considers the increased use of trust structures and inclusion of majority restructuring provisions for payment terms in loan agreements as potential avenues. State-contingent features may help deal with uncertainty and protect the sovereign from downside risk. Sub-sovereign entities should also be encouraged to include enhanced CACs in their foreign law-governed bonds, and be subject to a robust general insolvency regime in line with international best practice. Strengthened negative pledge clauses and their more rigorous enforcement, as well as improved debt authorization processes and disclosure, may disincentivize excessive collateralization.

• Second, as has been proposed in some quarters, there is a question about the desirability of wider use of targeted “anti-vulture fund” legislation of the kind already adopted in a few countries to complement the contractual approach by limiting holdout creditor recovery under certain circumstances. However, depending on their design, these options can raise important legal and policy issues and would need to be carefully tailored to accomplish their objectives.

• Third, given the role of IFIs, in particular the IMF, in supporting speedy and orderly debt restructurings, already planned reviews of key IMF policies could lead to further reforms that impact the current architecture. Consideration could also be given to a review of the effectiveness of relevant policies of other IFIs. Among other aims, these reviews could reconsider the role of the IMF and other IFIs in providing limited financing that would allow debtors to offer cash and/or credit enhancements in the context of a deep debt restructuring operation, facilitating agreement on a debt deal.

• Fourth, the international community should go further in supporting debt transparency and help countries to strengthen their debt management capacity ex ante, including through technical assistance.

• Finally, should a COVID-related systemic sovereign debt crisis requiring multiple deep restructurings materialize, the current resolution toolkit may not be adequate to address the crisis effectively and additional instruments may need to be activated at short notice. Since contractual reforms would require time to become effective, such instruments could only be either of a financial or statutory nature. The former could include IFI financing of cash or credit enhancements that lowers the risk, and hence increases the value, of the assets offered to creditors without reducing debt relief from the perspective of the debtor. However, to avoid undermining the de facto preferred creditor status of IFIs, the scale of such financing must necessarily remain limited. The latter could in principle include both targeted domestic law tools and international law options which could be used to limit creditor recovery or the timing of suits or immunize specified assets from attachment. These instruments raise significant legal and policy issues, would require careful consideration, and would be expected to be used only as a last resort and on a time-bound basis to address the unique challenges posed by the crisis.

The IMF has a rich work program on sovereign debt that will include a review of its key policies on sovereign debt:

• Explore ways to enhance the market-based approach and the sovereign debt resolution architecture, including through the greater use of state-contingent debt instruments.

• Strengthen ex ante debt management through continued IMF and World Bank technical assistance.

• Review of the debt limits policy.

• Review of debt sustainability analysis for market access countries (MAC DSA).

• Continue with the multi-pronged approach to addressing debt vulnerabilities, jointly with the World Bank.

• Review of arrears policies.

Approved By

Tobias Adrian, Martin Mühleisen and Rhoda Weeks-Brown