Global Risk Insights: Argentina pushes for global debt restructuring mechanism

This post was originally published on www.globalriskinsights.com

By Brian Daigle, October 4, 2014

Sovereign debt – the debt owed by countries to others, whether private or public – has always differed from conventional forms of debt. For example, the notion of bankruptcy takes on tricky dimensions when applied to whole countries: Do countries’ natural resources and land take the form of collateral? Are citizens expected to shoulder the costs with their own private incomes?

The effects of a single person, or even a company, restructuring its debt or filing for bankruptcy will likely cause modest ripples to the wider economy, while a country’s default could throw the world into recession.

Because of these and many other factors, several world leaders and prominent economists have argued that there should exist an international body that can adjudicate the restructuring of sovereign debts. Currently, no such international institution – a so-called sovereign debt restructuring mechanism, or SDRM – exists, though there is increased attention and pressure to create one. The cases of Belize (2007, 2013), Jamaica (2010, 2013), Greece (2012), and Grenada (today) show that this is an ongoing issue of increasing importance.

However, Argentina that is currently drawing the most attention. Judge Thomas Griesa’s surprise ruling on Argentine debt in June has spurred the recent call for a global SDRM. Judge Griesa of the U.S. District Court for the Southern District of New York ruled that Argentina would have to repay both its 2001 restructured debts and the debts held by holdout creditors suing to receive the full value of their assets concurrently.

Griesa also put teeth in the ruling, indicating that any bank that helped Argentina pay its interests on new bonds would be violating his federal court order, which ultimately forced Argentina into default. As it currently stands, Argentina is continuing to fight the ruling, while being frozen out of foreign investment as it grapples with its renewed default status.

The Argentine government has taken a strong PR response to its current financial dealings. President Kirchner has repeatedly called out both the so-called “vulture funds” (those who are suing to gain the full value of their debts, having purchased them at fire sale prices) and Judge Griesa.

The Argentine Congress has passed a law moving the payment location from New York to Argentina (which has no practical significance as Argentina’s assets are frozen in New York banks), and the Argentine government has spoken repeatedly to the international community regarding its current situation. Though it has the rhetorical support of many countries, ultimately this carries very little significance because it cannot be translated into action.

And so the question returns again to a global SDRM. Argentina has pushed in favor of a consultation to create a global SDRM under the auspices of the United Nations, with a final vote in a September 9 UN Assembly meeting which was strongly lopsided in favor of the “establishment of a multilateral legal framework for sovereign debt restructuring processes” (124-11, with 41 abstentions).

However, several major countries voted no or abstained (including the United States, Germany, France, Australia, and Canada) and the UN has no institutional framework to initiate such a global SDRM.

While the UN appears not to be the appropriate body to create a global SDRM – it will not gain the support of major donor/creditor countries – the IMF might prove to be an alternative solution for such an institution. In 2002, following Argentina’s 2001 default, the IMF issued a report advocating in favor of a “predictable, orderly, and rapid process for restructuring the debts of sovereigns.”

In May 2013, the IMF launched a series of discussions over sovereign debt restructuring, acknowledging that the “current market-based approach may need to be updated.” In late July 2014, chief economist for the IMF Olivier Blanchard argued that the recent case “tells us that we need to work on improving resolution mechanisms.”

Much uncertainty rests on the global debt restructuring mechanism. Opposition from the United States and some developing countries led to the fall of a global SDRM in 2002, and it remains to be seen whether or not the U.S. will also rebuff this current push by the international community.

The diplomatic headaches caused by the ongoing Argentina case, in addition to the United States’ left-leaning executive branch and Senate (in contrast to the Republican-controlled White House and Senate in 2002), could make U.S. support for a global SDRM more likely, provided it is structured through the IMF.

Ultimately, strong support from the developing world in favor of a global sovereign debt restructuring mechanism will not lead to an SDRM without support from OECD economies. The two groups differ on which body is appropriate to initiate an SDRM (UN vs. IMF/World Bank), and this has caused international tensions and a stalling in talks.

If the major nations of the developing realm shift their attention to an SDRM under the auspices of the IMF and lead the international discussion in that direction, this may provide the political capital to forge an SDRM and avoid the market fluctuations of the private sector’s unregulated system currently in place.

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