## ppea2020043 ## Source details **Canonical URL:** [ppea2020043](https://www.imf.org/-/media/files/publications/pp/2020/english/ppea2020043.pdf) ## Other formats - [Markdown version](/-/media/files/publications/pp/2020/english/ppea2020043.pdf.md) - [Structured JSON version](/-/media/files/publications/pp/2020/english/ppea2020043.pdf.json) --- ### Executive summary — recent patterns and challenges - Over a dozen sovereign debt restructurings of private claims have been completed or are forthcoming since 2014. - Recent restructurings generally: - proceeded smoothly, - were largely preemptive, - had a shorter average duration and higher average creditor participation, - benefited mainly from the use of collective action clauses (CACs). - A few low income countries' restructurings were protracted, incomplete, and non-transparent. - Total sovereign debt has increased as a share of GDP and debt instruments have become more diverse (bonds, loans, collateralized contracts, repurchase agreements). - Creditor base has become more diverse and fragmented, creating coordination challenges. - Uptake of enhanced CACs is high; the two-limb aggregated voting mechanism was first used in Ecuador and Argentina restructurings; the single-limb voting mechanism has not yet been used. - Targeted statutory tools (e.g., “anti-vulture fund legislation”) exist in a few jurisdictions to complement contractual approaches. ### Recent sovereign restructurings — patterns and outcomes - Cases since 2014 include Argentina (2020), Barbados (2019), Belize (2017), Chad (2018), Ecuador (2020), Grenada (2015), Mongolia (2017), Mozambique (2019), and Ukraine (2015); others underway or forthcoming (Republic of Congo, Lebanon, Venezuela, Zambia). - Several sub-sovereign/quasi-sovereign restructurings (City of Kiev, Puerto Rico, Argentine provinces, PDVSA). - Restructuring characteristics: - Number of cases referenced: nine debt restructuring cases since 2014. - Majority preemptive; four post-default (Argentina, Barbados, Grenada, Mozambique). - Bonds dominant; Chad involved only loans. - Average duration: 1.2 years on average (historical comparison: 3.5 years over 1978–2010). - CACs achieved full participation in over half of cases; no ex-post litigation with private creditors where CACs were used. - Preemptive restructurings tend to be quicker and impose lower output costs (prior research: preemptive cases quicker—1 year vs. 5 years for post-default; output costs after restructuring average about 2 percentage points lower GDP growth each year on average). ### State-contingent features and value recovery instruments (VRIs) - VRIs (e.g., GDP-linked warrants) provide upside to creditors but have been historically discounted due to illiquidity and idiosyncratic risk; past uses include Argentina (2005, 2010), Greece (2012), Ukraine (2015). - Other examples: citizenship-by-investment revenue-linked upside instrument in Grenada (2015); hurricane/natural disaster clauses in Grenada (2015) and Barbados (2018) allowing automatic maturity extensions and interest forbearance. - Caveats: measurement issues have led to unexpectedly low payouts in some GDP-linked bonds; state-contingent instrument payouts may be large relative to initial valuations. ### G20 DSSI and private-sector involvement (April–December 2020) - DSSI covers 73 IDA and UN Least Developed Countries current on IMF and WB debt service; official bilateral creditors suspend debt service payments due between May 1 and December 31, 2020; new repayments begin in June 2022 phased over three years in semi-annual installments. - Initiative is understood to be “NPV-neutral” (no reduction in nominal principal or interest; contractual rate of interest paid on deferred amounts). - Participation and outcomes as of August 11, 2020: - 43 of the 73 eligible countries (or 59 percent) made formal requests for the DSSI. - G20 estimates debt service deferral under the initiative likely to be on the order of US$ 5.3 billion. - Available information indicates the DSSI has not resulted in any deferral of debt service to the private sector to date. - Reasons for limited private creditor participation include lack of incentives for private creditors, reputational and market-access concerns for debtors, legal risks (potential triggering of defaults/cross-defaults), and ratings actions (Moody’s placed several participating countries on negative watch). ### Instruments, creditor base, and debt composition trends - External government debt of EMDEs increased from 14 to 24 percent of GDP between 2008 and 2018, driven by increased private-sector owed debt. - Domestic-law debt issuance increased; local currency debt remains majority share in EMs. - Fall in bilateral loans share matched by rise in commercial borrowing; bank loans constitute only 4 percent of the stock of emerging market commercial debt as of 2018. - In the 73 DSSI-eligible lower-income countries, non-bonded debt comprises 39 percent of aggregate PPG debt. - SOE external debt share steady at 12 percent; sub-sovereign entities, SOEs, and provincial governments increasingly issue foreign law-governed bonds in New York and England. - Implication: proliferation of instruments and creditor diversification increases future restructuring coordination challenges; domestic-law debt restructurings can be legally easier but risk financial stability via bank-sovereign links. ### Collateralized debt and sovereign repo arrangements - Collateralized bond and syndicated loans issued by EMDE public sector make up about 15 percent of EMDE bond and syndicated loan issues since 2002; issuance has been rising though below global financial crisis peak. - Example estimate: 52 commodity-backed loans to sub-Saharan Africa and Latin America totaling $164 billion between 2004 and 2018. - Collateral types: related (project-linked) and unrelated (e.g., budgetary borrowing secured by commodity exports); enforceability depends on collateral type and governing law. - Repo agreements: typical features include bonds or gold as collateral, execution through investment banks, typical term 3-4 years, frequent overcollateralization, mark-to-market collateral posting; risks include margin calls under stress and leverage of de facto secured creditors—recent sovereign repos were repaid (e.g., Argentina, Ecuador) rather than restructured. - Welfare implications ambiguous: collateral lowers opportunistic default and borrowing costs but inhibits restructuring and risk sharing; related collateral (future project flows) generally viewed as welfare-improving versus unrelated collateral. ### Creditor fragmentation and coordination - Fragmented creditor bases contributed to coordination challenges but were managed in recent cases. - Argentina: three creditor committees represented approximately 40-45 percent of eligible bonds; negotiations spanned more than six months before agreements. - Ecuador: three creditor committees and transparent engagement strategy achieved high participation; authorities obtained around 98.3 percent of aggregate principal amount agreeing to the exchange (consent solicitation and exchange invitation approved as of August 10, 2020). ### Uptake and effects of enhanced CACs - Since IMF endorsement in October 2014, almost all new international sovereign bond issuances included enhanced CACs. - As of June 30, 2020: around 690 international sovereign bond issuances since October 1, 2014, nominal principal approximately US$870 billion. - Approximately 91 percent of new issuances have included the enhanced CACs (compared with 88 percent as of end-October 2018). - Outstanding stock without enhanced CACs remains large: about 50 percent of outstanding international sovereign bonds as of end-June 2020 still do not include enhanced CACs; the outstanding stock without enhanced CACs declines slowly through amortization; about 30 percent of those bonds will mature in more than 10 years (about 40 percent of which are below investment grade). - Market evidence: bonds with enhanced CACs trade at a premium and at significantly lower yields in secondary markets, particularly for non-investment grade bonds (empirical sample September 2014 to March 2020). - Jurisdictional coverage: about 45 percent of nominal principal outstanding governed by English law and about 52 percent by New York law; enhanced CACs not included in issuances under Chinese and Japanese law generally. ### First uses of enhanced CACs — Argentina and Ecuador (2020) - Enhanced CACs used for the first time in Ecuador and Argentina exchanges. - Market haircuts: 41 percent in Ecuador; 50 percent in Argentina. - NPV haircuts: 42 percent in Ecuador; 36.2 percent in Argentina. - Two-limb voting mechanism used in both cases; Ecuador met both limbs for all aggregated series; Argentina met thresholds for all but two series. - Participation after CAC activation: - Ecuador: over 98 percent consented, resulting in 100 percent participation after use of CACs. - Argentina: over 93 percent consented, resulting in over 99 percent participation after CACs. - Operational concerns addressed by agreed resolutions: - Re-designation avoidance measures: re-designation only permitted if (i) bondholders given five business days to withdraw votes after offer close, or (ii) offer approved by holders of more than 66⅔ percent of originally designated pool. - “Pac Man” strategy constrained: debtor can only use single-limb cram down after first-round acceptance by more than 75 percent of aggregate principal; otherwise must wait at least 36 months. ### Other contractual and statutory techniques used - Minimum Participation Thresholds (MPTs): Ecuador conditioned exchange on achieving an MPT of 80 percent after CAC activation; Argentina used a complex MPT that could be met at much lower pre-CAC activation levels. - Exit consents used to make non-consenting instruments less attractive. - Non-tendering but participating bondholders could be treated materially worse than tendering bondholders in some exchanges, creating incentives to participate. - Targeted statutory tools—“anti-vulture fund” legislation—exists in a few jurisdictions (UK, Jersey, Isle of Man, Belgium, France) with varying scope and intent; limited evidence to date on effectiveness. - Domestic-law retrofitting of CACs used in Greece (2012) and Barbados (2018) to enable aggregated single-limb voting for domestic-law debt. ### Limitations and legal challenges to the contractual approach - Over 95 percent of international sovereign bonds include some form of CACs, but 50 percent of outstanding stock lacks enhanced CACs. - Holdout risk persists, especially where outstanding debt stock is small and holdouts can assemble blocking positions at low cost. - Merger doctrine risk: argument that early judgments could remove bondholders from CAC limitations if merger applies—issue untested in courts and could weaken contractual framework. - Non-bonded debt (syndicated loans, bilateral loans) often lacks majority restructuring provisions; syndicated loans typically require unanimous consent to amend payment terms, complicating restructurings. - Collateralized debt increases secured creditors' bargaining power and can delay restructurings; negative pledge clauses (NPCs) vary in coverage and enforcement and may contain loopholes. - Information asymmetries on claim classification and perimeter of restructuring add friction. ### Debt transparency and capacity development - Lack of debt transparency hampers rapid resolution and risk assessment; data gaps differ between bonds and loans. - Bond contract terms often more transparent but bondholder identities are not fully accessible to sovereigns; sovereigns often hire firms to collect bondholder information at restructuring time. - Loans and some official-sector loans remain opaque, with examples of undisclosed debt (Mozambique: two previously unreported external loans amounting to US$1.15 billion, 9 percent of GDP at end-2015). - Recommendations: enhance debt transparency, strengthen debt recording and reporting, increase debt management capacity, and provide technical assistance (IMF and World Bank). ### Reform options and policy recommendations - Augment contractual approach to limit holdout behavior: - Increased use of trust structures (trustee acts for bondholders as a group; pro rata sharing of litigation proceeds). - Inclusion of majority restructuring provisions for payment terms in loan agreements (model clauses to allow qualified majority amendments). - Use of state-contingent features (natural disaster clauses, commodity-linked features, GDP-linked instruments) to protect sovereigns from downside risk. - Encourage sub-sovereign entities to include enhanced CACs in foreign law-governed bonds and subject SOEs to robust general insolvency regimes. - Strengthen NPCs and improve authorization processes and disclosure to discourage excessive collateralization. - Consider targeted “anti-vulture fund” legislation in key jurisdictions, carefully tailored to limit holdout recovery without undermining creditor rights or secondary markets. - Reassess IFI roles and policies: - Review IMF policies (planned reviews in 2021 of lending-into-arrears and IMF role in pre-default restructurings). - Consider limited IFI financing to enable cash sweeteners, buybacks, or credit enhancements in deep restructurings—scale must remain limited to avoid undermining IFIs’ de facto preferred creditor status. - Review effectiveness of other IFIs’ policies. - Prepare contingency instruments for potential COVID-related systemic sovereign debt crisis: - Financial instruments: limited IFI financing of cash or credit enhancements to raise feasibility of deep restructurings—limited scale. - Statutory instruments: targeted domestic/international law tools on timing of suits or immunization of specified assets—last-resort, time-bound measures raising significant legal/policy issues. ### IMF work program and follow-up actions - IMF will undertake a broad work program including: - Explore ways to enhance the market-based approach and sovereign debt resolution architecture, including greater use of state-contingent debt instruments. - Strengthen ex ante debt management through IMF and World Bank technical assistance. - Review of the debt limits policy. - Review of debt sustainability analysis for market access countries (MAC DSA). - Continue multi-pronged approach with the World Bank to address debt vulnerabilities. - Review of arrears policies. - Review IMF practices on lending-into-arrears and pre-default restructuring engagement (to be reviewed in 2021). _Excerpts from the IMF document ppea2020043 (selected pages provided)._ ### EXECUTIVE SUMMARY ### EXECUTIVE SUMMARY ### Recent developments in sovereign debt restructurings (post-2014) - Over a dozen sovereign debt restructurings of private claims have been completed or are forthcoming. - Recent restructurings have generally: - proceeded smoothly, - were largely preemptive, - had a shorter average duration and higher average creditor participation, - benefited mainly from the use of collective action clauses (CACs). - A few low income countries' restructurings 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 become more diverse and more fragmented, creating coordination challenges in some recent restructurings. - The uptake of enhanced CACs continues to be high. - The two-limb aggregated voting mechanism 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 to complement the contractual approach. ### Gaps and challenges in the current contractual approach - There remains a large outstanding stock of international sovereign bonds without enhanced CACs, and enhanced CACs have only recently started to be used. - Other forms of debt, such as syndicated loans or sub-sovereign debt, often lack majority restructuring provisions for payment terms, increasing potential complications when such debt is dominant. - The use of collateral and collateral-like instruments has increased and can complicate restructurings. - Information asymmetry persists, preventing common understandings of the perimeter of the restructuring operation and classification of claims; this complicates inter-creditor equity and adds tensions. ### Reform options and possible enhancements - Augment the contractual approach on the margins to limit holdout behavior: - Increased use of trust structures. - Inclusion of majority restructuring provisions for payment terms in loan agreements. - Use of state-contingent features to deal with uncertainty and protect sovereigns from downside risk. - Encourage sub-sovereign entities to include enhanced CACs in foreign law-governed bonds. - Ensure sub-sovereigns are subject to a robust general insolvency regime in line with international best practice. - Strengthen negative pledge clauses and their enforcement. - Improve debt authorization processes and disclosure to disincentivize excessive collateralization. - Consider targeted “anti-vulture fund” legislation to limit holdout creditor recovery under certain circumstances: - These options can raise important legal and policy issues and would need careful tailoring to accomplish objectives. - Reassess the role and policies of IFIs, particularly the IMF: - Planned reviews of key IMF policies could lead to reforms that impact the current architecture. - Consider a review of the effectiveness of relevant policies of other IFIs. - Reconsider IFI roles in providing limited financing to allow debtors to offer cash and/or credit enhancements in deep restructurings to facilitate agreement on a debt deal. - Enhance debt transparency and strengthen countries’ debt management capacity ex ante, including through technical assistance. - Prepare contingency instruments for a potential COVID-related systemic sovereign debt crisis requiring multiple deep restructurings: - Financial instruments could include limited IFI financing of cash or credit enhancements that lower risk and increase asset value offered to creditors without reducing debtor-perspective debt relief; the scale must remain limited to avoid undermining IFI preferred creditor status. - Statutory instruments could include targeted domestic law tools and international law options to limit creditor recovery, the timing of suits, or to immunize specified assets from attachment; these raise significant legal and policy issues and would be last-resort, time-bound measures. ### IMF work program and follow-up actions - The IMF will undertake a rich work program on sovereign debt including reviews of its key policies: - Explore ways to enhance the market-based approach and the sovereign debt resolution architecture, including through 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. _Executive Summary, The International Architecture for Resolving Sovereign Debt Involving Private-Sector Creditors, September 23, 2020._ ### SECTION I. EVOLUTION OF THE SOVEREIGN DEBT ### SECTION I. EVOLUTION OF THE SOVEREIGN DEBT LANDSCAPE ### A. Recent sovereign debt restructurings — patterns and outcomes - Since 2014, enhanced CACs were introduced and widely adopted in recently issued international bonds. - Countries that have restructured privately-held sovereign debt since 2014 include: Argentina (2020), Barbados (2019), Belize (2017), Chad (2018), Ecuador (2020), Grenada (2015), Mongolia (2017), Mozambique (2019), and Ukraine (2015). Other restructurings are forthcoming or underway (e.g., Republic of Congo, Lebanon, Venezuela, and Zambia). - Several sub-sovereign or quasi-sovereign restructurings have also been completed or are ongoing (examples: City of Kiev, Puerto Rico, a number of Argentine provinces, PDVSA). - Restructuring characteristics since 2014: - Number of cases referenced: nine debt restructuring cases since 2014. - Majority were preemptive (pre-default); four cases were post-default (Argentina, Barbados, Grenada, and Mozambique). - Bonds were the dominant instrument restructured; Chad was the only case involving only loans. - Average duration of restructurings (from announcement or default until debt settlement): 1.2 years on average. - Historical comparison: average duration for privately-held external debt restructurings over 1978–2010 was 3.5 years. - Among cases since 2014, CACs were used to achieve full participation in over half of cases, and no ex-post litigation with private creditors has arisen in cases where CACs were used. - Restructuring outcomes linked to timing: - Preemptive restructurings tend to be quicker and impose lower output costs than post-default restructurings (cited findings: preemptive cases quicker—1 year vs. 5 years for post-default in prior research; output costs after restructuring average about 2 percentage points lower GDP growth each year on average, with smaller output costs when restructuring is preemptive or quick). ### B. State-contingent instruments and clauses used in restructurings - Use of state-contingent features to incentivize participation and protect sovereigns from downside risks: - Value recovery instruments (VRIs), e.g., GDP-linked warrants: - Provide upside to creditors in good scenarios to bridge creditor-debtor differences on growth and debt-serviceability. - Historically discounted by creditors due to illiquidity and idiosyncratic risk; usefulness may be limited. - Examples of past use: Argentina (2005 and 2010), Greece (2012), Ukraine (2015). - Upside instrument tied to revenues from a citizenship-by-investment program used in Grenada (2015). - Hurricane and natural disaster clauses included in Grenada (2015) and Barbados (2018): - Allow automatic maturity extensions and interest forbearance following severe shocks. - Seen as low-cost insurance against exogenous risks; ICMA produced a draft term sheet for such clauses following an ECCB-promoted initiative. - Caveats: - Some GDP-linked bonds have suffered measurement issues that led to unexpectedly low payouts. - Payouts on state-contingent instruments in some cases may ultimately be quite large relative to initial valuations. ### C. G20 Debt Service Suspension Initiative (DSSI) and private-sector involvement - DSSI overview: - Launched April 2020; covers 73 IDA and UN Least Developed Countries current on their IMF and WB debt service. - Official bilateral creditors commit to suspend debt service payments due between May 1 and December 31, 2020. - New repayments are due to begin in June 2022 and are phased over three years in semi-annual installments. - Initiative is understood to be “NPV-neutral” (no reduction in nominal principal or interest; contractual rate of interest paid on deferred amounts). - Participation and outcomes as of August 11, 2020: - 43 of the 73 eligible countries (or 59 percent) have made formal requests for the DSSI. - The G20 estimates debt service deferral under the initiative likely to be on the order of US$ 5.3 billion. - To date, available information indicates the DSSI has not resulted in any deferral of debt service to the private sector. - Reasons for limited private creditor participation (summary of Box 1 findings): - Private creditors lacked incentives: rescheduling on DSSI-comparable terms would generally have implied extending maturities at below-market interest rates, inflicting losses on most private creditors. - Debtor countries lacked incentives: potential benefits of a private-sector request were often viewed as smaller than potential costs, including reputational concerns, fears of ratings downgrades, transactions costs, loss of market access, and concerns about adverse legal implications. - Legal risks: requesting private relief could potentially trigger event of default or cross-default clauses in private debt contracts, possibly leading to acceleration or litigation; IIF drafted a model waiver agreement to mitigate such concerns, but it was not used to secure broad private-sector participation. - Ratings actions: one agency (Moody’s) placed several participating countries on a negative watch; agencies warned that requesting private-sector participation on G20-comparable terms could lead to a downgrade. - Contexts where private participation did occur: private-sector involvement may be more feasible in deep restructurings or when required for official sector support (example noted: Ecuador reprofiled international bonds through a consent solicitation; Belize also reprofiled its international bond through a consent solicitation). ### D. Instruments, creditor base, and debt composition trends - External and domestic debt developments: - Total external government debt of EMDEs increased from 14 to 24 percent of GDP between 2008 and 2018, driven by increased debt owed to the private sector. - Debt issued under domestic law has also increased. - Creditor base and instrument mix: - Fall in the share of bilateral loans in total external debt by 7 percentage points is broadly matched by a rise in the share of commercial borrowing by 8 percentage points. - Bank loans declined in importance for commercial general government borrowing and as of 2018 make up only 4 percent of the stock of emerging market commercial debt. - In the 73 DSSI-eligible lower-income countries, non-bonded debt comprises 39 percent of aggregate public and publicly guaranteed (PPG) debt. - The share of external debt from state-owned enterprises (SOEs) has remained steady at 12 percent; coverage gaps in SOE data are a key concern. - Sub-sovereign entities, SOEs, and provincial governments increasingly issue foreign law-governed bonds in New York and England. - Local-currency and governing-law patterns: - Local currency debt of governments continued to grow relative to 2017 across EMs and LICs and remains the majority share of total public debt in EMs. - For advanced economies, almost all debt is governed by domestic law; emerging markets show more variance in governing law. - Regional notes: largest shares of local-currency government debt are in the Asia Pacific region; most significant increases by region occurred in Asia Pacific and Africa and Middle East. - Countries with the lowest local-currency debt shares are LICs outside the Asia Pacific region; sovereign issuers in Africa and the Caribbean are more heavily reliant on commercial foreign-currency debt. - Restructuring implications: - The proliferation of debt instruments and diversification of the creditor base imply future restructurings may face greater challenges achieving high participation. - Restructuring of domestic-law debt can be legally easier but may pose risks to financial stability (e.g., bank-sovereign nexus) and lead to further debt difficulties. *Source: SECTION I. EVOLUTION OF THE SOVEREIGN DEBT LANDSCAPE (ppea2020043).* ### 11. Collateralized bond and syndicated loans issued by EMDE public sector make up about ### 11. Collateralized bond and syndicated loans issued by EMDE public sector make up about ### Prevalence and trends - Collateralized bond and syndicated loans issued by EMDE public sector make up about 15 percent of EMDE bond and syndicated loan issues since 2002. - Issuance has been rising since the beginning of the decade, although it remains below its peak at the global financial crisis. - Data coverage caveat: the data misses direct (non-syndicated) lending, for which no systematic data sources exist. - Example of limited-scope estimates: a recent report identified 52 commodity-backed loans to sub-Saharan Africa and Latin America totaling $164 billion between 2004 and 2018. ### Definition and enforceability of collateral - A debt instrument is collateralized when the creditor has a lien over an asset or revenue stream that would allow it to rely on the asset or revenue stream to secure repayment of the debt in case of default. - Types of collateral: - Related collateral: directly related to the purpose of the financing (e.g., project or acquisition financing). - Unrelated collateral: collateral unrelated to the financed purpose (e.g., budgetary borrowing secured by commodity exports). - Enforceability depends on: - Type of collateral. - Governing law of the jurisdiction where the collateral is located. - Typical enforceability hierarchy (generally speaking): - Escrow accounts in the lender’s jurisdiction are the most readily enforceable (but typically cover only a small portion of the loan). - Assets located outside the borrowers’ jurisdiction (e.g., equity shares in a company). - Movable assets (e.g., oil cargoes) can also be subject to enforcement actions. - Assets within the borrower’s jurisdiction are typically harder to enforce. ### Costs and benefits to borrowers - Benefits: - Lower borrowing costs on collateralized debt. - Costs: - Debt is much harder to restructure in the face of a bad shock. - Borrowing on non-collateralized debt may become more expensive. - Related collateral is generally preferable to unrelated collateral because it: - Preserves some risk sharing. - Makes it less likely that collateralized lending will be used for consumptive purposes. - Legal and market design measures (e.g., negative pledge clauses) can help mitigate adverse effects on unsecured creditors. ### Welfare implications (Box 2) - Net welfare effect of collateralized borrowing is ambiguous because: - Collateral reduces opportunistic default and lowers borrowing costs (positive welfare effect). - Collateral inhibits restructuring and risk sharing in adverse shocks (negative welfare effect). - A form of collateralization generally viewed as welfare improving: - Borrowing collateralized using the future flow receivable generated by the project being financed. - Rationale: insures the creditor against opportunistic default while preserving risk sharing because there is no collateral if the project fails. - Additional distortions that complicate welfare analysis: - Weak governance or government overconsumption. - Lack of transparency. - Debt dilution. - In such settings, collateral can: - Allow incumbents to borrow cheaply, saddling future generations with secured debt that is much harder to renegotiate. - Raise borrowing costs on unsecured debt because unsecured lenders may not know how much debt is collateralized and may fear increased loss-given-default. - Policy note: IMF and World Bank have generally considered related collateral to be less problematic than unrelated collateral. ### Sovereign repurchase (repo) agreements - Some sovereigns have borrowed using sovereign repurchase (repo) agreements, which have features similar to collateralized agreements. - Typical repo contract features: - Bonds newly issued by the debtor or gold are used as collateral for cash lending. - Typically executed through an investment bank which the sovereign commits to repurchase at the end of the term (typically 3-4 years). - Generally involve a high degree of overcollateralization (sometimes in excess of 100 percent). - Require borrowers to post mark-to-market collateral against a decrease in the value of the underlying collateral. - Advantages cited by sovereigns: - May allow sovereigns to raise funds more quickly than through a formal issuance process. - Take advantage of lower interest rates. - Help avoid saturating their institutional investor base when facing large issuance needs over short periods. - Risks during stress episodes: - Sovereign creditworthiness deterioration and falling bond prices can force borrowers to post variation margin while facing liquidity pressures. - Repos can lead to significant problems and raise leverage of de facto secured creditors at the expense of other creditors. - Recent episodes: such sovereign repos were repaid (e.g., Argentina, Ecuador) rather than restructured. ### Creditor fragmentation and coordination in restructurings - Fragmentation of the creditor base contributed to challenges in creditor coordination in recent bond restructurings but were managed in those cases. - Argentina restructuring: - Three separate creditor committees formed, representing in total approximately 40-45 percent of the eligible bonds. - Other bondholders did not join committees; one large bondholder negotiated directly with the government. - Different committees had different negotiation views, complicating coordination; an agreement in principle with all committees was eventually reached after negotiation rounds spanning more than six months. - Ecuador restructuring: - Creditor base was diverse and three creditor committees were formed. - Authorities facilitated creditor coordination through a transparent engagement strategy, achieving high creditor participation in the exchange. - During renegotiations, authorities publicly noted that the larger creditor committee had already expressed support, helping reach bondholder approval of around 60 percent in aggregate prior to the launch of the exchange offer. - Later announcement: on August 10, 2020, authorities stated the consent solicitation and exchange invitation had been approved by a majority of eligible bondholders, and they had obtained around 98.3 percent of the aggregate principal amount agreeing to the exchange. ### Uptake and use of enhanced contractual provisions (CACs) - Uptake of enhanced Collective Action Clauses (CACs) in new bond issuances: - Since IMF endorsement in October 2014, almost all new international sovereign bond issuances have included enhanced CACs. - As of June 30, 2020, there have been around 690 international sovereign bond issuances since October 1, 2014, for a total nominal principal amount of approximately US$870 billion. - Approximately 91 percent of new issuances have included the enhanced CACs (compared with 88 percent as of end-October 2018). - Enhanced CACs have not been included in issuances outside the primary jurisdictions; in particular, issuances under Chinese and Japanese law do not include these clauses (Japanese law bonds continue to use series-by-series CACs; Chinese law bonds largely use either series-by-series or two-limb aggregated CACs). - Outstanding stock and transition timeline: - About 50 percent of outstanding international sovereign bonds as of end-June 2020 still do not include enhanced CACs. - The total outstanding stock without enhanced CACs continues to decline slowly through amortization. - About 30 percent of those bonds will mature in more than 10 years (about 40 percent of which are below investment grade). - Almost all international sovereign bonds include some forms of CACs even if they lack the single-limb voting mechanism. - Market evidence: - Recent empirical analysis finds bonds with CACs trade at a premium to those without them, indicating value to investors. - A recent paper (Chung and Papaioannou, 2020) finds bonds with enhanced CACs trade at significantly lower yields in secondary markets, particularly for non-investment grade bonds. - Jurisdictional and market harmonization developments: - As a share of nominal principal, about 45 percent of the total stock outstanding of international sovereign bonds are governed by English law and about 52 percent by New York law. - Euro-Area finance ministers agreed in principle to incorporate updated CACs with a single-limb voting mechanism into all Euro-Area sovereign bonds as of January 1, 2022 (implementation subject to approval and ratification via amendments to the ESM Treaty). - ICMA Enhanced CACs menu (Table 3) — voting procedures and thresholds: - Series-by-Series: Voting threshold 75% (per series). - Aggregated Two-limb: Voting threshold 66⅔% (aggregate), 50% (per series). - Aggregated Single-limb: Voting threshold 75% (aggregate). - Empirical timing note: - The empirical analysis sample cited is from September 2014 to March 2020 and did not include the period when market price differentiation began to show in Ecuador and Argentina restructurings in 2020. *International Monetary Fund — excerpt from "The International Architecture for Resolving Sovereign Debt Involving Private-Sector Creditors"* ### 18. Investors appear to have ### 18. Investors appear to have ### Investors’ differentiation and bond pricing in restructurings - Investors differentiated bonds with enhanced CACs from those with traditional CACs at times of debt distress in recent debt restructuring cases. - Market participants noted that investors focus on CACs and value the bond differently at times of debt distress. - Example: In the Ecuador (2020) restructuring, the sole bond (maturing in 2024) without enhanced CACs traded at a premium compared to bonds with enhanced CACs. - Example: In the Argentine restructuring, bonds issued during Argentina’s 2005 and 2010 bond exchanges (which had two-limb CACs with higher voting thresholds and provided greater legal protections) traded at higher prices than bonds issued in and after 2016 (which included enhanced CACs). - Caveat: Differences in legal provisions may have played a role in pricing differences; other factors could also have influenced Argentine bond prices (e.g., the 2005/2010 bonds had been previously restructured and contained additional terms whose impact cannot be separated from the price impact of the CACs). ### Use and outcomes of enhanced CACs in recent exchanges - Enhanced CACs were used for the first time in the recent Ecuador and Argentina bond exchanges. - Market haircuts: 41 percent in the case of Ecuador and 50 percent in the case of Argentina. - The NPV haircuts were 42 percent in Ecuador and 36.2 percent in Argentina. - In both cases, the two-limb voting mechanism under the enhanced CACs was used. - Ecuador: both limbs of the voting thresholds were met with respect to all aggregated series. - Argentina: CACs thresholds were met with respect to all but two bond series. - Participation and activation outcomes: - Over 98 percent of creditors consented to the Ecuador exchange, resulting in 100 percent participation after the use of CACs. - Over 93 percent of creditors consented to the Argentine exchange, resulting in over 99 percent participation after CACs. ### Operational issues and creditor concerns (Box 4) - Re-designation concern: - Debtors reserved the right to “re-designate” at any time—which series of bonds would be aggregated together for voting purposes. - Creditors feared re-designation could allow debtors to “gerrymander” voting pools to maximize cram down of holdouts, undermining procedural fairness and integrity. - Resolution adopted in both cases: re-designation of voting pools will only be permitted if (i) bondholders are given five business days after the exchange offer closes to withdraw their votes, or (ii) the offer was approved by holders of more than 66⅔ percent of the aggregate principal amount of the originally designated pool. - “Pac Man” strategy concern: - Debtor could launch one or more subsequent exchange offers after an initial exchange to bind holdouts by using enhanced single-limb CACs (aggregated threshold only). - Strategy could include both holders who consented to the initial exchange and those who held out; if aggregate threshold met, holdouts would be bound regardless of per-series support. - Creditor concerns heightened when combined with re-designation. - Resolution adopted in both cases: debtor can only “Pac Man” if in the first-round restructuring, holders of more than 75 percent of the aggregate principal amount of all bonds included in the original restructuring offer accept the deal. If the first-round restructuring does not meet this 75 percent threshold, the sovereign must wait at least 36 months before using a single-limb vote to cram down remaining holdouts. - Parties agreed to include language in the new exchange bonds to limit the use of certain legal techniques in future restructurings. ### Other legal and contractual techniques used alongside CACs - Minimum Participation Thresholds (MPTs): - Ecuador conditioned its exchange offer on achieving an MPT of 80 percent after the activation of CACs. - Purpose: to encourage participation by ensuring restructuring only proceeds if a critical mass of creditors consents. - Note: Argentina’s offer included a complex “minimum participation condition” which could be met at much lower participation levels (as little as 42 percent prior to the activation of CACs and about 60 percent after activation of CACs). - Exit consents: - Used to modify existing instruments held by non-consenting bondholders to make them less attractive and more difficult to enforce (e.g., limiting legal remedies, narrowing waivers of sovereign immunity, eliminating certain creditor protections). - Ecuador’s use of exit consents eliminated certain provisions that would otherwise have ensured existing bonds could not be left with terms less favorable than the exchange bonds. - Less favorable financial treatment for holdouts via CACs: - Bondholders who did not tender but are bound by the restructuring through CACs were not given additional compensation in the form of deferred interest on their bonds. - Ecuador: bondholders who tendered certain eligible bonds received 86 percent of the accrued and unpaid interest on such bonds covering a specified time period, in the form of a zero-coupon bond maturing in 2030. - Argentina: bondholders who tendered certain eligible bonds received a USD 1.00 percent 2029 Bond or Euro 0.500 percent 2029 Bond (depending on the type of New Bonds), in an aggregate principal amount determined by reference to interest accrued and unpaid on such eligible bonds. - Ecuador: payment terms in existing bonds held by non-consenting bondholders were amended to match the longest-dated exchange bond (matures in 2040). - Argentina: non-consenting holders were mandatorily exchanged for new bonds that, in some cases, have the least favorable maturity structure and do not contain creditor protections in the event of a future, more favorable offering. - Novelty: non-tendering but participating bondholder has its claim impaired and is treated materially worse than tendering bondholders—an incentive to participate beyond typical exit consents. ### Targeted statutory tools and domestic-law approaches - Some countries have adopted targeted statutory tools to complement contractual frameworks and limit holdout risks. - “Anti-vulture fund legislation” examples (adopted by a small number of jurisdictions): - The UK: Debt Relief (Developing Countries) Act 2010. - UK territories of Jersey and Isle of Man: Debt Relief (Developing Countries)(Jersey) Law 2013, Heavily Indebted Poor Countries (Limitation on Debt Recovery) Act 2012. - Belgium: Loi relative à la lutte contre les activités des fonds vauteurs 2015. - France: LOI n° 2016-1691 du 9 décembre 2016 relative à la transparence, à la lutte contre la corruption et à la modernisation de la vie économique. - Scope and intent vary: - UK law focused on limiting claims in UK courts to prevent recovery on pre-2004 sovereign debt of HIPC debtors on terms more favorable than HIPC Initiative agreements. - Belgian law is broader, applying to the debt of any sovereign and curtailing enforcement by secondary-market purchasers when claims are “clearly disproportionate” to the secondary-market purchase price (subject to judicial determination). - French law focuses only on debts purchased after its 2016 entry into force and forbids court authorization for seizure of assets of certain beneficiaries of official development assistance under specified conditions. - Effectiveness: these laws have not yet been invoked in many cases and there is little evidence to date about their effectiveness. - Domestic-law retrofitting of CACs: - Greece (2012) and Barbados (2018) used domestic legislation to retrofit collective action mechanisms into domestic-law debt, enabling single-limb votes and achieving full participation in domestic exchanges. - Greece: enacted legislation enabling €177 billion of Greek law-governed bonds to be restructured via aggregated single-limb voting; holders of approximately €152 billion (approximately 85.8 percent) accepted and consented, meeting requisite thresholds. - Barbados: Debt Holder (Approval of Debt Restructuring) Act passed October 31, 2018; restructuring binding where (1) creditors holding at least 50 percent of aggregate outstanding principal amount voted; and (2) among voting creditors, holders of 75 percent of aggregate outstanding principal amount voted in favor. Agreement of over 90 percent of domestic creditors was announced on October 14; transaction closed on November 19. ### Challenges to the current framework and limitations of enhanced CACs - Overarching challenge for bonded debt: ensuring creditors contribute to restructurings where needed, that creditors are bound by majority decisions, and that restructurings are not disrupted and delayed by actions not in the interest of creditors as a whole. - Enhanced CACs are a significant step forward in mitigating collective action problems in international sovereign bonds but have limitations: - Holdouts can still disrupt restructurings given the large outstanding stock of international sovereign bonds without enhanced CACs. - There is very limited operational experience with enhanced CACs. - Creditors may still be able to hold out. - Additional challenges: - For non-bonded debt, changes to payment terms typically require unanimous creditor consent—especially challenging where syndicated loans or bilateral loans represent a significant portion of debt stock. - Restructurings are particularly difficult when countries have provided collateral to certain creditors, enabling secured creditors to enforce collateral. - Information asymmetry and lack of clarity on the perimeter of and treatment of claims continue to add friction to restructurings. *International Monetary Fund — THE INTERNATIONAL ARCHITECTURE FOR RESOLVING SOVEREIGN DEBT INVOLVING PRIVATE-SECTOR CREDITORS (excerpts).* ### 26. While enhanced CACs have become the market standard, they have some limitations: ### 26. While enhanced CACs have become the market standard, they have some limitations: ### Limitations of enhanced CACs and holdout risk - Over 95 percent of international sovereign bonds include some form of CACs, but 50 percent of the outstanding stock lacks enhanced CACs. - Holdout behavior remains possible under the single-limb voting mechanism of enhanced CACs, particularly in countries where the total outstanding debt stock is relatively small and a holdout could assemble a blocking position at fairly low cost (see Figure 10). - CACs may be absent in international bonds issued by sub-sovereigns (such as provinces) and state-owned enterprises (SOEs), potentially complicating a restructuring and putting further financing pressure on the sovereign, especially in countries with significant financial ties to large, commodity-based SOEs. ### Creditor judgments, merger doctrine, and collective action mechanisms - Legal arguments have been asserted that bondholders who obtain a judgment against a defaulting sovereign prior to the operation of a CAC would no longer be affected by such clause under the doctrine of “merger” under U.S. and English law. - If a creditor can show the sovereign is in breach of contract and obtain a judgment, that creditor could be removed from contractual limitations and not be subject to collective action mechanisms. - Views diverge among practitioners and academics on the application of this doctrine to collective action mechanisms; the issue has not been tested in courts and could, if viable, seriously weaken the contractual framework for addressing collective action problems. - Despite some high-profile litigation (e.g., Argentina’s 2001 default), creditor litigation has not generally blocked private-sector debt resolution; in most cases creditors were not successful in seizing assets or disrupting restructurings. ### Non-bonded debt: instruments and obstacles to majority restructuring - Debt instruments other than international bonds often lack majority voting provisions to modify payment terms and can account for a significant share of debt in many LICs. - Syndicated bank loans: - Require consent of all members of the syndicate to amend payment terms. - Complicated by transfers of interest or loan participations, creating varied fiduciary concerns and risk tolerance across creditors. - Contain amendment provisions (majority or super-majority lenders provisions) that can facilitate high participation when coupled with exit consents, but loan terms are not standardized and vary greatly. - Domestic law-governed debt generally does not include majority restructuring provisions; collective action clauses can be used but market practices are not established. - Arbitral awards against sovereigns can be significant (equivalent to a sizable share of GDP) and may be enforced separately; under the merger doctrine such award-holders could possibly be found not bound by CACs even if originating from a bond contract. - Contingent liabilities, including government-guaranteed private debt, may complicate restructurings as the sovereign may need to assume or include such claims within the perimeter. ### Foreign-law debt of sub-sovereigns and SOEs - Foreign-law debt contracted by sub-sovereign entities and SOEs poses unique challenges and vulnerabilities that can feed back to the sovereign even if not explicitly guaranteed. - Inclusion of CACs in foreign law-governed sub-sovereign bonds varies: - English law-governed bonds generally include clauses allowing a majority of holders to amend payment terms. - New York law-governed bonds show no uniform practice—some include enhanced single-limb CACs or other CACs, while others do not include CACs at all. - Some sub-sovereign and SOE debt is collateralized with revenue streams from natural resources, creating further complications. ### Insolvency, collateral, and negative pledge clauses (NPCs) - Application of insolvency law to SOEs can ensure creditors share resolution burdens and limit public cost, but many SOEs may not be subject to general corporate insolvency law or special resolution rules. - Sovereigns may be unwilling to use insolvency procedures for strategically important SOEs. - Collateralized debt increases the duration and cost of debt resolution: - Secured creditors can enforce collateral and receive proceeds, reducing incentives to participate in restructuring. - Collateral over essential assets or payment streams (e.g., oil revenues, strategic company shares) gives secured creditors significant bargaining power and can delay restructurings and fresh external financing. - Negative pledge clauses (NPCs) vary in coverage and enforcement: - NPCs disincentivize certain collateralization but normally include carve-outs and exceptions that are extensively negotiated. - Drafting varies by transaction and is not always vigorously enforced. - Failure to transparently disclose secured borrowing, coupled with weak governance or low public debt management capacity, creates information asymmetries among creditors. ### Information asymmetries and classification of claims - Lack of clarity on claim classification (official vs private) heightens inter-creditor equity concerns and can create uncertainty over the perimeter and treatment terms of a restructuring, affecting prospects for agreement. - Claims on SOEs, state-owned banks, or development banks may be classified as sovereign or private depending on linkages to the sovereign or whether the entity lends on the sovereign’s direction or behalf. - Clear upfront principles for treatment of different claims and clear communication by debtor and creditors can mitigate inter-creditor equity concerns. - Macro-uncertainty (e.g., volatile commodity prices) increases uncertainty in restructurings and widens differences of view between debtors and creditors on repayment capacity. - Enhanced debt transparency, including on treatment of claims in the restructuring, is needed; state-contingent debt instruments and value-recovery instruments are topics for further work. *International Monetary Fund — THE INTERNATIONAL ARCHITECTURE FOR RESOLVING SOVEREIGN DEBT INVOLVING PRIVATE-SECTOR CREDITORS (excerpt)* ### 36. While much has been achieved, significant improvement is also needed in the area of ### 36. While much has been achieved, significant improvement is also needed in the area of ### Debt transparency - Lack of debt transparency: - Hampers rapid resolution of debt distress and undermines risk assessments by creditors and other stakeholders. - Data gaps differ between bonds and loans regarding information on debt amount, terms of financial contract, and holder of debt. - Bonded debt: - Information on debt amounts and contract terms is generally more transparent, as many prospectuses are issued publicly (although many bond indentures are not publicly available), unless bonds are issued as a private placement. - Information on bondholders is available partially through commercial platforms such as Bloomberg. - Sovereigns do not have access to central securities depositories (CSD) data on bondholder identities; bondholder identities may change frequently due to secondary market activity. - At the time of a restructuring, sovereigns often have to hire a firm to collect information on bondholders. - Information on holders of domestic debt may be available from the CSD often run by the central bank or other government-owned entity. - Limited information on bondholders, together with diverse and atomized creditor base, can delay and complicate restructuring negotiations. - Loans and certain official-sector loans: - Information on the debt amount and terms of contract including collateralization features remains opaque (example: undisclosed debt in Mozambique). - Side letters defining additional requirements outside contracts can exacerbate lack of transparency. - The imposition by lenders of confidentiality clauses creates information asymmetries and lack of transparency. - Mozambique example: - Two large previously unreported external loans revealed to IMF staff in April-June 2016. - The two loans amounted to US$1.15 billion (9 percent of GDP at end-2015), contracted in 2013 and 2014 by two SOEs with government guarantees, allegedly for maritime projects. ### A. Enhanced Contractual Approach — overview - Enhanced contractual approach remains generally appropriate but can be strengthened to limit disruptive holdout behavior. - IMF staff has considered further use of trust structures, state-contingent features, standardized majority restructuring provisions for payment terms in loan agreements, and strengthened NPCs. - Enhanced CACs have contributed to achieving high participation in recent restructurings (first uses in Ecuador and Argentina). - ICMA is reviewing the continued appropriateness of enhanced CAC design; IMF staff will continue working with issuers and market participants on this review. - Sovereigns have not pursued voluntary liability management operations to replace bonds without enhanced CACs with bonds with enhanced CACs due to concerns such as cost. ### Trust structures - Purpose and differences: - Trust structures provide additional protections against disruptive holdout enforcement actions. - Under an FAA, the fiscal agent serves as agent of the issuer, mainly responsible for payments. - Under trust structures, a bond trustee acts on behalf of, and has responsibilities to, bondholders as a group. - Trust structures limit individual creditor enforcement actions and require pro rata distribution of litigation proceeds among all bondholders. - Key distinguishing features: (i) only the trustee can commence litigation to collect accelerated amounts; (ii) proceeds collected are shared amongst all bondholders. - Short-term alternative: - Bonds issued under FAAs could be amended to include sharing clauses to achieve ratable sharing of proceeds among creditors. - Market practice and costs: - Trust structures prominent in international sovereign bonds issued under New York law; issuances under English law almost exclusively use FAAs. - A number of large emerging market issuers under New York law (such as Mexico and Chile) have switched to trust structures from FAAs. - Share of new international sovereign bond issuances since October 1, 2014 using trust structures is approximately 33 percent (in nominal principal terms), of which approximately 92 percent are issued under New York law and approximately 8 percent under English law. - Continued preference for FAAs, particularly among lower-income countries issuing under English law, may reflect (slightly) higher costs associated with trust structures. - Historical note: - The bonds in both the recent Ecuador and Argentina restructurings were all issued under trust structures. ### Sub-sovereign debt - Further work required to deepen understanding of challenges posed by sub-sovereign debt. - IMF staff monitoring inclusion of CACs in international law bonds issued by sub-sovereign governments and large SOEs, and their collateralization, to better understand trends and practices. - IMF will encourage countries to: - Subject SOEs to a robust general insolvency regime, in line with international best practices, to ensure creditors contribute to resolution of SOE financial problems and limit public cost of rehabilitation. - Encourage sub-sovereign entities to include enhanced CACs in their international bonds. ### Model majority restructuring clauses for payment terms in syndicated loans - Proposal: - Consider developing model clauses focused on specific areas of reform—similar to enhanced CACs—to allow a qualified majority of lenders to agree to amend payment terms (that currently require unanimity). - Potential benefits and limitations: - Could facilitate restructuring of loans issued under syndicated loan agreements and provide predictability versus reliance on exit consents. - Preliminary market feedback mixed: - Some indicated a model clause might be helpful. - Others highlighted limited impact because a significant portion of sovereign loans are bilateral, not syndicated. - Potential creditor pushback due to limitation of voting power and possible regulatory reasons (e.g., minority stake affecting capital requirements). - Process and timeline: - Further consultation and cooperation between official and private sectors essential. - Such reform would take considerable time and thus have limited near-term effectiveness in facilitating restructurings. - Broader standardized agreements: - Developing entire standardized agreements is broader but presents challenges: costs likely outweigh benefits; main transaction documents in restructuring are borrower- and deal-specific; legal documentation is important but not determinative of speed and success of restructuring. - Extensive consultation required; time to develop model agreements detracts from benefits in an upcoming sovereign debt restructuring scenario. ### Negative pledge clauses (NPCs) - Problem: - Excessive use of collateralization may pose challenges to sovereign debt restructuring. - Possible measures to address: - Improve transparency and strengthen NPCs through: - Enhanced authorization processes and accountability in borrower governments for creation of collateralized borrowings. - Greater transparency and reporting related to collateralized borrowings. - Concerted effort among official bilateral lenders, their state-owned banks and development agencies to only sparingly and very selectively structure collateralized loans. - Lenders should not seek security as a stopgap for inadequate financial and commercial due diligence or to enable investment in a project that is not otherwise financially sound. - Encourage creditors to uniformly respect other lenders’ NPCs (and related provisions). - Strengthening NPCs: - Perception among market participants that loopholes exist in NPCs that could be tightened. - Some agreements do not capture certain types of transactions (domestic currency transactions), certain entities (central government versus public sector), or all borrowing (bonds versus loans). - Strengthening clauses to capture more transactions could be considered to encourage sparing use of collateralization. - IMF practice: - The IMF has occasionally set conditionality to prevent contracting of new collateralized debt in certain IMF lending arrangements depending on member-specific circumstances and when critical for achieving program goals. - IMF may consider this issue in the broader forthcoming review of the IMF Debt Limits Policy. ### State-contingent features - Rationale and benefits: - State-contingent features can help protect the sovereign from downside risk, especially for natural disasters. - Many countries face higher frequency and greater intensity of natural disasters, disproportionately affecting vulnerable countries including small island economies. - Bond instruments with state-contingent features—extending debt service obligations when natural disasters hit—would provide breathing space for humanitarian needs and recovery efforts. - Extra time useful for capacity purposes in a full and deep restructuring. - More widespread issuance would allow investors to diversify risks across more countries, potentially reducing new issuance premium, liquidity premium, and aiding pricing. - May require coordinated issuance effort and review of regulatory treatment to avoid disincentives for lenders. - Creditor acceptance: - Greatest benefits realized if all creditors, including bilateral official lenders, accept such clauses; official lenders could lead market development by adopting such clauses (perhaps subject to comparability of treatment requirements). - Application to commodity price shocks: - Challenges exist for using state-contingent features for commodity price shocks: - Commodity-dependent small countries could benefit from breathing space. - Commodity prices are beyond most countries' control, easing fears of index manipulation present in GDP-linked bonds. - Lenders may be exposed to commodity price downturns, limiting desire to allow debt relief in a shock. - An approach similar to natural disasters could be applied to a narrow set of commodities and small countries. ### Value recovery instruments (VRIs) - Experience and challenges: - VRIs have had some success but challenges remain in restructuring cases. - VRIs may not always achieve high creditor participation because differences in perceptions between creditors and debtor can make these instruments expensive compared to fixed-value instruments. - VRIs may be more useful in restructuring SOEs and PPPs, which are more similar to corporate bankruptcies. - Design considerations for new VRIs: - Minimize measurement issues. - Avoid lagging indicators. - Structure payouts properly, including through floors and caps. ### B. Targeted Legislative Options - Question of desirability: - Consideration of broader use of targeted legislation to complement contractual approaches by limiting holdout creditor recovery; closer analysis needed to define desirable parameters to limit impact on creditors’ rights and avoid undermining the secondary market. - Jurisdictional focus: - Most effective in key jurisdictions under whose law most bonds are issued—New York and England—but need not be limited to them. - European Parliament has called for adoption by EU members of a regulation based on the Belgian variant of these laws. - New York has no such laws at present; UK legislation scope is limited to pre-2004 debt of HIPC-eligible debtor countries. - Need for careful tailoring: - Legislation would need parameters on coverage, types of debtors, types of claims, guidance on “acceptable” level of creditor profit, and identification of problematic creditor behavior. - Consider tying limitations to restructuring cases where the official sector has provided contributions, either with new financing or debt relief. - Further analytical work and market consultations required to determine appropriate balance. - Cautionary note: - Given small size of distressed debt funds, anti-holdout legislation should not discourage trading of sovereign debt for reasons unrelated to holdout behavior. ### C. Policies of International Financial Institutions (IFIs) - Role of IFIs and regional institutions: - Can support orderly and speedy sovereign debt restructurings of private-sector claims through: - Conditions under which IFIs (particularly the IMF) will lend to countries with unsustainable debts. - Support of debt restructurings that require upfront financing of credit enhancements, buybacks, or cash “sweeteners”. - IMF has an extensive work program on sovereign debt including a review of certain policies applicable to both channels; consideration could be given to review policies of other IFIs. - IMF lending conditions and incentives: - Conditions under which the IMF may lend to countries whose debt is deemed unsustainable on a forward-looking basis can create incentives for orderly and speedy restructurings. - If a sovereign’s debt is deemed unsustainable, the IMF is precluded from lending unless the member is taking steps to restore debt sustainability. - Lending-into-arrears (LIA) policy: - Post-default, LIA ensures the IMF lends into arrears only if: - (i) prompt IMF support is considered essential for implementation of the member’s adjustment program; and - (ii) the member is pursuing appropriate policies and making a good faith effort to reach a collaborative agreement with creditors. - Pre-default, the IMF requires assurances that a credible process is in train for a successful debt restructuring consistent with the IMF-supported program. - Policy review: - IMF practices and policies in both areas will be reviewed in 2021 to ensure their effectiveness. - The review will examine the IMF’s role in pre-default debt restructurings (well-established practice but not a formal policy) and recent experiences with the LIA policy, including cases with a more fragmented creditor base, raising questions on expectations of representative creditor engagement through creditor committees in complex cases. *International Monetary Fund — THE INTERNATIONAL ARCHITECTURE FOR RESOLVING SOVEREIGN DEBT INVOLVING PRIVATE-SECTOR CREDITORS (excerpts provided in source content).* ### 50. In some circumstances, it may make sense for IFIs to support debt restructurings, ### ppea2020043 - 50. In some circumstances, it may make sense for IFIs to support debt restructurings, ### IFI financing to support restructurings: rationale, forms, and risks - Rationale: IFI financing can raise the value of new instruments offered to private creditors and hence improve prospects for high participation for a given level of debt relief from the debtor perspective. - Possible forms of IFI support (within mandates): - Financing to sovereigns for debt buy-backs. - Purchases of high-quality collateral that “enhance” a debt exchange offer. - Cash sweeteners. - Partial guarantees on newly issued debt (noting that some IFIs, but not the IMF, may be able to offer these). - Historical precedent: - IMF and World Bank support during the “Brady deal” restructurings of the 1990s (support later discontinued, e.g., IMF policy for Debt or Debt Service Operations). - European Financial Stability Facility (EFSF) support for the 2012 Greek debt restructuring. - Economic mechanics note: - Debt relief from the debtor perspective should be evaluated at discount rates that do not embody a crisis risk premium; market risk premia used to discount newly issued debt in restructurings can be very high. In such circumstances, debtors may need to offer cash, short dated instruments, or partially collateralized long instruments rather than only risky long instruments—this requires upfront financing. If IFIs charge an appropriate risk premium to the debtor country, providing such financing could be an efficient use of IFI funds. - Key risks and limits: - Reduces IFI resources available for social support or boosting reserves. - Migration of claims from private investors to IFIs (claims on debtors move to IFI balance sheets), shrinking the cushion of private claims and complicating protection of IFIs’ de facto preferred creditor status. - Constrained by IFI financial resources and competing demands during systemic crises. - Not suitable for very large-scale use; should be carefully reviewed before deployment. ### Debt transparency - Recommendation: The international community should further support and pursue initiatives that enhance debt transparency; the IMF and the World Bank will jointly work on this as part of the multi-pronged agenda on debt. - IMF roles and tools to support transparency: - IMF policy (e.g., the LIC-DSF operationalized in July 2018, ongoing reviews of the market access countries DSA, and the debt limits policy emphasizing full debt disclosure). - Data provision and surveillance (Article VIII, Section 5). - Capacity development (strengthening members’ debt data recording, monitoring, and reporting). - Supporting other stakeholders’ transparency initiatives (such as those of the IIF). - Main responsibility: Transparency primarily lies with the sovereign and its creditors. ### Capacity development - Continued need: Provision of capacity development assistance to debtors remains critical to strengthen ex ante debt management capacity and reduce the need for restructurings. - Front-end priorities: - Increase debt management expertise and disseminate best practices. - Timely and comprehensive debt recording. - Strong governance safeguards for debt authorities. - Ongoing actions: IMF and World Bank have delivered extensive technical assistance where debt management is macro-critical; several G20-supported initiatives help continue this work across LICs and EMs. ### COVID-related systemic sovereign debt crisis: potential scale and implications - Context and projections: - June 2020 World Economic Outlook update highlighted that global public debt is projected to surge by 19 percentage points in 2020 to reach an all-time high. - The pandemic’s prolonged macroeconomic and financial impacts could lead to a wave of sovereign debt problems in EMDEs, potentially requiring deep restructurings with large creditor losses and protracted negotiations; in extreme scenarios, financial stability implications could arise. - Need for additional instruments if systemic crisis materializes: - Contractual reforms take time; additional instruments would need to be statutory or financial and used on a time-bound basis. - Financial instruments: IFI-financed cash or credit enhancements to narrow the gap between required debt relief and creditor losses, raising feasibility of deep restructurings. - Limitation: scale constrained by IFI resources and desire to avoid undermining IFIs’ preferred creditor position. - Statutory instruments: targeted “anti-vulture fund” legislation and other domestic/international law tools; measures focusing on timing of lawsuits or immunizing specified sovereign assets from judicial actions (attachment). - Precedent: U.N. Security Council Resolution No. 1483 of May 22, 2003, which encouraged a prompt restructuring of Iraq’s debt and immunized Iraqi oil sales and proceeds from attachment; legal immunities lasted until 2011 (Resolution) and until 2014 (U.S. Executive Order). Under these protections, Iraq restructured most of its debt stock on terms giving Iraq debt relief of at least 80 percent. - Legal and policy considerations: - Such statutory or executive measures raise important legal and policy issues and could undermine enforceability of contractual rights or increase ex ante debt issuance costs if overused. - Expected to be last-resort, time-bound measures tailored to the crisis. ### Conclusions and policy next steps - General assessment: - Contractual framework remains generally appropriate; recent restructurings have tended to be smoother, shorter in duration, and have higher creditor participation, largely due to CACs. - No ex-post litigation with private creditors has arisen when CACs were used. - Areas to strengthen: - CACs: Continue promotion and periodic updates on inclusion of enhanced CACs in international sovereign bonds; encourage sub-sovereign entities to include enhanced CACs in foreign law-governed bonds. - Trust structures: Encourage sovereign issuance under trust structures. - Model majority restructuring loan clauses for payment terms: Develop with official and private sectors and encourage adoption. - Negative Pledge Clauses: Promote greater disclosure about collateral use, enhanced authorization processes for borrowers, increased awareness to respect NPCs, and more rigorous enforcement of NPCs to disincentivize excessive proliferation of collateralized debt. - Transparency: Further enhance debt transparency and encourage creditors and sovereigns to clarify the perimeter of claims upfront. - State-contingent features: Consider increased use, particularly to protect debtors against downside risks (e.g., natural catastrophes). - Insolvency regime: Ensure SOEs are subject to a robust general insolvency regime in line with international best practices. - Targeted statutory tools: Further explore limited use of targeted statutory tools (e.g., “anti-vulture fund” legislation) to complement contractual approaches—carefully designed to limit impact on creditors’ rights and avoid undermining secondary markets. - Capacity development: Continue IMF, World Bank, and relevant entities’ technical assistance and training in debt management and debt data reporting. - IMF work program on sovereign debt (selected items): - Explore ways to enhance the market-based approach and the sovereign debt resolution architecture, including through 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 the multi-pronged approach to addressing debt vulnerabilities, jointly with the World Bank. - Review of the arrears policies. - Final policy caveat: IFI financing of cash or credit enhancements can lower risk and increase asset value offered to creditors without reducing debt relief for the debtor, but to avoid undermining IFIs’ de facto preferred creditor status, the scale of such financing must remain limited; statutory or international law options raise significant legal and policy issues and should be used only as last resort and on a time-bound basis. *Source: Excerpts from the IMF document ppea2020043 (selected pages provided).* ### References ### References ### Academic and working papers - Anthony, Myrvin, Impavido, Gregorio and van Selm, Bert, 2020, “Barbados’ 2018-2019 Sovereign Debt Restructuring – A Sea Change?”, WP/20/34. - Arslanalp, Serkan, Bergthaler, Wolfgang, Stokoe, Philip and Tieman, Alexander, 2018, ”The current landscape”, in: Sovereign Debt: A Guide for Economists and Practitioners, (Washington: International Monetary Fund). - Asonuma, Tamon and Trebesch, Christoph, 2016, “Sovereign Debt Restructurings: Preemptive or Post-Default”, Journal of the European Economic Association, Volume 14, Issue 1, pp. 175-214. - Asonuma, Tamon, Chamon, Marcos, Erce, Aitor, and Sasahara, Akira, 2019, “Costs of Sovereign Defaults: Restructuring Strategies, Bank Distress and the Capital Inflow-Credit Channel”, IMF Working Paper No. 19/69. - Asonuma, Tamon, Niepelt, Dirk and Ranciere, Romain G., 2018, “Sovereign Bond Prices, Haircuts and Maturity”, NBER Working Paper 23864. - Bardozzetti, Alfredo and Dottori, Davide, 2013, “Collective action clauses: how do they weigh on sovereigns?”, Bank of Italy, Economic Working Papers No. 897. - Borensztein, Eduardo, and Panizza, Ugo, 2009, “The Costs of Sovereign Default”, IMF Staff Papers, Volume 56, Issue 4, pp. 683-741. - Bradley, Michael and Gulati, Mitu, 2013, “Collective Action Clauses for the Eurozone”, Review of Finance, pp. 1-58. - Cruces, Juan J. and Trebesch, Christoph, 2013, ”Sovereign Defaults: The Price of Haircuts”, American Economic Journal: Macroeconomics, 5 (3): 85-117. - Eichengreen, Barry, Kletzer, Kennet and Mody, Ashoka, 2003, “Crisis Resolution: Next Steps”, National Bureau of Economic Research, Working Paper No. 10095. - Krueger, Anne, 2002, “A New Approach to Sovereign Debt Restructuring” (Washington: International Monetary Fund). - Mihalyi, David, Adam, Aisha and Jyhjong, Hwang, 2020, “Resource-Backed Loans: Pitfalls and Potential”, Report 27, Natural Resource Governance Institute, February 2020. - Sturzenegger, Federico, 2004, “Tools for the Analysis of Debt Problems”, Journal of Restructuring Finance, Volume 1, Issue 1, pp. 201–223. - Zettelmeyer, Jeromin, Trebesch, Christoph, and Gulati, Mitu, 2013, “The Greek Debt Restructuring: An Autopsy”, Economic Policy, Volume 28, pp. 513-563. ### IMF and World Bank publications and staff papers - International Monetary Fund and World Bank, 2018, G20 Notes on Strengthening Public Debt Transparency (Washington). - International Monetary Fund and World Bank, 2020a, Collateralized Transactions: Key Considerations for Public Lenders and Borrowers (Washington). - International Monetary Fund and World Bank, 2020b, Public Sector Debt Definitions and Reporting in Low-Income Developing Countries (Washington). - International Monetary Fund and World Bank, 2020c, Staff Note for the G20 International Financial Architecture Working group (IFAWG)— Recent Developments on Local Currency Bond Markets in Emerging Economies (Washington). - International Monetary Fund and World Bank, Implementation Update on the Joint IMF-WB Multi-Prong Approach for Addressing Debt Vulnerabilities (forthcoming). - International Monetary Fund, 1999, Orderly & Effective Insolvency Procedures, Legal Department (Washington). - International Monetary Fund, 2003, Report of the Managing Director to the International Monetary and Financial Committee on a Statutory Sovereign Debt Restructuring Mechanism (Washington). - International Monetary Fund, 2013, Sovereign Debt Restructuring – Recent Developments and Implications for the Fund’s Legal and Policy Framework (Washington). - International Monetary Fund, 2014, Strengthening the Contractual Framework to Address Collective Action Problems in Sovereign Debt Restructuring (Washington). - International Monetary Fund, 2015a, Progress Report on Inclusion of Enhanced Contractual Provisions in International Sovereign Bond Contracts (Washington). - International Monetary Fund, 2015b, The Fund’s Lending Framework and Sovereign Debt—Further Considerations (Washington). - International Monetary Fund, 2016, Second Progress Report on Inclusion of Enhanced Contractual Provisions in International Sovereign Bond Contracts (Washington). - International Monetary Fund, 2017a, IMF Policy Paper, State-Contingent Debt Instruments for Sovereigns (Washington). - International Monetary Fund, 2017b, Third Progress Report on Inclusion of Enhanced Contractual Provisions in International Sovereign Bond Contracts (Washington). - International Monetary Fund, 2019, Fourth Progress Report on Inclusion of Enhanced Contractual Provisions in International Sovereign Bond Contracts (Washington). - International Monetary Fund, 2020a, The Evolution of Public Debt Vulnerabilities in Lower Income Economies (Washington). - International Monetary Fund, 2020b, World Economic Outlook Update (Washington). - International Monetary Fund, IMF Staff Discussion Note, Role of State-Contingent Debt Instruments and Value Recovery Instruments in Sovereign Debt Restructurings (forthcoming). - International Monetary Fund, IMF Board Paper, Issues in Restructuring of Sovereign Domestic Debt (forthcoming). ### Legal, market, commentary, and practitioner pieces - Buchheit, Lee and Gulati, Mitu, 2012, “Restructuring a Sovereign Debtor’s Contingent Liabilities”, SSRN. - Buchheit, Lee and Gulati, Mitu, 2019, “Sovereign Debt Restructuring and U.S. Executive Power”, Capital Markets Law Journal, Volume 14, Issue 1, pp. 114–130. - Buchheit, Lee and Gulati, Mitu, 2020, “The Argentine Collective Action Clause Controversy”, Capital Markets Law Journal (forthcoming 2020). - Buchheit, Lee and Hagan, Sean, 2020, “From Coronavirus Crisis to Sovereign Debt Crisis”, Financial Times. - Chung, Kay and Papaioannou, Michael, “Do Enhanced Collective Action Clauses Affect Sovereign Borrowing Costs?”, IMF, WP/20/162. - Hagan, Sean, 2020, “Sovereign debt restructuring: The centrality of the IMF's role“, Peterson Institute for International Economics Working Paper 20-13. - Loan Market Association, 2019, Guide to Syndicated Loans & Leveraged Finance Transactions (London). - Sobel, Mark, 2020, “Argentina and Creditors Enter New Round”, OMFIF. - Walker, Mark and Cooper, Richard, 2017, “Venezuela’s Restructuring: A Realistic Framework”, SSRN. - Walker, Mark and Chong, Alice, 2020, “Collective Action Clauses Reexamined: Thank you Argentina”, SSRN. - Weidemaier, Mark, 2019, “Restructuring Italian (Or Other Euro Area) Debt: Do Euro CACs Constrain or Expand the Options?”, UNC Legal Studies Research Paper. - Weidemaier, Mark, 2020a, “Judgments > CACs”, Credit Slips. - Weidemaier, Mark, 2020b, “Venezuela, Lebanon, and Tools to De-Fang ‘Rush-In’ Creditors”, Credit Slips. - Zandstra, Deborah, 2017, “New Aggregated Collective Action Clauses and Evolution in the Restructuring of Sovereign Debt Securities”, Capital Markets Law Journal, Volume 12, No. 2, pp. 180-203. - Buchheit, Lee and Gulati, Mitu, 2012, “Restructuring a Sovereign Debtor’s Contingent Liabilities”, SSRN. *Source: ppea2020043 - References* --- _Source: https://www.imf.org/-/media/files/publications/pp/2020/english/ppea2020043.pdf_