## Sovereign debt structures for crisis prevention

## Source details

**Canonical URL:** [Sovereign debt structures for crisis prevention](https://www.imf.org/-/media/websites/imf/imported-publications/external/pubs/nft/op/237/_op237.pdf)

## Other formats

- [Markdown version](/-/media/websites/imf/imported-publications/external/pubs/nft/op/237/_op237.pdf.md)
- [Structured JSON version](/-/media/websites/imf/imported-publications/external/pubs/nft/op/237/_op237.pdf.json)

---

### Overview and framing
- Purpose: "to stimulate debate on the issue of sovereign debt structures for crisis prevention."
- Work led by Paolo Mauro.
- Authors: Eduardo Borensztein, Marcos Chamon, Olivier Jeanne, Paolo Mauro, and Jeromin Zettelmeyer.
- Prepared under the general guidance of Raghuram Rajan.
- Acknowledgements: contributions from Jonathan Ostry, Anna Gelpern, Sean Hagan, Simon Johnson, Thomas Laryea, Priyanka Malhotra, Martin Minnoni, Usha David, Leslie Payton-Jacobs (EMTA), Kellett Hannah, and Archana Kumar (External Relations Department).
- Disclaimer: "The opinions expressed are solely those of the authors and do not necessarily reflect the views of the International Monetary Fund or its Executive Directors."

### Major themes and structure of the paper
- Part I — Overview:
  - "Two Views on the Status Quo"
  - "Debt Structures with Existing Instruments: Emerging Market Countries Versus Advanced Economies"
  - "Ideas for Sovereigns from the Corporate Context: Explicit Seniority"
  - "Expanding the Set of Instruments: Real Indexation"
  - "Toward Better Sovereign Debt Structures: A Road Map"
- Part II — Facts on Existing Public Debt Structures:
  - "Public Debt in Emerging Market Countries Versus Advanced Economies"
  - "Sovereign Versus Corporate Liability Structures"
- Part III — Rendering Debt Structures Less Crisis Prone with Existing Instruments:
  - "Problems with the Status Quo"
  - "Determinants of Government Debt Structure"
  - "Policy Implications"
- Part IV — Explicit Seniority in Privately Held Sovereign Debt:
  - "Economic Role of Seniority"
  - "Approaches and Obstacles in Implementing Explicit Seniority"
- Part V — Expanding the Set of Instruments: Indexation to Real Variables:
  - "Benefits of Indexation to Real Variables"
  - "Real Variables Beyond the Control of the Country’s Authorities"
  - "Real Variables Partially Within the Control of the Country’s Authorities"
  - "Obstacles for Variables Partly Within the Control of the Government"
  - "Steps to Foster Acceptance"
  - "Real Indexation: Which Variables for Which Countries?"
- Part VI — Past and Future of Innovation in Sovereign Borrowing:
  - "Financial Innovation in Sovereign Borrowing: A Haphazard Process"
  - "Road Maps for Future Innovation"
- Part VII — Conclusions

### Empirical and analytical content inventory (selected)
- Boxes (topics include): Debt Structure and Hedging; Creating Domestic Markets for Long-Term Domestic-Currency Bonds; Developing International Markets for Bonds in Emerging Market Currencies; Enforcing Contractual Seniority; Effect on Borrowing Costs of a Switch to First-in-Time Seniority; Proposals for Indexation to Real Variables; Benefits of GDP Indexation for Emerging Markets and Advanced Economies; Previous Examples of Indexation to Real Variables.
- Text tables (selected topics): External Sovereign Debt: Currency Composition, 1980–2003; Structure of Domestically Issued Government Bonds at End-2001; Structure of Total (Domestic and External) Central Government Debt, 2001; Percentage Share of the Top Three Exports in Total Exports, 1990–99; Top Five Natural Disasters by Percent of GDP Lost; Small Countries: Types of Disasters, 1975–2002; Output Growth and Trading Partners’ Growth, 1970–2002; Introduction of Inflation-Indexed Securities by Sovereigns.
- Text figures (selected topics): Public debt stocks and composition for advanced economies and emerging market countries; Structure of external public debt; Fixed- versus floating-rate sovereign bond issues; Maturity composition of internationally issued debt; Structure of public debt; Public sector bonds and loans issued in international markets; Impact of exchange rate depreciation on public debt-to-GDP ratio; Share of long-term local-currency bonds and inflation history; Institutional quality and domestically issued long-term local-currency debt; Interest savings over the economic cycle.
- Appendix: "Investors’ Attitudes Toward Growth-Linked and Other Innovative Financial Instruments for Sovereign Borrowers: Results of a Survey" with appendix tables and figures capturing investor responses (questions on obstacles and premium over plain vanilla bonds).

### Preface — framing and objectives
- Motivation:
  - Renewed attention due to steep increases in public debt levels in emerging market countries, highly visible crises, and pronounced changes in debt composition.
  - Broadens debate beyond crisis resolution to how government debt could be structured to pursue crisis prevention, international risk-sharing, and facilitate fiscal adjustment.
- The paper:
  - Considers analytical approaches to improving sovereign debt structure using existing instruments.
  - Reviews proposals including explicit seniority and GDP-linked instruments, with pros, cons, and practical challenges.
  - Identifies common sources of vulnerability and instruments/structures to enhance resilience.
  - Sets forth preliminary feasibility considerations.
- Authors of Preface: Paolo Mauro and Jeromin Zettelmeyer.

### Two Views on the Status Quo
- View 1 — History and inertia:
  - Current instruments inherited from historical accidents and persist due to inertia.
  - Reform costs and need for coordination among market participants.
  - Obstacles: coordination problems, need for “critical mass,” novelty premium and liquidity concerns, competitive markets limiting private incentives, need for standards and verifiable triggers, signaling concerns (fear of being perceived as weak).
- View 2 — Deeper problems:
  - Prevailing contracts reflect responses to difficulties enforcing contracts, lack of policy credibility, moral hazard, and weak domestic institutions.
  - Crisis-prone structures (heavy foreign-currency and short-term debt) may rationalize as discipline mechanisms or to minimize dilution.
  - Reforms that ignore underlying distortions can be counterproductive (example: taxes on short-term debt may shift investors to other hard-to-dilute instruments or reduce capital inflows).

### History and Inertia (key points)
- Reform requires coordination and potentially policy and parliamentary support.
- Financial innovations need a "critical mass" of adopters; otherwise investors demand a novelty premium.
- Standardization and verifiable triggers are crucial for adoption and market development.

### Deeper Problems (key points)
- Existing instruments can be optimal responses to enforcement and commitment problems: occasional crises discipline borrowing.
- Addressing inefficient outcomes may require strengthening domestic institutions and credibility.
- Restrictions changing debt composition can be circumvented or have unintended effects.

### Debt Structures: Emerging Markets versus Advanced Economies
- Observations:
  - Emerging markets find it relatively difficult to issue long-term debt in their own currencies; greater reliance on short-term and foreign-currency debt is associated with a higher frequency of debt crises.
  - Short-term debt (or debt indexed to short-term domestic interest rates) is associated with vulnerability to sudden shifts in market sentiment and vicious circles of rising interest costs.
  - Large shares of foreign-currency debt make depreciations suddenly render a country insolvent.
  - Only a handful of the largest economies issue debt denominated in their own currency on international markets.
  - Internationally issued bonds are relatively homogeneous (fixed-rate, relatively long maturities).
  - Domestic debt composition varies considerably; few emerging markets issue large amounts of long-term local-currency debt domestically, but use of short-term debt, inflation-indexed debt, and floating-rate debt is increasing.
  - CPI indexation is less likely than floating-rate and foreign-currency debt to amplify adverse shocks and tends to reduce crisis likelihood.
  - IFIs have often been first to issue bonds denominated in emerging market currencies (often combined with exchange rate swaps), tapping investor bases and contributing to market development.

### Ideas from the Corporate Context: Explicit Seniority
- Problem: Sovereign liabilities lack explicit seniority common in corporate liabilities, increasing exposure to debt dilution when new debt reduces recovery prospects for earlier creditors.
- Debt dilution consequences:
  - Investors may favor debt forms harder to dilute (short-term or hard-to-restructure), increasing crisis vulnerability and severity.
  - Dilution can encourage overborrowing when countries near default can place new debt cheaply, transferring value from existing creditors to new ones; at low debt levels, dilution may raise interest rates unnecessarily.
- First-in-time explicit seniority (concept and trade-offs):
  - Potential benefits: reduce borrowing costs at low debt levels, reward prudent borrowing, discourage overborrowing, reduce incentives to issue crisis-prone debt.
  - Potential risks: could prevent market access in illiquidity situations (raising liquidity-crisis likelihood), complicate pricing and increase borrowing costs during transition, sovereigns may circumvent seniority (direct bank loans in other jurisdictions, collateralized borrowing), and effects on restructuring dynamics are complex.
- Implementation approaches:
  - International statutes, national statutes in debtor and issuing jurisdictions, debt contracts, or combinations.
  - Main contractual difficulties: ensuring sovereigns adhere to first-in-time seniority for all subsequent borrowing and enforcing priority in restructurings.
- Paper stance: Proposes an approach to these issues, calls for further research; explicit seniority may help moderately indebted countries but could make market access harder for heavily indebted ones.

### Expanding the Set of Instruments: Real Indexation (GDP-linked and similar)
- Rationale:
  - Sovereigns lack equity; equity-like risk-sharing can be mimicked by instruments with payments indexed to real variables (e.g., GDP).
- Mechanics and benefits:
  - Payments rise when economic performance is strong and fall when weak, tending to stabilize the debt-to-GDP ratio.
  - Two main benefits: reduce likelihood of debt crises and reduce need for procyclical fiscal policies.
- Candidate variables:
  - Largely outside authorities' control: commodity prices, natural disasters, trading partner output — provide insurance but relevant to limited country groups.
  - Partly within authorities' control: GDP, exports — provide broader insurance but introduce challenges.
- Main obstacles:
  - Need for large-scale issuance to ensure market liquidity.
  - Investors' ability to hedge risks of holding such instruments.
  - Potential for opportunistic mismeasurement by country authorities of variables partly within their control.
  - Pricing complexity for innovative instruments.
- Potential solutions:
  - Large scale via debt restructurings or international coordination.
  - Diversification: if multiple emerging markets issue GDP-indexed bonds, international investors with diversified portfolios would find GDP risk well diversified due to typically low correlation of growth across emerging markets.
  - Reforms to mitigate mismeasurement: strengthen independence of national statistical agencies.

### Toward Better Sovereign Debt Structures: A Road Map
- Core principle: Improved debt structures are not substitutes for sound macroeconomic policies; sound policies are prerequisites for better debt structures and financial innovations.
- Country-level actions:
  - Create or deepen local-currency debt markets by issuing local-currency bonds with shorter maturities and inflation-indexed bonds for longer maturities.
  - Leverage private pension systems as demand sources for local-currency and inflation-indexed debt, and potentially GDP-indexed debt.
  - Manage sequencing where long-term local-currency debt holdings result from capital flow or asset-holding restrictions; establish credibility before lifting restrictions.
  - Small disaster-prone countries: consider disaster insurance if reasonably priced.
  - Commodity-reliant countries: increase hedging against price fluctuations.
  - Larger, diversified countries: could benefit from GDP-indexed bonds.
- Financial market participants:
  - Willingness to engage with the official sector is indispensable; shared initial costs lower individual burdens and can expand market opportunities (Brady bond example).
- Role of IFIs:
  - Continue to track short-term and foreign-currency debt as vulnerability indicators.
  - Encourage borrowing in local currency and with longer maturities while recognizing underlying problems that produce crisis-prone structures.
  - Consider conditionality on debt structure case-by-case, weighing potential costs such as reduced market access.
  - Continue to minimize IFI borrowing costs while recognizing market-development by-products when issuing in emerging market currencies; IFIs can work with authorities on initial issuance though staff cost considerations matter.
- Measures to aid emergence of inflation- or GDP-indexed instruments:
  - International dialogue among interested parties.
  - Strengthened independence of countries’ statistical agencies.
  - Technical assistance to improve quality and transparency of national income statistics.
- Longer-term institutional innovation:
  - Creation of an international debt registry to monitor seniority features of sovereign debt held by private agents is a potential longer-term step meriting further exploration.

### Further research priorities
- Determinants and consequences of domestic debt structures (including collection of domestic debt data for many countries).
- Empirical evidence on debt dilution and theoretical analysis of seniority in the sovereign context.
- Surveys of investors’ and borrowers’ attitudes toward financial innovation and related obstacles.
- Development of pricing models for currently underutilized financial instruments.

*Occasional Paper no. 237; HJ8011.S68  2004.*

*Source: _op237 - Preface*

### 1. Debts, public. 2. Financial instruments. I. Borensztein, Eduardo. II. Occa-

### Sovereign debt structures for crisis prevention

### Overview and framing
- Purpose: "to stimulate debate on the issue of sovereign debt structures for crisis prevention."
- Lead and authors:
  - Work led by Paolo Mauro.
  - Authors: Eduardo Borensztein, Marcos Chamon, Olivier Jeanne, Paolo Mauro, and Jeromin Zettelmeyer.
  - Prepared under the general guidance of Raghuram Rajan.
- Acknowledgements: contributions from Jonathan Ostry, Anna Gelpern, Sean Hagan, Simon Johnson, Thomas Laryea, Priyanka Malhotra, Martin Minnoni, Usha David, Leslie Payton-Jacobs (EMTA), Kellett Hannah, and Archana Kumar (External Relations Department).
- Disclaimer: "The opinions expressed are solely those of the authors and do not necessarily reflect the views of the International Monetary Fund or its Executive Directors."

### Major themes and structure of the paper
- Part I — Overview:
  - "Two Views on the Status Quo"
  - "Debt Structures with Existing Instruments: Emerging Market Countries Versus Advanced Economies"
  - "Ideas for Sovereigns from the Corporate Context: Explicit Seniority"
  - "Expanding the Set of Instruments: Real Indexation"
  - "Toward Better Sovereign Debt Structures: A Road Map"
- Part II — Facts on Existing Public Debt Structures:
  - "Public Debt in Emerging Market Countries Versus Advanced Economies"
  - "Sovereign Versus Corporate Liability Structures"
- Part III — Rendering Debt Structures Less Crisis Prone with Existing Instruments:
  - "Problems with the Status Quo"
  - "Determinants of Government Debt Structure"
  - "Policy Implications"
- Part IV — Explicit Seniority in Privately Held Sovereign Debt:
  - "Economic Role of Seniority"
  - "Approaches and Obstacles in Implementing Explicit Seniority"
- Part V — Expanding the Set of Instruments: Indexation to Real Variables:
  - "Benefits of Indexation to Real Variables"
  - "Real Variables Beyond the Control of the Country’s Authorities"
  - "Real Variables Partially Within the Control of the Country’s Authorities"
  - "Obstacles for Variables Partly Within the Control of the Government"
  - "Steps to Foster Acceptance"
  - "Real Indexation: Which Variables for Which Countries?"
- Part VI — Past and Future of Innovation in Sovereign Borrowing:
  - "Financial Innovation in Sovereign Borrowing: A Haphazard Process"
  - "Road Maps for Future Innovation"
- Part VII — Conclusions

### Empirical and analytical content inventory (as presented)
- Boxes (topics include): Debt Structure and Hedging; Creating Domestic Markets for Long-Term Domestic-Currency Bonds; Developing International Markets for Bonds in Emerging Market Currencies; Enforcing Contractual Seniority; Effect on Borrowing Costs of a Switch to First-in-Time Seniority; Proposals for Indexation to Real Variables; Benefits of GDP Indexation for Emerging Markets and Advanced Economies; Previous Examples of Indexation to Real Variables.
- Text tables (selected topics): External Sovereign Debt: Currency Composition, 1980–2003; Structure of Domestically Issued Government Bonds at End-2001; Structure of Total (Domestic and External) Central Government Debt, 2001; Percentage Share of the Top Three Exports in Total Exports, 1990–99; Top Five Natural Disasters by Percent of GDP Lost; Small Countries: Types of Disasters, 1975–2002; Output Growth and Trading Partners’ Growth, 1970–2002; Introduction of Inflation-Indexed Securities by Sovereigns.
- Text figures (selected topics): Public debt stocks and composition for advanced economies and emerging market countries; Structure of external public debt; Fixed- versus floating-rate sovereign bond issues; Maturity composition of internationally issued debt; Structure of public debt; Public sector bonds and loans issued in international markets; Impact of exchange rate depreciation on public debt-to-GDP ratio; Share of long-term local-currency bonds and inflation history; Institutional quality and domestically issued long-term local-currency debt; Interest savings over the economic cycle.
- Appendix: "Investors’ Attitudes Toward Growth-Linked and Other Innovative Financial Instruments for Sovereign Borrowers: Results of a Survey" with appendix tables and figures capturing investor responses (questions on obstacles and premium over plain vanilla bonds).

### Key policy and reform directions emphasized by the paper
- Use existing instruments more effectively to reduce crisis vulnerability by addressing:
  - Currency composition and maturity structure of public debt.
  - The relative roles of domestic- versus external-currency and short- versus long-term liabilities.
  - Determinants of government debt structure and related policy implications.
- Consider institutional innovations from the corporate context:
  - "Explicit Seniority" for privately held sovereign debt — its economic role, implementation approaches, and obstacles.
- Expand the set of sovereign instruments:
  - Indexation to real variables, including GDP and other real indicators, assessing benefits, variables inside and outside government control, obstacles, and steps to foster acceptance.
- Encourage financial innovation with road maps informed by past, often haphazard, innovation in sovereign borrowing.

### Notable methodological and definitional notes
- Symbols and conventions: use of . . . for unavailable data; — for zero or less than half the final digit; – for ranges (e.g., 2001–02); / for fiscal years (e.g., 2001/02); "n.a." means not applicable; "Billion" means a thousand million.
- Minor discrepancies between constituent figures and totals are due to rounding.
- Definition note: The term "country" may cover some territorial entities that are not states but for which statistical data are maintained and provided internationally on a separate and independent basis.

*Occasional Paper no. 237; HJ8011.S68  2004. Authors: Eduardo Borensztein, Marcos Chamon, Olivier Jeanne, Paolo Mauro, Jeromin Zettelmeyer.*

### Preface

### Preface

### Overview
- The way countries structure their public borrowing has long been considered an important determinant of economic performance.
- Recent renewed attention stems from steep increases in public debt levels in emerging market countries, a number of highly visible and damaging crises, and pronounced changes in the composition of those debts.
- This paper broadens the debate on sovereign debt beyond crisis resolution to ask how government debt could be structured to pursue objectives including crisis prevention, international risk-sharing, and facilitating fiscal adjustment to domestic economic conditions.
- The paper:
  - considers recently developed analytical approaches to improving the structure of sovereign debt using existing debt instruments;
  - reviews proposals—including the introduction of explicit seniority and GDP-linked instruments—in the sovereign context and discusses their pros and cons and related practical challenges;
  - identifies common sources of vulnerability and takes a first pass at identifying instruments and structures that could help achieve a more resilient debt structure; and
  - sets forth preliminary considerations about feasibility.

- Authors of this section: Paolo Mauro and Jeromin Zettelmeyer.

### Two Views on the Status Quo
- Two contrasting views explain existing sovereign debt structures:
  1. History and inertia view:
     - Current instruments are inherited from historical accidents and persist due to inertia.
     - Structures can be changed through reform, but reforms face substantial costs and require coordination among market participants.
     - Obstacles to innovation include:
       - Coordination problems and the need to ensure “critical mass” for new instruments (novelty premium and liquidity concerns).
       - The highly competitive structure of financial markets limiting private incentives to develop new instruments.
       - The need for standards to create liquid secondary markets and verifiable triggers for contingent payments (credit default swaps example).
       - Signaling concerns: countries may avoid innovations for fear they will be perceived as signs of weakness.
  2. Deeper problems view:
     - Prevailing contracts and market practices reflect responses to deeper problems such as difficulties in enforcing contracts, lack of policy credibility, moral hazard, and weak domestic institutions.
     - Crisis-prone debt structures (e.g., heavy foreign-currency and short-term debt) may be rationalized as mechanisms to discipline borrowers or minimize debt dilution.
     - Attempting reforms that change instruments without addressing underlying distortions could be counterproductive (examples: taxes on short-term debt may shift investors to other hard-to-dilute instruments or reduce capital inflows).

### History and Inertia (expanded)
- Reform requires coordination and possibly policy and parliamentary support; individual market participants may be unwilling to depart from market practice.
- Financial innovations often need a “critical mass” of adopters; otherwise investors demand a novelty premium.
- The need for standardization and verifiable triggers is crucial for instrument adoption and market takeoff.

### Deeper Problems (expanded)
- Existing debt instruments may be optimal responses to enforcement and commitment problems: occasional crises constrain defaults and discipline borrowing.
- Remedying inefficient outcomes may require addressing domestic institutional weaknesses and credibility problems.
- Restrictions aimed at changing debt composition (e.g., limiting short-term debt) could be circumvented or have unintended consequences.

### Debt Structures with Existing Instruments: Emerging Markets Versus Advanced Economies
- Two comparisons illuminate possible improvements:
  - Emerging market countries versus advanced economies highlights characteristics that make advanced economies less crisis prone.
  - Sovereigns versus corporates highlights the roles of equity and seniority in corporate liabilities with potential sovereign applications.
- Key observations:
  - Emerging markets find it relatively difficult to issue long-term debt in their own currencies; greater reliance on short-term and foreign-currency debt is associated with a higher frequency of debt crises.
  - Short-term debt (or debt indexed to short-term domestic interest rates) is associated with vulnerability to sudden shifts in market sentiment and vicious circles of rising interest costs.
  - Large shares of foreign-currency debt make depreciations suddenly render a country insolvent.
  - Only a handful of the largest economies issue debt denominated in their own currency on international markets; internationally issued bonds are relatively homogeneous (fixed-rate, relatively long maturities).
  - Domestic debt composition varies considerably; few emerging markets issue large amounts of long-term local-currency debt domestically, but there is increasing use of short-term debt, inflation-indexed debt, and floating-rate debt.
  - CPI indexation is less likely than floating-rate and foreign-currency debt to amplify adverse shocks and tends to reduce crisis likelihood; private pension funds can create a natural investor base for CPI-indexed instruments.
  - IFIs have often been among the first to issue bonds denominated in emerging market currencies (often combined with exchange rate swaps) to tap investor bases interested in such currencies without default risk, contributing to market development as a by-product.

### Ideas for Sovereigns from the Corporate Context: Explicit Seniority
- Sovereign liability structures lack the explicit seniority structures common in corporate liabilities, increasing exposure to debt dilution when new debt reduces recovery prospects for earlier creditors.
- Debt dilution consequences:
  - Investors may favor debt forms harder to dilute (short-term debt or debt costly to restructure), increasing vulnerability to crises and severity when they occur.
  - Dilution can encourage overborrowing when countries near default can place new debt cheaply because new creditors capture value from existing creditors’ claims; at low debt levels, dilution may raise interest rates unnecessarily.
- First-in-time explicit seniority could in principle eliminate dilution by giving priority to earlier debt issues:
  - Potential benefits: reduce borrowing costs at low debt levels, reward prudent borrowing, discourage overborrowing, and reduce incentives to issue crisis-prone debt.
  - Potential risks: could prevent access to markets in illiquidity situations (raising likelihood of liquidity crises), complicate debt pricing and increase borrowing costs during transition, risk circumvention by sovereigns (e.g., direct bank loans in other jurisdictions or collateralized new borrowing), and affect restructuring dynamics (not analyzed here).
- Implementation options include international statutes, national statutes in debtor and issuing jurisdictions, and debt contracts or combinations thereof.
- Main contractual difficulties:
  - Ensuring sovereigns adhere to first-in-time seniority for all subsequent borrowing.
  - Enforcing priority structure in restructurings.
- The paper proposes an approach to address these issues but calls for further research; explicit seniority may benefit countries with moderate debt levels but make market access harder for heavily indebted countries.
- The paper calls for further analysis and discussion of explicit seniority and other bond-contract enhancements to mitigate debt dilution.

### Expanding the Set of Instruments: Real Indexation (GDP-linked and similar)
- Sovereigns lack equity; equity-like risk-sharing can be mimicked by instruments with payments indexed to real variables such as GDP.
- Real indexation mechanics and benefits:
  - Payments rise when economic performance is strong and fall when it is weak, tending to stabilize the debt-to-GDP ratio.
  - Two main benefits: reduce the likelihood of debt crises and reduce the need for procyclical fiscal policies.
- Candidate indexation variables:
  - Variables largely outside authorities’ control (commodity prices, natural disasters, trading partner output) provide insurance but are relevant to limited country groups.
  - Variables partly within authorities’ control (GDP, exports) provide broader insurance but introduce greater challenges.
- Main obstacles to adoption:
  - Need for large-scale issuance to ensure market liquidity.
  - Investors’ ability to hedge the risk of holding such instruments.
  - Potential for opportunistic mismeasurement by country authorities of variables partly within their control.
  - Difficulties in pricing complex instruments.
- Potential solutions:
  - Large scale could be attained in debt restructurings or through international coordination.
  - If multiple emerging markets issue GDP-indexed bonds, international investors holding a diversified portfolio would find GDP risk well diversified due to typically low correlation of growth across emerging markets.
  - Reforms to mitigate mismeasurement include strengthening the independence of national statistical agencies.

### Toward Better Sovereign Debt Structures: A Road Map (policy implications and actors)
- Improved debt structures are not substitutes for sound macroeconomic policies; sound policies reduce crisis likelihood and are prerequisites for better debt structures and financial innovations.
- Suggested country actions:
  - Create or deepen local-currency debt markets by issuing local-currency bonds with shorter maturities and inflation-indexed bonds for longer maturities.
  - Leverage private pension systems as natural demand sources for local-currency and inflation-indexed debt, and potentially GDP-indexed debt.
  - Manage sequencing carefully where long-term local-currency debt holdings result from capital flow or asset-holding restrictions; credibility must be established before lifting restrictions.
  - Small disaster-prone countries should consider disaster insurance if reasonably priced; commodity-reliant countries should increase hedging against price fluctuations.
  - Larger, diversified countries could benefit from GDP-indexed bonds.
- Role of financial market participants:
  - Willingness to engage with the official sector is indispensable; shared initial costs lower individual burdens and can expand market opportunities (Brady bond example of official-sector–led innovation).
- Role of IFIs:
  - Continue to track short-term and foreign-currency debt as vulnerability indicators.
  - Encourage borrowing in local currency and with longer maturities while recognizing underlying problems that produce crisis-prone structures.
  - Consider conditionality on debt structure case-by-case, weighing potential costs such as reduced market access.
  - Continue to minimize IFI borrowing costs while recognizing market-development by-products when issuing in emerging market currencies; IFIs are well placed to work with authorities on initial issuance though staff cost considerations matter.
- Measures to aid emergence of inflation- or GDP-indexed instruments:
  - International dialogue among interested parties.
  - Strengthened independence of countries’ statistical agencies.
  - Technical assistance to improve quality and transparency of national income statistics.
- Longer-term institutional innovations:
  - Creation of an international debt registry to monitor seniority features of sovereign debt held by private agents is a potential step that would take longer to implement and merits further exploration.

### Further Research Priorities
- Determinants and consequences of domestic debt structures (including collection of domestic debt data for many countries).
- Empirical evidence on debt dilution and theoretical analysis of seniority in the sovereign context.
- Surveys of investors’ and borrowers’ attitudes toward financial innovation and related obstacles.
- Development of pricing models for currently underutilized financial instruments.

*Source: _op237 - Preface*

---


_Source: https://www.imf.org/-/media/websites/imf/imported-publications/external/pubs/nft/op/237/_op237.pdf_