Opening Remarks for the Sovereign Debt Restructuring Mechanism Conference, By Mr. Horst Köhler, Managing Director, IMF

January 22, 2003

By Mr. Horst Köhler
Managing Director
International Monetary Fund
Washington DC, January 22, 2003

Ladies and gentlemen,

It is with great pleasure that I welcome you to the International Monetary Fund on the occasion of this conference to discuss how to deal with unsustainable sovereign debt, and the proposal of a Sovereign Debt Restructuring Mechanism, in particular.

In the past two decades, we have witnessed a dramatic increase in international capital flows, especially private flows. The rapid pace of integration of global markets has offered considerable opportunities for growth and development to a wide range of countries, and capital mobility has contributed to a better allocation of global investment resources. But these flows, both in scale and in volatility, also pose risks to debtors and creditors alike. While in most cases, sovereigns are able to service their debt, there have been instances in which sovereign debt has become unsustainable. Twenty years ago, when sovereign debt consisted mainly of syndicated bank loans, a debt restructuring - while never pleasant - was relatively straight-forward. But today, the market is characterized by an enormous diversity of debt instruments and a multiplicity of creditors. Argentina alone has some 700,000 retail creditors! As a result, debt restructuring has become much more complex. Moreover, there is a collective action problem, because while creditors as a group may be best served by agreeing to a restructuring, individual creditors may have an incentive to decline participating in a cooperative agreement and instead pursue aggressive litigation in an attempt to recover payment on the original contract terms.

To fill this gap in the system and address the collective action problem, I believe there is a case for the official sector to step in.

The proposal by the First Deputy Managing Director in the autumn of 2001 represented a bold attempt to outline a possible solution. The proposal has evolved since then, and while I realize that the evolution may have led to confusion in some quarters, I believe it was important to regard it as work in progress. On such central issues to the functioning of the international financial system, we should listen carefully to all parties involved, including the private sector. Any proposed solution is also likely to be of considerable complexity, as it seeks to balance carefully between solving a market failure and preserving contractual rights. I realize that some of our members believe we may have gone too far in our willingness to accommodate private sector concerns. There are legitimate issues for debate, and I am confident that this conference will provide ample opportunity for further discussion.

I see three objectives for the conference. First, it will be valuable to remind ourselves of the problem that a sovereign debt restructuring mechanism is trying to address. It is not to make sovereign default easier and more frequent, but rather, in those rare case where debt has become truly unsustainable, to make a messy process more orderly and preserve value for debtors and creditors alike. Second, I think an important objective of this conference will be to clarify the state of the discussion, and the nature of the proposals that we have made. I see the Fund as a participant in the search for better answers, not as dictating a single solution. We welcome all suggestions that can contribute to resolving the problems posed by unsustainable sovereign debt. And finally, while I have said that we regard our proposals as work in progress, it will be important to bring that work to a provisional close embodied in a single, clear, and understandable design. We have been asked by our Governors, in full unanimity, to formulate a concrete proposal by the time of our Spring meetings this April, and I see this conference as an important stepping stone in that process.

There are other proposals on the table how to deal with unsustainable debt, and I welcome this. The Sovereign Debt Restructuring Mechanism is not the only possible solution. Two other approaches are to include collective action clauses (CACs) in bond contracts and proposals for a voluntary code of good conduct. The IMF is fully engaged also in the discussion of these proposals, and I view them as complementary to a statutory approach.

Regarding CACs, we have long considered them as useful and important. The proposal has been on the table for some time, and in fact some markets already use them, although New York is not among them. But while they address the collective action problem for the bond issues in which they would be included, there is some question how valuable they would be in the immediate future when the existing stock of bonds largely lacks such clauses. Furthermore, in a world of highly diverse debt instruments, contractual clauses included in individual bonds raise difficult aggregation issues in a restructuring. These issues merit further discussion. Meanwhile, I fully support those who call on the private sector to move ahead forcefully on CACs as a clear demonstration of its commitment to contribute to finding practicable solutions.

The proposal of a code of good conduct draws on an important principle, namely that transparent guidelines of best practice can have a salutary effect in making markets work more effectively, the philosophy that has guided much of our work on standards and codes in recent years. And the experience in domestic insolvency cases would suggest that the presence of informal rules and procedures can be very helpful, and in many cases avoid recourse to the formal process altogether.

Ladies and gentlemen,

Globalization offers many opportunities, and integration in the world economy is surely the most potent instrument for poverty alleviation. But we need to invest in globalization to ensure that its opportunities are more widely shared and that its risks are contained. While it should not be our task to attempt to eliminate risk, we can and should play a role in providing the regulatory and institutional framework within which risks are taken. The framework that represents the architecture of the international financial system currently lacks a transparent and orderly approach to resolving cases of unsustainable debt. Progress in filling this gap will contribute in an important way to improving both crisis prevention and, in cases where a crisis is unavoidable, to its resolution. It is in the interest of all parties, private and public sectors, creditors and debtors, to work toward solutions that enjoy broad acceptance. I am optimistic that this conference will assist in this search process.

Thank you and I wish you an enjoyable day at our conference.


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