Restructuring a Sovereign Debtor’s Contingent Liabilities

How should the contingent liabilities of a sovereign be treated in a general restructuring of the debts of that sovereign? This question has played only a minor role in past sovereign debt restructurings because the size of such contingent liabilities has in most cases been small. In recent years, however, slathering government guarantees on third party debt has become the tool of choice for many countries in their efforts to quell an incipient panic in their financial markets. Some of those sovereigns are now, or may soon be, in the position of needing to restructure their debts. Ignoring large contingent liabilities in a sovereign debt restructuring may plant a land mine on the road to debt sustainability once the restructuring closes. That said, the answers to the questions of whether and how to restructure contingent liabilities are not obvious. Is the restructurer to assume that some, all or none of those contingent liabilities will eventually wind up as direct claims against the sovereign? Even if the underlying instrument can be successfully restructured, the guarantee will typically stand as an independent obligation of the guarantor that will require separate treatment in the restructuring

Greek Debt: The Endgame Scenarios

Perhaps Greece -- a country with a debt to GDP already approaching 150 percent and set to move even higher -- avoids a debt restructuring. Perhaps not. What are the possible scenarios if Greece cannot return to the capital markets to refinance this gargantuan debt stock once its EU/IMF bailout package expires in two years time? What would a Greek debt restructuring look like after mid-2013? And (sharp intake of breath here) what would happen if such a debt restructuring were undertaken before that point

Targeted Subordination of Official Sector Debt

If Greece’s debt is unsustainable, and most observers (including the IMF) seem to think it is, the country’s only source of funding will continue to be official sector bailout loans. Languishing for a decade or more as a ward of the official sector is undesirable from all perspectives. The Greeks bridle under what they see as foreign imposed austerity; the taxpayers who fund the official sector loans to Greece balk at the prospect of shoveling good money after bad. The question then is how to facilitate Greece’s ability to tap the private capital markets at tolerable interest rates. The IMF’s answer? Write off a significant portion of the official European loans to Greece or, at the very least, stretch out the grace and repayment periods of those loans until the Crack of Doom. There may be an alternative -- persuading the official sector voluntarily to subordinate its credits, on a targeted basis, to new borrowings by Greece from the private markets. If the alternatives for the official sector are to lend the money itself (with the risk that the funds may never be recovered), or to write off their existing Greek loans now as a means of rendering the country presentable to the markets, subordination may be a more politically palatable option

Responsible Sovereign Lending and Borrowing

There are three reasons for attempting to reach a common understanding of the responsibilities of sovereign borrowers and their lenders. First, the flow of capital to sovereign debtors is exceptionally important to the world economy. Industrialized countries rely on it to finance their budget deficits, these days to a breathtaking extent. Developing countries need it to develop. Misbehaviour, either by the sovereign debtors or by the creditors, destabilizes this key component of the international financial system, making credit less available and more costly. Second, sovereign finance is uniquely unforgiving of mistakes. Unlike corporate or personal debtors, sovereigns do not have access to a formal bankruptcy process in which insupportable liabilities can be adjusted according to preestablished rules. From a legal standpoint, sovereign debts are therefore ineradicable absent the consent and cooperation of the creditors. Unfortunately, the process by which that consent and cooperation must be sought—sovereign debt restructuring —remains unpredictable and disorderly. Third, the human cost of prodigal sovereign borrowing, reckless sovereign lending or incompetent sovereign debt restructuring is incalculable. Perusing a major international newspaper on any day of any year is all that is required to make good this proposition. A consensus about the responsibilities of sovereign borrowers and lenders, together with improvements in the way in which sovereign loans are planned, executed, documented, and, when necessary, restructured, will directly affect the lives of most of the people that live on this planet

How to Restructure Greek Debt

Plan A for addressing the Greek debt crisis has taken the form of a €110 billion financial support package for Greece announced by the European Union and the International Monetary Fund on May 2, 2010. A significant part of that €110 billion, if and when it is disbursed, will be used to repay maturing Greek debt obligations, in full and on time. The success of Plan A is not inevitable; among other things, it will require the Greeks to accept - and to stick to - a harsh fiscal adjustment program for several years. If Plan A does not prosper, what are the alternatives? And how quickly could a Plan B be mobilized and executed? This paper outlines the elements of one possible Plan B, a restructuring of Greece’s roughly €300 billion of government debt. Prior sovereign debt restructurings provide considerable guidance for how such a restructuring might be shaped. But several key features of the Greek debt stock could make this operation significantly different from any previous sovereign debt workouts. To be sure, a restructuring of Greek debt will not relieve the country from the painful prospect of significant fiscal adjustment, nor will it displace the need for financial support from the official sector. But it may change how some of those funds are spent (for example, backstopping the domestic banking system as opposed to paying off maturing debt in full). This paper does not speculate about whether a restructuring of Greek debt will in fact become necessary or politically feasible. It focuses only on the how, not the whether or the when, of such a debt restructuring

Custom in Our Courts: Reconciling Theory with Reality in the Debate about Erie Railroad and Customary International Law

One of the most heated debates of the last two decades in U.S. legal academia focuses on customary international law’s domestic status after Erie Railroad v. Tompkins. At one end, champions of the “modern position” support customary international law’s (“CIL”) wholesale incorporation into post-Erie federal common law. At the other end, “revisionists” argue that federal courts cannot apply CIL as federal law absent federal legislative authorization. Scholars on both sides of the Erie debate also make claims about the sources judges reference when discerning CIL. They then use these claims to support their arguments regarding CIL’s domestic status. Interestingly, neither side of the debate has conducted an empirical analysis of what U.S. federal courts have actually done. This Article undertakes such an analysis and suggests that U.S. federal courts have, for the most part, behaved in a manner unanticipated by revisionists and modernists alike—the courts have followed themselves. After tracking the sources considered as evidence of CIL and cited in both pre-Erie and post-Erie case law, it turns out that, at all times before and after Erie in 1938, U.S. federal judges have relied primarily on domestic case law when making CIL determinations. Put starkly, the great Erie debate about CIL determinations in U.S. federal courts—and the authority the judiciary ought to attach to certain international sources—may have been occurring somewhat orthogonally to the fact that U.S. courts do not seem to pay much attention to these sources in practice

Walking Back From Cyprus

Last Friday, the European leaders trespassed on consecrated ground by putting insured depositors in Cypriot banks in harm’s way. They had other options, none of them pleasant but some less ominous than the one they settled on

Drafting a Model Collective Action Clause for Eurozone Sovereign Bonds

In the wake of the Eurozone sovereign debt crisis, the European financial authorities announced last November that all Eurozone sovereign bonds issued after mid-2013 must contain an identical collective action clause (CAC) in order, if necessary, to facilitate a restructuring of thoseinstruments. CACs in sovereign bonds have been the subject of considerable attention over the last ten years. They were introduced into sovereign bonds governed by U.S. law only in early 2003. Yet a surprising number of versions of the clause can be found in modern sovereign bonds. The history of the research and development of this contractual provision is, or at least ought to be, relevant to the drafting of the model Europeanversion of the clause

A People’s History of Collective Action Clauses

For two decades, collective action clauses (CACs) have been part of the official-sector response to sovereign debt crisis, justified by claims that these clauses can help prevent bailouts and shift the burden of restructuring onto the private sector. Reform efforts in the 1990s and 2000s focused on CACs. So do efforts in the Eurozone today. CACs have even been suggested as the cure for the US municipal bond market. But bonds without CACs are still issued in major markets, so reformers feel obliged to explain why they know better. Over time, a narrative has emerged to justify pro-CAC reforms. It relies on history and portrays CACs as novel solutions to previously-unappreciated coordination problems among bondholders. But this pro-CAC narrative is based on flawed premises. In this article, we trace the use of CACs in sovereign bonds during the 20th century. We show that CACs have been used for much of that time, although often in forms (such as trustee and collective acceleration clauses) that are no longer central to modern reform debates (which focus on modification clauses). Market participants have long been aware of CACs but did not view them as a necessary part of sovereign bond documentation. Indeed, we recount one episode in which sovereign debt was restructured without anyone seeming to notice that the relevant debt already included CACs. Contracts do not always include the optimal terms, and, at the margins, the sovereign debt markets might perform better if all bonds contained CACs. But if CACs are to be a central part of reform agendas, they should be defended on functional grounds rather than on contestable historical ones