Wanted: A New Debt Deal for the World

As we see in Greece, Argentina, the Caribbean and Africa, sovereign debt crises continue to impose severe and protracted burdens on citizens. The question is what to do about these crises.

One thing is for sure. The way in which we have previously tried to deal with the issue of what is essentially unpayable sovereign debt – meaning that owed by national governments– is unworkable.

The inclination on the side of creditors, especially in the United States, but not just there, has been to threaten to use the courts and cling to inflexible legal concepts about the terms of bond contracts.

Usually, some kind of debt relief is negotiated, frequently not enough, and sometimes even that is challenged in the courts.

The latter claimants may feel a sense of satisfaction when they obtain a judgment against a government. Usually the cases are brought by speculative “vulture funds” seeking high profit from “distressed debt.”

Some governments pay, just to be done with it, even if at a high social cost. Argentina refused on principle, as it had offered what it regarded as a realistic and fair deal to its bondholders, 93% of which had accepted the deal years ago.

Some progress maybe?

These legal steps by speculators do nothing to resolve the underlying crisis. They are simply seeking to profit from it. No matter how hard lawyers may try, they cannot bend harsh economic realities.

However, there is a promise of progress to report. On September 10, the United Nations General Assembly adopted a resolution specifying a set of nine “basic principles” to guide how a government and its creditors should go about reducing repayment obligations when they become unpayable.

The principles are not perfect and, as could be expected, the rich countries did not endorse them. Still, the best way forward is for the world’s governments to work together to improve the principles, not stifle them.

The international discussions led to a vote to adopt them by 136 countries. Six countries voted against, with 41 abstaining. The United States – along with Germany, the United Kingdom, Japan, Canada and Israel – voted no.

The United States chose not to participate in the work of the ad hoc committee and thereby lost any opportunity to help shape the principles.

The European Union also did not participate in the committee. As Luxembourg explained, speaking on behalf of the EU after the vote, the EU had reservations on how the ad hoc committee was established.

In addition, it said that the draft principles did not accurately reflect international law or treaties. Even so, most EU member countries abstained.

Creditor governments hesitant

While creditor country governments readily admitted that there were problems in how debts of countries in crisis are “restructured,” they were unwilling to start negotiations at the United Nations that were as ambitious as Argentina – the lead proponent of reform action at the UN level — wanted.

In the rich countries’ view, the International Monetary Fund is the more appropriate forum, as it has the relevant expertise and authority.

Of course, the creditor governments also have the votes to control the outcome at the IMF (and the United States alone has veto power on major decisions there).

Argentina decided to mobilize the developing country majority at the UN to support its claim that the world needed a proper international legal framework to resolve government debt crises.

Argentina acted after it was understandably deeply disappointed at the refusal of the U.S. Supreme Court in June 2014 even to hear its appeal of lower court decisions that favored the vulture funds.

In the end, the developing countries that met in the ad hoc committee also discovered that they were not prepared to draft a new legal framework.

Instead, they settled on agreeing to the nine non-binding and voluntary principles, such as for transparency of debtor governments and their creditors, good faith negotiation, and limited restrictions on sovereign immunity.

The irony of this outcome is clear: Had the formulation of only “principles” – rather than an entirely new legal framework — been the initial objective, the developed countries might have supported formation of the committee and participated in it.

Need for a global consensus

Well, what’s done is done. However, it would surely be useful if there could be a global consensus around principles for how to restructure debt obligations of insolvent sovereigns.

Most people feel the Argentine experience with the vulture funds in the New York courts should not have happened.

In order to avoid what they apparently regard as shameful experiences like that in the United States, Belgium and the UK have adopted laws to curtail what such funds can collect through their legal systems.

In addition, a leading international financial industry association, the International Capital Markets Association, has drafted revised wording for standard bond contracts aiming to prevent future Argentine-type cases.

These steps alone are clear-cut evidence that the UN needs a way to make a fresh start on drafting its principles — without repeating the previous experience.

The UN is a proper forum for developing international norms of economic and financial behavior. It has adopted guidelines for policymakers on a wide range of subjects.

Most recently, it adopted by consensus ten paragraphs on prevention and recovery from debt crises at a major intergovernmental conference on financing for development in Addis Ababa, Ethiopia in July 2015.

The UN also maintains an important intergovernmental forum on legal matters in international financial and trade relations that it should involve in new discussions of debt restructuring principles.

Governments should not be able to claim in the future, as the United States did in its statement after the vote in the General Assembly, that the shortcomings in the drafted principles highlighted its view that the United Nations was “not best-placed to address the issue of sovereign debt restructuring.”

And yet, new principles embraced by rich as well as poor country governments would also clarify to the financial markets what rules they were operating under with some confidence.

And it would ensure that the rules were fair to the interests of creditors as well as debtors, and were fair with respect to the claims for repayment of official and private creditors.

It may be expected that the “vultures” of the financial industry would prefer to continue trying to manipulate the current system to their advantage.

But even if that were the case, the rich countries would discover very quickly that having a smoother and more certain functioning of international finance is more important to the global economy, to global development and to global well-being than the particular and rather peculiar interests of a few.