[stop-imf] IMF's Krueger on debt restructuring

[Robert Weissman]

To make sovereign debt restructuring smoother, not to dictate the terms
Anne Krueger
First Deputy Managing Director
International Monetary Fund
Le Monde Economie
February 18, 2002

http://www.imf.org/external/np/vc/2002/021802.htm

Can you describe your proposal on restructuring sovereign debt? Is it
due only to the current crisis in Argentina?

We have been motivated neither by recent events in Argentina nor by
dissatisfaction with the debate on private sector involvement. Rather,
we have been motivated by the lack of adequate incentives to bring
countries together with their creditors to resolve unsustainable debt
problems in a timely and orderly way.

Much has been done to strengthen the international financial system in
recent years, but there is still considerable weakness in this area.
When a country finds itself shouldering a truly unsustainable debt
burden, one way or another its debts will have to be restructured.
Unfortunately, governments in this position frequently try to delay the
inevitable.

As well as being reluctant to confront the unavoidable political and
economic disruption involved, there are daunting logistical and legal
barriers. In large part this reflects the fact that countries have
increasingly borrowed by issuing bonds as well as taking loans from
banks, and in so doing have turned increasingly to the use of complex
financial derivatives. Bondholders are more numerous and difficult to
coordinate than banks. Many bond contracts also lack provisions that
allow a majority to alter their financial terms, allowing free riders to
hold out and sue debtors to collect their claims.

This makes it difficult to secure an agreement among creditors on a
restructuring, even if almost all of them would benefit.

The fear that restructuring will be unnecessarily messy and painful
unduly discourages debtor governments from starting the process. Our
approach in no way seeks to make restructuring an easy option. But
better incentives to encourage a debtor and its creditors to resolve
these problems of their own accord would help the country get back on
its feet, lay the basis for a resumption of debt servicing, and limit
the depth of the crisis it faces.

Our goal is to propose a framework that will serve as a catalyst for
voluntary agreements, without the need for formal activation. The formal
element would potentially require dissenters to accept a restructuring
agreement once it has been approved by a large majority of creditors. To
maximize the value of most creditor claims and minimize the costs to the
debtor, this system would offer debtor countries legal protection from
their creditors while they negotiate debt restructuring. The debtor
would in turn be prevented from paying out its reserves to favored or
particularly litigious creditors, and would also be required to
negotiate in good faith and adopt sound policies.

What would be the benefits of this new approach for the debtor
countries, for the investors, and for the international financial
institutions themselves?

Both the debtor country and its creditors stand to gain from the
restructuring of unsustainable debts before the country has exhausted
its reserves and condemned itself to a deep economic downturn. At
present, the fear that these debt problems will be resolved in a
disorderly way also depresses the price of a country's bonds on the
secondary market when it gets into trouble. True, some investors take
advantage of such situations to buy distressed debt more cheaply, but
most should welcome a framework that can help maintain the value of
their claims, preclude payments to favored creditors, and provide for
more equitable restructuring.

This more orderly framework will also help investors distinguish between
good and bad risks, and it will therefore become easier for countries
with sound economic policies to borrow on the capital market. Countries
with weaker policies will have greater incentive to strengthen them and
will be less likely to build up unsustainable debts as a result of
imprudent private sector lending. These factors should promote the
strength and stability of the international financial system and move us
away from a situation where debt problems have to be resolved either by
hugely disruptive defaults or the bailing out of private creditors with
official funds.

Your approach seems to raise the question of sovereignty, and at the
same time it might put the IMF in a situation of conflict of interest,
being both creditor and debtor. How do you resolve this problem?

The approach we are discussing leaves the debtor country and its
creditors in the driving seat. Our aim is to make the process of
reaching agreement on a necessary restructuring smoother, not to dictate
the terms. The Fund has a crucial role to play as the forum through
which the international community can reach a judgment on the
sustainability of a country's debt and the appropriateness of its
economic policies.

But there are other points—such as resolving disputes among creditors—on
which our executive board could indeed face a conflict of interest.
These could be entrusted to a legally ringfenced body, inside or outside
the Fund.

The creation of an international bankruptcy procedure will need the
approval of the whole membership of the IMF. Is this possible?

It is certainly true that any new approach to sovereign debt
restructuring will have to enjoy very broad support in the international
community. If we were to implement it through an amendment of the IMF's
Articles of Agreement, for example, it would need the approval of
two-thirds of our 183 members, together representing 85 percent of the
total voting power.

Securing such a consensus will not be easy, but I believe that there is
widespread dissatisfaction with the way things work at the moment and a
genuine willingness to examine alternatives. Indeed, since the issue was
raised last year, I have been delighted with the support we have
received from a number of industrial and developing countries, plus
various parts of civil society.

Your proposal and other initiatives along the same lines have been
received with strong skepticism by market participants. Do you expect a
change of attitude?

Views among market participants in fact vary a lot. Many recognize that
the current system does not work as well as it should and that the value
of their claims on emerging market countries suffers more than it needs
to when those countries get into difficulties. They want a more orderly
and predictable process, but also one where they can be confident that
debtors will not abuse the legal protection available to them.

Some are less enthusiastic, of course, but they need to understand that
the international community is not prepared to throw large sums of money
at countries with unsustainable debts to ensure that their creditors are
repaid. Unsustainable debts have to be restructured, one way or the
other. The only question is how painfully. A more orderly process will
be to almost everyone's benefit, and I think that market participants
are increasingly coming round to that view.

Interview conducted by Serge Marti