Sunday, March 16, 2014

Sovereign Debt Restructuring Part 2 – IMF lending and IIF restructuring guidelines

In my first post on the topic, I have looked at Paris and London club principles and ended by describing some fundamentals for bond restructuring. Today, I will turn to two other institutions which are also inevitable in sovereign debt restructurings, i.e. the International Monetary Fund (IMF) and the Institute of International Finance (IIF).

But first, let's have a look at some numbers from recent sovereign debt restructurings.

Recent restructurings took, on average, roughly eight months. On average, the debtor country's debt/GDP ratio was 122 % before the restructuring and meant to fall by 1/3 within five years after the restructuring.

Dealing with the IMF

IMF Headquarters in Washington

In one way or another, every defaulting sovereign will talk to the IMF. Besides carrying out debt sustainability analysis, the IMF can grant loans to states in difficulty, either on non-concessional or on concessional terms. Non-concessional lending conditions are oriented at arms’ length terms whereas concessional lending constitutes a form of subsidy to low income countries (LIC).

“When we [the IMF] lend, we like to see sovereign debt restructuring really as the exception, not the rule.” (Sean Hagan, IMF, 11 October 2013)

Non-concessional IMF lending

“IMF loans are meant to help member countries tackle balance of payments problems, stabilize their economies, and restore sustainable economic growth.” (IMF Website – Lending by the IMF)

The IMF provides five types of non-concessional lending facilities. They all come with confusing names and acronyms. To tick the right box, the IMF asks two basic questions:

  • Who can benefit?
  • In which situation?

At this stage, I suggest you click through some slides that I have prepared on the topic. My hope is that this is easier to grasp than a detailed description of each credit line.

From the fund's [International Monetary Fund] perspective, when we lend, we like to see sovereign debt restructuring really as the exception, not the rule. (Sean Hagan, IMF, 11 October 2013)

Concessional IMF lending

To understand which concessional lending facilities the IMF proposes, let's tweak the above questions somewhat:

  • Who can benefit in which situation?
  • What are the lending terms?

Debt sustainability

One criterion is key for any of the above IMF facilities – debt sustainability. As a matter of fact, the fund requires that the debtor country has prospects to regain access to private capital markets within the time-frame when IMF resources are outstanding. Recently, however, the debt sustainability criterion has (in the context of the European sovereign debt crisis in May 2010) been softened. Today, the IMF is also willing to lend if there is a high risk of international systemic spillovers, following a debtor country’s possible default.

“But while the Fund always takes contagion concerns into account when it designs and implements its lending policies, it should not allow these concerns to override or supersede its primary duty to help members resolve their underlying balance of payments problems.” (IMF Website – Lending by the IMF)

IIF Restructuring Guidelines

The Institute of International Finance (IIF) has put in place several guidelines for any sovereign debt restructuring process. They are called “Principles for Stable Capital Flows and Fair Debt Restructuring in Emerging Markets”. Their application is voluntary for the parties.

The IIF has set up four principles:

  • Transparency and timely flow of information: Debtors must give creditors the information necessary for the latter to appreciate the economic and financial information of the sovereign debtor. If the debtor country reaches agreements with individual creditors, it should inform other creditors about it. Creditors, in turn, grant confidentiality of non-public information.
  • Close debtor-creditor dialogue and cooperation to avoid restructuring: This includes namely the debtor taking structural economic and financial reforms and the borrower helping with the implementation of such reforms.
  • Good faith actions: When a restructuring becomes inevitable, debtors and creditors should engage in a restructuring process that is voluntary and based on good faith. Contractual rights must remain fully enforceable. A creditor committee should serve as intermediary between the debtor and the different classes of creditors. On the debtor side, the country should resume debt service as a sign of good faith, if possible.
  • Fair treatment: Affected creditors should be treated fairly and without discrimination, especially as regards the voting process.