UNCTAD releases Roadmap and Guide for debt workouts

In light of the crippling effects of sovereign debt crises, UN development agency UNCTAD has come up with recommendations on how countries can better navigate the debt restructuring process.

by Bodo Ellmers

The prevention of debt crises and the way these crises are managed have a tendency to fail due to the lack of adequate institutions. While Europe is still struggling to solve the old debt crises, a new round of debt crises is emerging in developing countries, triggered by falling commodity prices and rising borrowing costs. Against this backdrop, an expert group convened by the United Nations Conference on Trade and Development (UNCTAD) has developed a detailed new “Roadmap and Guide” that aims to make future debt workouts fairer, more efficient and more sustainable. Application of the Roadmap, which was released in April, would revolutionize the way debt crises are managed in future.

The timing could not be better. Greece, strangled by austerity measures and the economic and humanitarian crises they have caused, is once again on the verge of bankruptcy, proving that the Troika bailout strategy failed and debt restructuring is the only solution. In fact, it had been the better solution from the very beginning of the crisis. The major UN Financing for Development (FfD) Conference (in Addis Ababa in July) and the summit to adopt the post-2015 Sustainable Development Goals (SDGs) (in New York in September) are both coming up, and sovereign debt workouts are a fundamental pillar of both FfD and the SDGs. Falling prices at the end of the commodities super-cycle might drive many developing countries back to bankruptcy, especially when interest rates begin to rise.

Gaping governance holes

The UNCTAD expert group has examined the shortcomings of the current multilateral debt (crisis) management regime and found that it cannot work effectively because it is highly fragmented across different creditor-dominated forums such as the International Monetary Fund (IMF) and the Paris Club, none of which can guarantee a debt restructuring deal that covers the whole debt stock in a single comprehensive process. Debtors need to negotiate separately with different groups. The piecemeal debt restructurings that this system involves take a long time and lead to unfair outcomes, because all the creditor groups pursue their vested interests and push for better deals for themselves. Some hedge funds – the vulture funds – have even made a lucrative business model out of sabotaging debt crisis management by fully refusing to negotiate and suing for full payment. The current regime has no effective way of stopping the vultures and enforcing participation and fair burden-sharing among creditors.

Many of these problems could be overcome by creating a Sovereign Debt Workout Institution (DWI) as part of the multilateral system. This DWI would be impartial and transparent. It would be a forum to which debtor states can turn when seeking a debt workout. Its role would be to facilitate an inclusive dialogue with the entirety of a country’s creditors and other stakeholders, to mediate and to provide the technical and logistical support for sovereign debt workouts.

The UNCTAD Roadmap also suggests developing new early warning indicators and indicator benchmarks for sovereign debt. Such indicators would need to take the new sustainable development agenda and its financial implications for UN member states into account. Last but not least, the Roadmap suggests that all UN member states should adopt “specific legislation to protect the outcome of consensual negotiation processes”, i.e., to avoid vulture-fund lawsuits. The suggestion for creating public lists of uncooperative creditors and their parent companies also has the goal of stopping vulture-fund attacks. 

A key asset of the Guide is its suggestions to sovereign debtors. Similar to recent IMF proposals, UNCTAD suggests improving bond contracts by adding (single-tier aggregated) collective action clauses. The Guide goes beyond the IMF proposals, however, when it also suggests clauses allowing for mediation and arbitration in a sovereign debt restructuring, a standstill of payments and a stay on litigation and enforcement. It also suggests setting up debt management offices and producing independent debt stability reports.

A 17-step workout

The centrepiece of the new tool, however, is the debt workout Roadmap, which outlines a process involving 17 steps, from the trigger to the closure of a debt restructuring process. A key innovation of the UNCTAD proposal is that the process is largely driven by the debtor side, with the support of the independent DWI. This is designed to overcome the current problem of debt restructurings being “too little too late” because they depend on creditors, who tend to delay the process in the hope that better times will come or that someone will let the bailout monies flow.

Based on thorough debt sustainability analyses that identify whether there is a solvency or just a liquidity problem, the debtor would invoke a debt standstill and, if needed, capital controls. It would invite creditors to an initial roundtable which will decide on modalities for negotiations. These could either be direct negotiations between debtor and creditors, or be facilitated by a mediator or an arbitration panel. In any case, agreements will be binding on all parties, will include a verification of claims and the opportunity to question their  validity,  and will be based on an independent debt sustainability analysis. This analysis would also determine the size of haircuts and the economic and social recovery programme.

The full implementation or application of the new UNCTAD Roadmap and Guide would revolutionize how debt crises are handled. It would speed up their management, lead to fairer outcomes and, most importantly, reduce and mitigate the development damage they cause. In many areas, the Roadmap and Guide presents options rather than clear guidance. This might make sense, however, as the specific nature of debt crises varies from country to country, and a one-size-fits-all approach is not always the best way to go, as the poor outcomes of Paris Club restructurings have demonstrated.

The modular structure also allows for incremental introduction of the many specific suggestions by policy-makers. The year 2015 is certainly not short of opportunities to do so, with the UN General Assembly process towards setting up a multilateral framework for sovereign debt restructurings ongoing, and with the Addis and New York summits on the horizon.                                    

Bodo Ellmers is Policy and Advocacy Manager at the European Network on Debt and Development (Eurodad), from whose website (eurodad.org) this article is reproduced.

Third World Economics, Issue No. 594, 1-15 Jun 2015, pp13-14