Pressure is mounting on policymakers to tighten the terms of the debt standstill for the world’s poorer countries, agreed at last week’s International Monetary Fund spring meeting, to prevent private bondholders profiting from the forbearance provided by official sector creditors.
Under the terms of last week’s deal the G20 group of leading economies said it will allow up to 77 countries to delay paying what is owed to them for eight months from the end of April. However, private sector creditors only had to volunteer not to receive payments due this year.
That is seen as a significant gap, since many such creditors might not agree to offer relief or else block any standstill through legal action.
If that happens the money saved from paying bilateral sovereign creditors or multilaterals would simply be used to pay bondholders and other commercial creditors, rather than be directed at healthcare or reducing the impact of the coronavirus pandemic.
In a paper published on Tuesday, some sovereign debt restructuring advisers including Lee Buchheit, the former adviser to Greece, Argentina and other distressed nations, have urged the official sector to close this loophole.
“In the absence of private sector participation, any official debt relief in middle-income countries may simply be used to service private sector debt. It would be pointless for the official sector to lighten the debt burden of poor countries if all that is achieved is a transfer to private creditors,” they wrote, and participation by private creditors should not just be voluntary.
"If participation is voluntary, any relief provided by private creditors that participate will simply subsidise the non-participants. Furthermore, history tells us that a significant percentage of private creditors may decline to participate, particularly when their own balance sheets are being squeezed by the effects of the pandemic.”
The group has suggested that credit facilities be set up at the World Bank or similar multilateral lender for each affected country to deposit any stayed interest or maturities so they can be used to fight the pandemic but then be passed on to creditors when the crisis is over.
“The facility would be monitored by the multilateral institution to ensure that the payments that otherwise would have gone to creditors be used only for emergency funding related to the global pandemic,” they said.
“In making these adjustments, the states concerned will not be acting in a discretionary or optional manner; in the truest sense of the word they will be acting out of necessity.”
The group urged the G20 to support such a scheme as a way of ensuring the debt holiday applies to as wide a constituency of creditors as possible.
Last week the Institute of International Finance, representing banks, investors and other private sector financial institutions, backed the G20’s standstill plans but said it was up to individual investors whether to agree to them.
Some have said that ripping up contracts could harm the EM sovereign debt market for generations.
Mark Walker, senior managing director at Guggenheim Securities who is acting for a group of Venezuela’s creditors, and Chris Canavan, partner at Lion’s Head Global Partners, were hopeful a voluntary approach could still succeed in getting private sector investors to fall into line.
They wrote in a paper before last week's G20 deal that this could happen as long as G20 and official sector creditors only offer a standstill if there is a similar action by the private sector.
They said such an approach worked in 2008 when European banks agreed not to accelerate loans to central and eastern European countries under the Vienna initiative.
“It should be possible to persuade most creditors to cooperate with the standstills. Most creditors will be more sensitive in today’s environment to public opinion and pressure from official sources,” they said.
“The scale of the current crisis will make it difficult for sceptical private creditors to call the bluff of the official sector." This effectively happened in 2010 in Greece when the IMF and the EU pledged sums to Greece that was used to pay private sector debt as it came due for two years.
“If the IMF and its peer institutions warn private creditors that their cooperation is necessary to avoid a calamity, most private creditors will agree," said Walker and Canavan.
"Under the circumstances, there is good reason to believe that most important creditors, including private ones, will be more open than usual to participating in standstill agreements, as long as the agreements are comprehensive, so that one class of lenders is not disadvantaged over others."