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February 25, 2012 Comments
Paul Martin (right) and Jim Balsillie at the CIGI-INET Sovereign Debtors conference, Feb. 24, 2011 (Lisa Malleck/CIGI Photo).

CIGI and INET (Institute for New Economic Thinking) are co-hosting a conference on sovereign debt restructuring today and tomorrow. The former Prime Minister of Canada, the Right Honourable Paul Martin, gave a barn burner of a keynote speech last night calling on the G20 to put the Sovereign Debt Restructuring Mechanism (SDRM) back on the international agenda.

The objective of the SDRM is to create the kind of structured negotiating environment that domestic bankruptcy regimes provide at the national level. In simple terms, this means providing protection against creditor litigation during the restructuring, or 're-contracting,' process. It would also provide a mechanism for enforcing an agreed restructuring broadly acceptable to most creditors over the objectives of a few. This 'cram down' on the property rights of some is undoubtedly a transgression against the sanctity of contracts. But criticism of it should be tempered with the recognition that, if properly implemented, the goal is to protect collective interests.  That is what national bankruptcy regimes do.

Creditors have an incentive to participate, provided the sovereign uses the breathing space provided by the stay on litigation to implement sound policies that grow the pie - increasing payouts to all and preserving the social stability that is necessary for restoring economic growth. Of course, there are some who will act opportunistically to block a restructuring in order to extract higher payouts - strategic rents. But that is why a cram down mechanism is required.

The IMF will likely have a role in the restructuring process, although there is debate on what exactly that role should be. Three functions stand out. First, the IMF has the technical capacity to estimate what a feasible, sustainable adjustment effort might be. Second, the IMF has the experience to assess whether a country is implementing policies that actually "grow the pie." The third role for the Fund is providing debtor-in-possession financing -- lending when the borrower has already suspended debt payments - through its lending into arrears policy.

Some history: the SDRM was proposed a decade or so ago by the former Deputy Managing Director of the International Monetary Fund (IMF), Anne Krueger, as a means promoting the timely, orderly restructuring of sovereign debts. Her initial proposal generated vigorous debate and enjoyed considerable international support. It did not enjoy broad support from the private sector, however, which viewed the proposed role of the Fund with suspicion. The concern was that, as a major creditor with preferred creditor status, the IMF could not be an impartial arbiter as envisioned by Krueger. The IMF subsequently modified the SDRM proposal to give private creditors a stronger voice in how sovereign debt would be restructured, consistent with domestic bankruptcy frameworks. Yet, before full consultations on this more creditor-friendly SDRM could be completed, John Taylor (the Assistant Treasury Secretary of the time) effectively closed the debate.

Looking at the mess in Europe today and the ex post modification of Greek bond covenants, I wonder: would private sector investors, the citizens of Greece and other periphery countries, and the euro all be better off had Taylor allowed the SDRM debate to continue and a SDRM was in place to facilitate a timely, orderly restructuring of Greek debt two years ago?

The opinions expressed in this article/comments are those of the author(s) and do not necessarily reflect the views of CIGI or its Board of Directors and/or International Board of Governors.