This paper reviews a range of issues associated with proposals for creditor engagement clauses (CECs) in sovereign bond contracts. CECs have moved onto the international policy agenda in the wake of the recent introduction of model “second-generation” collective action clauses (CACs) designed to address problems highlighted by the protracted litigation between Argentina and its holdout creditors.
Although the terms of the debate on CECs remain to be fully defined, the paper concludes that efforts to develop rules of the game for creditor engagement that are supported by both sovereign borrowers and the creditor community may generate benefits to both groups. Rules that limit discretion may restrict a sovereign’s options in any particular situation, but could promote sovereign debt as an asset class and provide long-term benefits in terms of more stable access at lower cost. The Sovereign Debt Forum proposed by Richard Gitlin and Brett House could be the venue in which such rules are developed.
Ultimately, however, the “market test” will determine whether or not CECs are adopted and become sovereign bond boilerplate, similar to first-generation CACs. The case for policy intervention is unclear. But action may be warranted if these clauses reduce deadweight losses and uncertainty about the definition of “good faith” in the IMF’s lending into arrears policy blocks their introduction. In this case, providing greater clarity, which is useful in its own right, would serve a public policy purpose. Achieving this clarity should be a key priority for the IMF’s continuing efforts to improve the framework for timely, orderly restructurings.