IMF launches broad review on sovereign debt restructurings

The International Monetary Fund has begun to rethink how it should handle bailouts for countries that run into financial trouble, with staff suggesting private-sector creditors should regularly be required to bear some of the load.

The proposal is part of a major review the IMF has launched of its policies relating to sovereign debt restructurings that is expected to take up to a year.

It conducted its last review in 2005, but decided a fresh look was needed in light of a number of recent sovereign debt restructurings, including one by Greece, which was the largest ever.

In a paper that was discussed by the IMF’s executive board on Monday, staff recommended the fund consider making a creditor bail-in a condition for IMF lending to a troubled country.

The IMF wants to ensure that its emergency loans are not used to bailout private creditors.

“While bail-in measures would be voluntary - ranging from rescheduling of loans to bond exchanges that result in long maturities - creditors would understand that the success of such measures would be a condition of fund support,” the report said.

One aim would be to ensure private capital does not flee. Creditors have been forced to take harsh “haircuts” in accepting writedowns on the value of their bonds in recent sovereign debt restructurings, including Greece.

The fund said that the proposed bail-ins would typically involve rescheduling debt, giving it more time to figure out the scale of the country’s problems.

The report also highlighted recent US court rulings on Argentina’s long-running battle with creditors holding its defaulted debt, and warned that they could undermine other sovereign debt restructuring efforts by strengthening the leverage of creditor “holdouts.”

US courts ruled in favour late last year of “holdout” creditors who had rejected Argentine debt exchanges in 2005 and 2010 and sued to be repaid in full on their defaulted bonds.

A US judge ordered Argentina to pay the holdouts the full US$1.33 billion owed them the next time it serviced restructured debt. Argentina appealed, and a ruling by the 2nd US Circuit Court of Appeals is expected in the coming weeks.

“The Argentine decisions, if upheld, would likely give holdout creditors greater leverage and make the debt restructuring process more complicated,” the IMF report said.

It cited two main concerns. First, the court rulings would interrupt the flow of payments to creditors who took part in the restructuring, thereby discouraging other creditors from taking part in future restructurings. Secondly, the ruling is likely to increase the risk that the number of holdouts will multiply.

The IMF said it had not been in contact with the US courts and was not offering an opinion on the merits of the case.