Finance COVID-19 relief and recovery, not debt buybacks
By Anis Chowdhury & Jomo
Kwame Sundaram
SYDNEY and KUALA
LUMPUR, Oct. 27, 2020 (IPS)
– In July, the UN Secretary-
General warned that a “series
of countries in insolvency
might trigger a global depression”.
Earlier, the United
Nations Conference on Trade
and Development (UNCTAD)
and the International Monetary
Fund (IMF) had called for
a US$2.5 trillion coronavirus
crisis package for developing
countries.
Debt distraction
In the face of the world’s
worst economic contraction
since the Great Depression,
a sense of urgency has now
spread to most national capitals
and the Washington-based
Bretton Woods institutions.
Unless urgently addressed, the
massive economic contractions
due to the COVID-19
pandemic and policy responses
to contain contagion threaten
to become depressions.
Nevertheless, many long
preoccupied with developing
countries’ debt burdens and
excessive debt insist on using
scarce fiscal resources, including
donor assistance, to reduce
government debt, instead of
strengthening fiscal measures
for adequate and appropriate
relief and recovery measures.
Most debt restructuring
measures do not address countries’
currently more urgent
need to finance adequate and
appropriate relief and recovery
packages. In the new circumstances,
the debt preoccupation,
perhaps appropriate previously,
has become a problematic
distraction, diminishing
the ‘fiscal space’ for addressing
contagion and its consequences.
Buybacks no solution
One problematic debt distraction
Contributing Writers: Azad Ali, Tangerine Clarke,
George Alleyne, Nelson King,
Vinette K. Pryce, Bert Wilkinson
GENERAL INFORMATION (718) 260-2500
Caribbean L 10 ife, Oct. 30-Nov. 5, 2020
is the renewed call
for debt buybacks from private
creditors, through an IMFmanaged
Brady Plan-like multilateral
bond buyback facility
funded by a global consortium
of countries. The historical
evidence is clear that bond
buybacks are no panacea and
neither an equitable nor efficient
way to reduce sovereign
debt.
The contemporary situation
is quite different from the
one three decades ago when
US Treasury Secretary Brady’s
plan successfully cut losses
for the US commercial banks
responsible for most debt to
Latin American and other
developing country governments.
Hence, prospects for
a comprehensive arrangement
involving all creditors are far
more remote now. Unsurprisingly,
debt buybacks have been
rare since the mid-1990s.
Furthermore, private bond
markets have changed significantly
from what they were
during the Brady era when
there was last a comparable
effort involving many debtor
countries. Importantly, the
new creditors largely consist
of pension and mutual funds,
insurance companies, investment
firms and sophisticated
individual investors. Also,
today’s creditors have less
incentive to participate in sovereign
debt restructurings.
Many of today’s creditors
are now represented by powerful
lobbies, most significantly,
the International Institute of
Finance (IIF). Unlike before,
when their efforts focused on
OECD developed economies,
the IIF now actively works
directly with developing country
finance ministers and central
bank governors.
Voluntary scheme
problematic
But the debt buyback proposal,
to be underwritten
by a multilateral donor consortium,
can inadvertently
encourage hard bargaining by
powerful creditors who know
that money is available, while
retaining the option of threatening
litigation. Hence, resulting
buybacks are likely to cost
more. The evidence shows that
a country’s secondary market
debt price is higher when it has
a buyback programme than
otherwise.
Such an approach can also
encourage trading in risky sovereign
bonds promising higher
returns, inadvertently sowing
the seeds for another debt crisis.
Private investment funds
are more likely to buy such
bonds if there is a higher likelihood
of selling them off, while
still making money from the
high interest rates, even when
the bonds are sold at large discounts.
The proposal’s voluntary
feature also creates incentives
for creditors to ‘free-ride’ by
‘holding-out’, thus undermining
the likelihood of success.
If the scheme is expected to
effectively restore creditworthiness,
then each existing
creditor would hold on to the
original claims, expecting
market value to rise as new
creditors provide relief.
Maintaining a good credit
rating undoubtedly enables
access to international funds
at relatively lower interest
rates. But low-income countries
typically have poor access
to international capital markets,
and only get access by
paying high risk premia, due to
poor credit ratings.
Compared to near zero interest
rates in major OECD economies,
African governments
pay 5~16% on 10-year bonds,
while Kenya, Zambia and others
pay more. Borrowing costs
for developing countries issuing
Eurobonds more than doubled
due to high interest rates.
Also, many, if not most contemporary
creditors are not
primarily involved in lending
money. They are therefore
unlikely to respond to government
requests for new loans
needed to grow out of a debt
crisis.
New obstacles include the
greater variety of powerful
creditors, the unintended
incentives for free-riding
inherent in voluntary debt
reduction, problematic precedents
as well as perverse incentives
for both governments and
bondholders. Perhaps most
importantly, debt reduction by
purely ‘voluntary’ means —
like buybacks, exit bonds, and
debt-equity swaps – is unlikely
to be adequate to the enormity
of the problem.
Successful buybacks?
Only banks definitely gained
from the Brady deals. Benefits
were unclear for most debtors
other than Mexico and Argentina,
and particularly ineffective
for Uruguay and the Philippines,
where gains were paltry,
if not negative.
Positive effects for economic
growth were very small,
as most buybacks failed to
improve either market confidence
in or the creditworthiness
of debtor countries.
Hence, even if private creditors
participate, there is no guarantee
that debtor countries will
benefit significantly at the end
of the long and complicated
processes envisaged.
The 2012 Greek bond buybacks,
backed by the European
Commission, the European
Central Bank and the IMF
‘troika’, effectively bailed out
the mostly French and German
banks owed money by Greece.
Celebrated as a success, it neither
restored Greece’s growth
nor reduced its debt burden.
While bond buybacks can
always be a debt restructuring
option for consideration,
Ecuador’s in 2008-2009 are
probably the only one regarded
as favourable to the debtor
country. Wall Street observers
suggest that Argentina’s recent
initiative may also have a positive
outcome.
Also, after successfully
restructuring its commercial
debt, the country is now better
able to negotiate with its
official creditors, particularly
the IMF. These ‘successes’ have
been exceptional, led by the
countries themselves and ultimately
settled on their terms,
taking advantage of opportunities
presented by global crises
for comprehensive national
debt restructuring.
Importantly, neither creditor
consortia nor multilateral
financial institutions were
involved in coordinating or
underwriting both restructurings,
and hence could not
impose onerous policy conditionalities.
Thus, when able
to take advantage of favourable
conditions for negotiating
strategic buybacks, debtor
countries may be better able to
benefit from them.
Urgent financing
needed
Despite her earlier reputation
as a ‘debt hawk’, new
World Bank Chief Economist
Carmen Reinhart recognizes
the gravity of the situation and
recently advised countries to
borrow more: “First fight the
war, then figure out how to pay
for it.” Hence, in these COVID-
19 times, donor money would
be better utilized to finance
relief and recovery, rather than
debt buybacks.
Multilateral development
finance institutions should
resume their traditional role of
mobilizing funds at minimal
cost to finance development,
or currently, relief and recovery,
by efficiently intermediating
on behalf of developing
countries. They can borrow at
the best available market rates
to lend to developing countries
which, otherwise, would have
to borrow on their own at more
onerous rates.
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