Argentine case a challenge to debt restructurings: IMF

WASHINGTON, May 23, 2013 (AFP) – The New York legal case over Argentina’s debt poses a deep challenge to all future sovereign debt restructurings, the International Monetary Fund said in a report Thursday. A US judge’s decision ordering Argentina to completely repay bondholders who refused to take part in a restructuring of its debt could have “pervasive implications” in other such cases, giving holdout creditors too much power in negotiations, the IMF said.

That in turn would challenge sovereign rescues of the type that the IMF and European Union carried out in Greece, where bondholders were persuaded to take hefty writedowns of their investments to make the rescue work.

The success of a restructuring depends on strong support for collective action — that is, all debt holders equally agreeing to take “haircuts” or other such losses on the bonds to ensure some recovery of value further down the road.

But such deals could falter if holdouts are able to lay claim later to full payouts, as the court has allowed in the Argentina case.

Having court support in that case would give potential holdouts more power to limit the haircuts in negotiations, for one, according to the report.

That in turn could make it harder to achieve restoring the borrower’s finances to some level of sustainability, the study said.

“The ongoing Argentina litigation has exacerbated the collective action problem, by increasing leverage of holdout creditors,” according to the report.

If, based on the New York court’s ruling, bondholders see that holdouts can actually disrupt payments after a restructuring, the bondholders will be discouraged from joining a voluntary restructuring — like that crucial to Greece’s rescue, the IMF said.

Moreover, the New York court’s decision could “increase the risk that holdouts will multiply and creditors who are otherwise inclined to agree to a restructuring may be less likely to do so due to inter-creditor equity concerns.”

The New York judge who ruled against Argentina argued that the solution is to include collective action clauses (CAC) in a sovereign debt issue.

Such a clause would require all debt holders to accept a restructuring if, for instance, 75 percent agree.

But the IMF said that even such clauses could be less effective in the wake of the Argentine case.

The court’s confidence in CACs “appears somewhat optimistic given the ability of holdout creditors to take blocking positions in individual bond issuances,” it said.

The implication is that, if it needs the private sector to take a haircut on sovereign bonds to ensure that a bailout program goes through, the IMF will have to take a tougher line to ensure the program works sustainably, the report said.

For one, the IMF will have to require a very high participation rate in the restructuring.

And secondly, the Fund could more aggressively raise the possibility that a deal could be imposed on the creditors by the sovereign borrower, rather than negotiating one.