Presentation on theme: "SOVEREIGN BANKRUPTCY. Goals of Bankruptcy Regimes Ex-post efficiency: once bankruptcy is triggered –Maximize total value –Ensure growth: clean slate Ex-ante."— Presentation transcript:
Goals of Bankruptcy Regimes Ex-post efficiency: once bankruptcy is triggered –Maximize total value –Ensure growth: clean slate Ex-ante efficiency: prior to bankruptcy –Preserve priority of claims defined prior to bankruptcy –Different regimes => different incentives and actions prior to bankruptcy
Goals of Bankruptcy Regime Ex-ante equity and efficiency In an efficient market creditors are never cheated: interest rates adjust Choice of regime influences behavior prior to bankruptcy: risk taking, amount of debt, signaling, timing, etc.
For example, in a creditor friendly regime Default is a messy process with high costs Countries try to avoid default… this can costly delay; e.g. overly tight monetary and fiscal policy to be able to repay debt Lower probability of default Lower interest rates Creditor moral hazard; less monitoring of loans (more market herding) Debtor moral hazard; more lending
EM countries: Alternative scenarios Countries might act strategically to get bailouts (as some say happened in the 1990s) Some countries might choose to restructure using measures that are simple, quick, and orderly ‘market based swaps’
Ecuador: Successful Restructuring? Default: October 1999 Restructuring: July 2000
Ecuador: Successful Restructuring? Analyst report: May 2002 “ We do not see at risk the coupon payments on Global bonds in 2002 as long as oil prices remain at current levels and the government implements a fiscal adjustment. However, arrears with bilateral institutions and suppliers are likely needed in 4Q02 in order to service external bonds.” “Public expenditures are not being controlled. We estimate a 2002 fiscal deficit of US$46 million or 0.2% of GDP.” -- Salomon Smith Barney, Economic and Market Analysis, Country Analysis and Commentary, May
Uruguay: Successful restructuring? debt rescheduling 2003 In 2004, analysts stated that Uruguay was in a good position to grow -- except for its debt burden.
Is this ‘market based mechanism’ efficient? Debt exchanges => orderly workout, but without much debt relief Recovery values on defaulted debt are high –Coporates [Altman]: market estimates 45% Post default prices average 35% ultimate recovery is 42% –Sovereigns: market estimates 25%; ultimate recovery… depends on how measured Post default price average 31% [Moody’s] Post restructuring prices are at least 20% higher [prelim] Based on holding periods investors receive, on average, slightly over full recovery within 18 months A diversified portfolio across the emerging markets does very well EM has been the best performing asset class, even on a risk adjusted bases, even excluding recent rally –Investors being paid for cost of default without absorbing cost of default Sovereigns not getting ‘clean slate’; low screening?; excessive borrowing?
Recent debate on sovereign restructuring The recent debate focused on collective action But modern bankruptcy theory has other crucial elements –including : debtor-in-possession (DIP) financing, bankruptcy triggers, reorganization plans, and other issues necessary for efficiency.