Sovereign Debt Restructurings and Equal Treatment of Creditors
The current system of solving sovereign debt crisis – normally based on a voluntary renegotiations of the terms of the loan contract – is highly fragmented, based on a number of ad hoc arrangements and has often come ‘too late’ and included ‘too little’ debt. As a result, debt sustainability has not been reestablished in a durable way. For a voluntary debt restructuring to be successful, it is necessary to have a high number of participating creditors. Principles of equal treatment of creditors – which should incentivize creditors to participate in debt restructurings – are reflected in lending agreements, in national law and in international law. The questions are then what is the content of these principles and are the current legal framework regulating equal treatment of creditors satisfactory or should the legal regulation regarding inter-creditor equality be altered to ensure that sovereign debt restructurings are more efficient for all parties involved.
About the Project
Sovereign States, much like individual persons and private corporations, acquire credit through contracts, which confer rights and impose obligations on the respective contract parties. At the same time, sovereign debtors are both more and less vulnerable compared to private debtors: On one hand, if a sovereign is unable to service its debt it cannot seek the protection of bankruptcy laws to restructure or delay payments, as private debtors can do. On the other hand, creditors will have great difficulties with seizing non-commercial public assets in payment for a defaulted sovereign debt, due to rules on sovereign immunity. Consequently, sovereign debt issues are normally addressed through direct and voluntary renegotiations of the terms of the loan contract between sovereign debtors and their creditors.
The renegotiation of contract terms is however made in the shadow of a legal framework. A first question is therefore what is this legal framework regulating how burdens can be shared in case of a sovereign debt restructuring?
One burden sharing principle reflected in contractual provisions of state loans agreements, national legislation and international law is that creditors should be treated equally. The aim of the PhD project is to examine these different approaches to what constitutes equal treatment of creditors in a sovereign debt restructuring; both concerning the procedural requirement and the material outcomes of a restructuring.
Burden sharing in case of debt restructurings, and principles of equal treatment of creditors, are of key importance for sovereign lending for several reasons: First, on a general level, it is expedient to have clear rules regulating a possible default so that the outcome of a restructuring is somewhat predictable to make the credit market work efficiently and to minimize borrowing costs. Second, the system of sovereign debt restructuring is highly fragmented, based on a number of ad hoc arrangements and has, amongst other things, resulted in restructurings having often included ‘too little’ debt and come ‘too late’. Restructurings have therefore failed to reestablish debt sustainability and market access in a durable way. Third, there are often several thousands (if not hundred thousands) creditors holding the same type of bond and be residents in different jurisdictions. They will also often have diverging interests. Bond restructurings may therefore be more complex than other debt restructurings, and it is challenging to make all of the bondholders agree to new bond terms in a voluntary debt restructuring. Forth, to ensure a high level of participation of creditors in voluntary restructurings (and avoid free-riding), it is important that the creditors feel they are not taking on bigger losses than other comparable creditors, while they require full payment under the original loan contract.
The project seeks to examine the content of these principles of equal treatment; what potential sanctions are available if they are breached; and why different creditors, under varying circumstances, are reluctant to participate in debt restructurings. The aim of the project is to examine whether the current legal framework regulating equal treatment of creditors is satisfactory, or whether legal regulation regarding inter-creditor equality should be altered to make sovereign debt restructurings more efficient for all parties involved.
This PhD-project is part of the Research Project International Financial Market Regulation, Institutions and Efficiency.
The PhD will be delivered spring 2020.
University of Oslo.