Bankruptcy plan leaves IMF to fill in the detail



29th November, 2001.

By Alan Beattie

It was an odd way to drop a bombshell. Anne Krueger, second-in-command at the International Monetary Fund, floated one of the most radical changes to international finance in a generation, with no prior warning, at a dinner in Washington late on Monday night.

It took a day or two for it to sink in to most observers that what she had declared the IMF management in support of - a Chapter 11-style international bankruptcy procedure for governments - was as startling as it sounded.

By giving the IMF power to impose a standstill to prevent private-sector creditors suing governments during negotiations over debt restructuring, it would substantially increase debtor governments' powers at the expense of bondholders.

Ms Krueger's ideas, which will need to be passed by an 85 per cent majority of the IMF's governing board of shareholder countries, still need a lot of detail to be fleshed out.

For one, the IMF will face a tricky judgment setting the length of any breathing space and ensuring that a country is negotiating in good faith with its creditors and following sound economic policies while the standstill is in place.

Second, some elements in the new system, such as verifying creditor claims and adjudicating on disputed claims, would be outside the IMF's powers and might require an independent arbitrator.

Even if these details are worked out to the satisfaction of member countries, implementation will still be complex.

As Ms Krueger admits, almost all governments - particularly the ones with large financial markets - will have to change their laws to recognise the mechanism. "Otherwise, creditors will deliberately seek out the jurisdictions in which they have the best chance of enforcing their claims."

The principle itself is well-rehearsed, having been supported for years by several leading academics and by

Jubilee Plus, the successor to the debt relief campaign Jubilee 2000. As C. Fred Bergsten, director of the influential Institute for International Economics think-tank in Washington, says: "The experience of recent restructurings in Ecuador and Peru has concentrated governments' minds."

In Ecuador, a unilateral default on debt led to a chaotic workout which left the country cut off from international capital markets; in Peru, the government was held to ransom by a so-called "vulture fund", Elliott Associates, which bought up distressed debt during a restructuring and forced the Peruvian government to pay the full face value, with the threat of seizing other assets if it did not.

Meanwhile, the serious threat of litigation in current Argentine debt negotiations has raised the stakes by bringing a systemically significant country into the frame.

A general softening towards the idea of formal frameworks has been in train among several governments; even Alan Greenspan, chairman of the US Federal Reserve, mentioned the idea in a recent address, as did a recent report by a group of former finance ministers and central bank governors from emerging market countries.

But the speed and radicalism of Ms Krueger's suggestion has gone well beyond previous official public pronouncements. The IMF's management has decisively taken the lead.

Before the proposals are first put to the board next month for an informal discussion, shareholder governments will be poring over the fine detail. Support in principle may not translate into support for this particular blueprint in practice.

The very wisdom of the idea remains under attack from private investors. One of their fears - acknowledged by Ms Krueger - is that such a procedure would reduce lending to emerging markets, as bondholders feared that borrower countries would find it too easy to declare moratoriums on interest payments.

The Institute of International Finance, the association of more than 300 global finance houses, remains opposed.

"I don't deny the need for a search to find a better solution to sovereign debt problems, but I don't think this is the direction to go in," says Charles Dallara, IIF managing director. "Are the US and UK governments really going to allow the IMF to intervene in private contracts undertaken by their own citizens under their own laws?"

Since Ms Krueger's speech the US Treasury has reiterated its support for the principle while reserving judgment on the detail.

"The political imponderable is whether our members are prepared to constrain the ability of their citizens to pursue foreign governments through their national courts as an investment in a more stable - and therefore more prosperous - world economy," Ms Krueger says. "This, ultimately, is a matter for them."