Foreign Policy Briefing No. 75

The IMF’s Dubious Proposal for a Universal Bankruptcy Law for Sovereign Debtors

By Anna. J. Schwartz
March 5, 2003

Executive Summary

The International Monetary Fund has proposed a universal bankruptcy tribunal to deal with sovereign debt restructuring. But does the international financial system really need such a mechanism? There has been little demand by sovereign borrowers or their creditors for a universal bankruptcy law, and few countries have had to enter into debt restructuring procedures. The absence of such a law does not appear to have created chaotic conditions even in those cases.

Academic support for IMF’s proposal is limited, and a diverse group of critics supports alternative, market-based solutions. One such solution includes the use of majority-action clauses in bank and bond debt instruments that would bind all creditors to a debt renegotiation agreement between the country and creditor representatives, thus eliminating the need for unanimity among creditors. Another proposal explains how capital market tools already exist and how they have been used to renegotiate outstanding debt in a short period of time. The crisis in Argentina shows that a centralized bureaucratic management of debt problems was not needed to initiate reduction of outstanding debt or organize the country’s creditors.

Any of the proposals for dealing with sovereign debt problems may lead to reduced lending to emerging market economies. That may be a welcome change from the current culture of debt-based development and overborrowing, which the IMF has helped to encourage. A greater reliance on equity investment may help set countries on a more sustainable growth path.

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Anna J. Schwartz is a research associate at the National Bureau of Economic Research.