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

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The International Monetary Fund hasproposed a universal bankruptcy tribunalto deal with sovereign debt restructuring.But does the international financial systemreally need such a mechanism? There hasbeen little demand by sovereign borrowersor their creditors for a universal bankruptcylaw, and few countries have had to enterinto debt restructuring procedures. Theabsence of such a law does not appear tohave created chaotic conditions even inthose cases.

Academic support for IMF's proposal islimited, and a diverse group of critics supportsalternative, market-based solutions.One such solution includes the use ofmajority-action clauses in bank and bonddebt instruments that would bind all creditorsto a debt renegotiation agreementbetween the country and creditor representatives, thus eliminating the need for unanimityamong creditors. Another proposalexplains how capital market tools alreadyexist and how they have been used to renegotiateoutstanding debt in a short periodof time. The crisis in Argentina shows thata centralized bureaucratic management ofdebt problems was not needed to initiatereduction of outstanding debt or organizethe country's creditors.

Any of the proposals for dealing withsovereign debt problems may lead toreduced lending to emerging marketeconomies. That may be a welcome changefrom the current culture of debt-baseddevelopment and overborrowing, which theIMF has helped to encourage. A greaterreliance on equity investment may help setcountries on a more sustainable growthpath.

Anna. J. Schwartz

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