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Contract Exuberance

posted by Anna Gelpern

Ding Dong! The Witch is Dead! We have a contract fix against holdouts in sovereign debt restructuring. Here are my two cents on the proposed reforms, as of last Friday. Bottom line is way positive. In my admittedly biased opinion, this is unusually meaningful change. That said, after three days of celebrating in the press and debt relief circles, it is time for a bit of perspective.

Assuming heroically that all countries start adopting all the new clauses verbatim right away, it will take a decade--maybe several--for the threat of holdout litigation to diminish substantially.  As Martin Wolf points out in an excellent piece (save for the totally wrong bit about trustees), holding out is a niche business. All you need is ONE New York bond (note, loan, IOU) with a pari passu clause that says the word PAYMENT, in a contract that either lacks majority amendment terms (CACs), or where a holdout can block the CAC vote. Then, if the Argentina decisions stand, you can use that bond to block payments on every other bond (note, loan, IOU)--even if it is governed by Argentine, English, or Japanese law, even if it has no pari passu clause of any kind, and has the most robust majority amendment/collective action clauses on the planet. I am willing to bet $1.7 billion that there will be plenty of these opportunities for years to come.

Sovereign bankruptcy could solve the comprehensive coverage and transition problems, but there is no political support for it--and the design challenge remains formidable. So never mind that.

In the interim, all the clearing houses, payment systems, trustees, and others commandeered for sovereign debt collection can and should do two things to shape and speed regime change: (1) refuse to deal with or charge escalating fees to any sovereign that cannot certify that it has no toxic (payment) pari passu clauses in its debt stock, and (2) deploy their lobbying powers to get the same sort of shield for market infrastructure and intermediaries worldwide that Euroclear got in Belgium and Clearstream in Luxembourg. They are "systemically important" after all, and should not be hijacked as repo men. A treaty would not hurt, but I am not holding my breath.

This would be a tall order in the United States. But if the upcoming court decisions in Belgium and the U.K. manage to clear a path for Argentina to pay outside the United States, it might just get awkward enough for a broad-based fix.

As for the celebrating--I think the most sensible way to interpret it is (a) happiness at getting something, anything done about the royal mess that is sovereign debt, (b) happiness at the possibility that sensible people can agree on sensible things in a polarized space, and (c) hope that this is either the first step on the path to more comprehensive reform OR the end of a very bothersome episode.

For those who think this is the end, I am afraid it is not all good news.


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