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Paul Blustein's Laid Low, and Some Musings on the Next Crisis

posted by Mark Weidemaier

(This is a joint post by Mark Weidemaier and Mitu Gulati)

We jointly teach a class on international debt, focusing on what happens when sovereign governments and the entities they control go bust. We love this class, because we work with our students to design a restructuring plan for a country in financial distress, and our students often come up with terrific ideas. This semester, we're focusing on Venezuela, which would involve an enormously complicated restructuring. One reason is that Venezuela has not exactly cozied up to the IMF, which typically plays a key role in a restructuring. To get a sense of the IMF's role and limitations, we asked our students to read Laid Low, Paul Blustein's new book about how the IMF played a part in managing (and mismanaging) the Greek debt crisis. Blustein is a terrific story-teller, with rare access to key players at the IMF and elsewhere. Although we followed the European debt crisis closely, much of what's in Laid Low was new to us.

Every crisis is unique. For the Greek crisis, the reason was that it hit Europe, which was supposed to be immune to such things. But the crisis showed that many governments in the "new third world" (to quote Michael Lewis) had over-borrowed to a spectacular degree. Meanwhile, the supposed "grown-ups" in the room--institutions like the IMF, the European Central Bank, the Bundesbank, and the US Treasury--didn't see the tsunami coming.

A lesson that emerged from the Greek crisis--and a major theme of Laid Low--is that the IMF and European authorities failed to recognize the depths of the crisis. At first, some European leaders simply refused to acknowledge that a Euro area member could go bust, becoming apoplectic if anyone so much at uttered the word "restructuring." The result was that official actors did not plan for the inevitable. Then, when it was finally acknowledged that Greek debt was unsustainable, projections about what it would take to return the country to sustainability were consistently over-optimistic. "Too little, too late" is not a good recipe for a quick return to financial health. So it is no surprise that Greece is still mired in a debt crisis--only now its debts, formerly in the hands of private investors and relatively easy to restructure--have been heaped on the backs of European taxpayers. It will not be easy to wipe these away (though "creative" accounting may allow European governments to pretend otherwise). 

It is not unlikely that we will see another sovereign debt crisis in countries formerly thought to be immune. The Italian debt stock is so enormous, and the country's growth so anemic, that we shudder to think of the consequences of a crisis in that country. The institutions that manage such crises need to learn from their past mistakes. With a country like Italy, "too little, too late" could be a recipe for disaster.


Have you read GAME OVER, a memoiristic take on the Greek debt crisis by George Papaconstantinou, finance minister 2009-11? I'd be interested in your take on it if so. Thanks.

I likewise thought Blustein's book was wildly informative. I am new to the world of sovereign debt, so his great story-telling made starting to learn something with a steep learning curve exciting. After reading the book, I had two lingering thoughts.

First, was the Eurozone crisis over-institutionalized? Looking back at the financial crisis of 2008 sparked by Lehman Brothers going bankrupt, the Fed was able to respond quickly and inject liquidity fairly quickly, while Congress and Treasury put together a fiscal rescue. But with Greece, we had the IMF, ECB, EC, and later the EFSF all trying to leave their mark, often in conflict with each other as Blustein illustrates. Having a clear leader who knows what powers it has is very helpful in a crisis situation, so if another crisis were to strike the Eurozone, hopefully it can learn from the institutional toe-stepping that caused delay and dispute when dealing with Greece.

Second, what will the relationship between the ESM/ECB and the IMF be going forward? Will countries seeking help cozy up to the one that can loan them the most money on the most favorable terms? Will creditors demand participation by one over the other? Is it possible the ESM is asked to help should a crisis strike an EU member that is not a member of the Eurozone? Does having two international lenders of last resort - one for Eurozone countries and one for the rest of the world undermine some of the goals of international law and cooperation? Perhaps a firm agreement between the Fund and Eurozone institutions will be needed going forward so as to avoid a turf war of sorts.

Hope these comments are clear. If nothing else, I enjoyed the book!

Christopher: No. It has been on my steadily-lengthening "to-read" list, I'm embarrassed to say.

Haven't read the book.

But I do have an alternate explanation for IMF "mismanagement".

IMF economists knew that Greek debt burden too high and that the proposed restructuring was not viable.

But if the IMF had declared so in 2010, it feared that the Eurozone would be at risk

Prior to reading Blustein's book, I knew very little about sovereign debt restructuring and the IMF aside from a very brief discussion of these institutions in a history of the EU class in undergrad.
Blustein's book was eye-opening in regards to the massive organizational flaw that plagues major institutions like the IMF and UN. I thought Blustein did a great job of describing the IMF by characterizing it as a junior partner to the countries and other institutions who are involved in these negotiations and restructurings. While the IMF is considered to be a key player in the world economy, I am finding it hard to assess their impact and gauge their actual success in these restructurings because they are constantly demoted to the junior partner status. Will the IMF always be considered a subordinate member in these negotiating proceedings? How will the new administration in the United States affect the IMF's role in debt restructurings? It will be interesting to see how this plays out.
Additionally, I had no idea that the CDS market extended to sovereign debt and how the downfall of Greece affected the market. I am curious as to what sorts of investors would invest in the "sovereign" CDS market. Additionally, I am eager to explore how the CDS market would be affected in other countries such as Venezuela and Mozambique who are currently battling default.

We found “Laid Low” to be a helpful guide not only to how the IMF is supposed to work, but also to how it works in practice. The book presented an interesting narrative about the pressures faced by the IMF during a challenging time in its history. One of the challenges that seems particularly relevant for future restructurings is that of “ownership” of a restructuring program. Intuitively it makes sense to tailor a program specifically to the region and the particular culture of the country. In the case of Venezuela, who exactly has to have ownership, Nicolas Maduro and his supporters who are in power now? Is it the wealthy elite who would be responsible for the economic rebound of the country, or the poor masses who will be hit hardest by the consequences of a default? How, if at all, would the proposed restructuring differ when taking these groups into account? In the past, the IMF has responded to the problem of ownership by having fewer mandatory structural changes as part of their loan packages. But, Venezuela’s economy is in such disarray that major structural changes might be severely needed.

An issue related to ownership is the political difficulty of agreeing to implement, and then successfully implementing the IMF’s prescribed structural reforms for improving long-term economic health. Structural reforms, such as a reduction in the minimum wage, reduced governmental services, and more stringent tax collection, are inevitably unpopular with the citizens of the debtor country. This makes these reforms difficult to agree to, and even more difficult to enact for any country. But as the SYRIZA leaders of Greece threatened in 2015, a country may refuse to agree to structural reforms, or more likely, may lack the political will to enact those reforms. Ultimately, Greece submitted to international demands, but the attempt raises an interesting question: what would the IMF do if it lacked any reasonable expectation of imposing structural reforms? For example, in Venezuela, substantial economic reforms would be antithetical to the ruling party’s political ideology, and therefore seem unlikely to occur even if nominally accepted as part of a loan package. The IMF’s (claimed) adherence to a requirement of debt sustainability seems to limit the Fund’s ability to offer financial assistance. Increasing the country’s total debt obligations, without reason to expect economic growth would make it difficult create a program that could be expected to in result debt sustainability.

The book also describes the difficulties the IMF faces to re-design programs when the original conditional loans fail to provide debt sustainability. So far, the IMF seems unable to convince official creditors to take part in losses, especially when the structural changes that conditioned previous loans are not successfully implemented. In Europe, the IMF is dealing with creditors that have the common goal of maintaining the stability of their currency union. Yet, European countries are still refusing to grant further debt relief to Greece until the Greek government implements the structural requirements of the original loan program even though the IMF is skeptical that Greece can recover without further debt relief. In other regions of the world, the IMF may well have to deal with official creditors that have more divergent interests then its European partners. In Venezuela’s case, China and Russia are thought to be among its main official creditors, so it will be interesting to see whether these countries can be persuaded to restructure their debt to contribute to the debt sustainability of Venezuela if the traditional combination of austerity measures and reduction of private loans are not enough to stabilize the Venezuelan economy in the face of low oil prices. We wonder whether their diverging foreign policy interests will make it easier for the IMF to pressure them into granting Venezuela debt relief, or whether these countries will take a page from Europe’s book and outright refuse to take haircuts.

A really interesting read – not only on the history of the euro-area crisis but also a nice overview of the IMF. One thing that really struck me from the beginning was the resistance by European leaders against IMF action on the continent. Obviously, we now see IMF action as inevitable – but this book does well at articulating the struggle to even have IMF intervention.
“The IMF is not for Europe. It’s for Africa — it’s for Burkina Faso!” Translation – Europe is too proud for the IMF. The book articulates that leaders thought Europe should handle its own problems and (probably more relevant) an IMF bailout would question the strength and legitimacy of the European monetary union. There is a part of me that sees where they were coming from. The Euro wanted to be seen similarly with the US Dollar and the Sterling Pound, and excepting a bailout may indicate systemic flaws with the union. However, the euro had only been around for a little over 10 years when this crisis really started to take shape, Greece had only been a member for a little over 8 years, and the world was reeling from the 2007-08 financial crisis. Obviously hindsight it clearer, but the struggle to even involve the IMF really did astonish me. Hopefully the lessons learned from this narrative will prevent inactions in the future.

Blustein's account of the Eurozone crisis is uniquely interesting because of the inside information he includes on the IMF's decision-making process. At times, this has the effect of portraying the Fund as the only level-headed player in the room. That said, upon finishing the book, we didn't get the sense that the Europeans and the IMF are equally to blame for failing to recognize the depths of the crisis. In fact, the IMF was eager to play a central role when the crisis first started. And, from the very beginning of the negotiations with the Europeans, the Fund made clear that the best path forward for Greece would be to reduce the country's debt principal. As Blustein makes clear, the Fund's approach faced strenuous opposition from European officials (mainly the Germans), who placed too many conditions on IMF intervention, effectively relegating the Fund to junior partner status in the Troika arrangement. Even though IMF experts saw that Troika packages were based on unrealistic projections, they repeatedly yielded to Germany and France’s judgment until it was too little too late.

So the question shouldn’t be whether the IMF and the Europeans were naïve about the depths of the crisis, but rather whether the IMF is to blame for conceding too much in the negotiations phase. By accepting their junior status in the Troika arrangement, it seems that the Fund necessarily limited its capacity to carry out its mission. One way to avoid this problem going forward is to address the seemingly archaic institutional framework that keeps producing these results. If the IMF is to maintain a reputation of credibility as an independent and neutral arbiter, there needs to be an overhaul of the institutional architecture in order to give the Fund more leverage in these negotiations.

Blustein provides valuable insight into the world of sovereign debt crises, presenting his findings in such a way that even newcomers to this area stand a chance at grasping an understanding of the role the IMF can and ought to play in the global financial system. Much of the value of this narrative lies in Bluestein’s account and analysis of the thought processes of those charged with solving Greece’s financial woes. He writes at some length of the IMF’s struggle to find its identity in the years preceding the 2008 financial crisis. This lack of identity, brought on by a lull in significant global financial crises, seems to have persisted throughout the Greek crisis as the IMF continued to break its own rules and often assumed the role of second fiddle in its involvement in Troika. Much of this seems to be to due to the IMF’s propensity to acquiesce to outside influences. Bluestein seems to hint the failure of the IMF to act decisively in the early stages of the Greek crisis can partially be attributed to the sentiment of European leaders that bailouts and debt-restructurings were for emerging nations, not Eurozone members. Perhaps one silver lining for the ensuing crisis in Venezuela is that the IMF would likely not encounter the hubris it faced in Europe of “it can’t happen here.”

I thoroughly enjoyed reading Laid Low. I know a little about sovereign debt but the book does an excellent job walking through the troubles plaguing the Eurozone. It was a bit long and repetitive but I think it was necessary to understand all the motives that were influencing each choice that was made regarding Greece and the other countries aided by the IMF. I was not aware of the intricacies of each decision and how it is not just a rationale economic decision, but often swayed by politics, personalities, disagreements, and timing.

Additionally, I was very dissatisfied with the weakness of the Troika when dealing with Greece. How can the IMF grant Greece the largest loan they have given out but have no real means to make sure that the austerity measures they want in return are actually carried out? Sovereign investments are deemed one of the safest forms of investments, but when these countries are in the throws of economic turmoil and their citizens are suffering (and often protesting against the economy suffering and potentially the austerity measures) there is much political pressure for them “to take the money and run,” and do whatever they want to help their citizens/stay in power. How can this be a safe investment? I am not sure what can be done about this, except the IMF refusing to give money until some sort of legal contract is made for the country to agree to abide by the austerity measures. There is the issue of enforcement again, but perhaps the IMF can be stricter and the moment a country does not abide by the austerity measures they stop funding or they have more people on the ground making sure the austerity measures actually happen. Some might argue that this is an invasion of their sovereign powers but I think by asking the Trorika, particularly the IMF, to give them money, particularly such a large investment, they need to sacrifice a little. When someone defaults on their mortgage, the bank comes in and takes the home, the same logic should apply to a country. A country is basically being protected from default, and therefore, they need to be treated as if they defaulted, which should mean losing some of their independence. It is too big of an investment for so little monitoring.

I thoroughly enjoyed Laid Low. Blustein’s writes in a style that is engaging and makes the complexities of the global sovereign debt markets accessible to the layperson. In my opinion, Blustein’s book presents two overwhelming “lessons learned”: 1) BRICs and other emerging nations that are IMF members are rightly concerned about the IMF’s U.S. and European Union dominated governance structure, and 2) the IMF both underestimated the likelihood of a European nation going into default as well as the collective action problems presented in efforts to form a response to debt crises. Blustein often wonders how the Greek debt crisis might have been resolved differently if the IMF hadn’t had a crisis of leadership at its outset – but I wonder how the crisis might have been addressed had the IMF been led by someone with an arms-length (or further) relationship with the leaders of Germany, France, the ECB, and the European Commission. While realistically the board composition and voting shares of the IMF probably will not change any time soon, the IMF could at least adopt corporate governance best practices to address instances where a European IMF Managing Director must confront a European crisis. In those instances it would be more appropriate to create something analogous to a special litigation committee (perhaps a “special crisis response committee”) that evaluates whether the Managing Director can protect the IMF’s interests despite her conflict of interest and, if the committee finds that she cannot, fills the Managing Director’s role of evaluating and authorizing the crisis responses developed by the IMF staff. If the committee finds that she can represent the IMF despite the appearance or an actual conflict of interest, then the committee need only play a supervisory, “final check” role.

Unlike the United States, which after hundreds of years has developed a federal structure to regulate and address crises in financial markets, the European Union does not have quite the same number of policy tools at its disposal. The 50 United States of America exist in both a monetary and fiscal union – allowing the federal government to promulgate and enforce policies to set the national economy straight. The European Union, by contrast, is a monetary union only, and the Greek debt crisis exposed the huge collective action problems left unresolved because each member state retains control of its own fiscal policy. Because the IMF underestimated that aspect of the collective action problem that the European Union faced, it did not assert early enough (or forcefully enough), that the EU member states probably could not avoid adopting policies that would be unpopular at home in order to save the monetary union. Additionally, the IMF might have steered the European Commission and the ECB away from encouraging policies that would allow wealthier EU nations to maintain their ability to borrow cheaply from private investors at the expense of tax-payers across the EU.

All in all, Laid Low demonstrates that despite its failings, the IMF is still one of the most important (if not the most important) institutions in making a global economy work.

The biggest misconception in modern-day financial markets is that Greece´s debts are "unsustainable".
It is the complete opposite, in fact.
Debt-to-GDP is completely useless here because Greece is not, has not, and probably will not pay any principal on the EU loans (by far, the largest component of the overall debt burden), and is paying interest on only a small fraction of those liabilities. On top of that, most of the IMF loans have already been repaid, and bonds in private hands have extremely long maturities.
The little interest that Greece has and is paying on a portion of the EU loans is basically zero (Euribor + 0,5%). Let me repeat that: the cost of EU loans to Greece is and has been essentially zero so far.
When borrowing money costs you zero, you can´t say that the burden is unsutainable, no matter what the notional amounts are.
To add insult to injury, if you factor in the many billions that the ECB has returned to Greece (from gains on its portfolio of Greek bonds), then then net interest paid by Greece is and has been negative.
Few if any other countries in the world enjoy a lower de facto financing cost than Greece.

Through the reading of this book, we got a better understanding of the motives animating the participants to the financial support program as well as the power balance and the dynamics between them. From the experience in the Greece deal, we believe that almost everyone can agree in general that “too little, too late” results in incremental costs and losses overall incurred by stakeholders involved in this program (and actually it happened in Greece case) and such situation is undesirable and inefficient for all of the participants.

On the other hand, we learned from this book how difficult it is to align the different interests of the participants and to reach an agreement regarding the sustainability of debts and the amicable way to allocate the losses arising out of excessive debts. In order to implement a debt restructuring in an appropriate size and in a timely manner, we need at least to persuade those parties who have their own reason to believe the sustainability of the debts or necessity to avoid the restructuring that consequently turns out to be "too large, too early." It would be necessary to have a negotiation platform that would enable the stakeholders to determine and agree on (a) whether the debts would become sustainable through the program without restructuring (haircutting) the debts, and (b) if the debts are excessive, how the costs and losses should be incurred by the stakeholders both in an objective, equitable/fair and transparent manner.

In this regard, we anticipate the "re-profiling" framework or SDRM scheme would give us good hints on some of these points, but we want to further consider how can we come up with any objective criteria, standard or guidance to be followed in deciding them, or any fair, equitable and transparent procedure to decide them. In addition, we are also interested in how to lock the existing creditors in the program. In order to realize the equitable allocation of the losses, it would be critical to prevent the existing creditors from exiting by receiving the repayment backed by the emergency loan. While the progress in the practice regarding CACs and pari passu would contribute in solving the holdout issues, we also want to consider how it works vis-a-vis bilateral loan providers. In comparison to the bondholders, bilateral loan providers are more likely to have their personal interests and more power to act as holdouts.

I found this book incredibly fascinating. Coming from Greece, I have been exposed to all sorts of narratives regarding the role of the IMF in the economic and more importantly political/humanitarian crisis in Greece. None of them has been particularly positive. This book admittedly illuminated my perspective, both by offering a background story on the pre-2009 IMF and by offering a detailed account of the interactions of the Fund with the ECB/EC/France/Germany.

I have a couple things to note in this brief comment. Related to the idea that the IMF and Euro leaders overestimated the debt sustainability of Greece, perhaps fixated on a presumption that a euro area country cannot go bust, is the idea that the IMF and more so the European leaders overestimated the extent to which Greece qualifies as an advanced economy. The distinction between advanced and emerging economy is significant, because that distinction by itself sets forth different responses to turmoils. Blustein states himself that Euro leaders (Sarkozy) believed a restructuring is fit only for emerging economies and not advanced. Greece however showed strong similarities with emerging economies, in terms of economic and political trends. Fiscal policy was procyclical instead of countercyclical, and so was international borrowing. Politically, Greece lacked the institutional strength and capacity of traditionally advanced economies. Dropping the fixation with the advanced v. emerging distinction could have allowed for a different narrative that would in turn allow for faster and more realistic policy response.

Secondly, I was surprised to learn that the IMF had through time tried to minimize the burden of its conditionality programs, to enhance the idea that a country has ownership of its programs. In a sense, this shows that the IMF wants its programs to run in the same direction as the country's "democracy", and not in the opposite. There has been an increasing discussion regarding the effects of IMF conditionality on a country's democratic strength, and Blustein's account of that is certainly illuminating.

This book is also very useful because it clearly explains the dynamics between different key players in the euro crisis, and in a way foreshadows potential interactions between different crisis players in the future. In that regard, Benjamin's question above regarding the idea of leadership is very important. That said, I think the policy response to the euro crisis did have a leader: Germany. As Blustein accounts, Germany got its way on several occasions (often to the dismay of its major opponent, France). For many in Europe, Germany was seen as really calling the shots. If that is at least partially true, Benjamin's question may be rephrased from "is a leader needed to solve the crisis" to "what type of leader is needed to solve the crisis." It turns out that a leader in the shape and form of the IMF might have been Europe's best bet.

I most appreciated Blustein’s penetrating insight into the IMF’s inner workings, and his ability to track the sentiments within the organization, including those of individual members with disparate views on policy, especially when those contrasted with the organization’s outward manifestations during the European crisis.

Looking at the actual European crisis, Blustein’s examination of the conflict between the IMF and the European policymakers pushing their nation’s agenda was eye-opening and concerning in equal parts. While it is certainly normal and even demanded of leaders to look towards their own citizen’s interest first, this highlights the uneasy tension that the current European system tries to balance. The fact that it is primarily fiscal policy that is ceded to the European conglomerate makes it more apparent to me why leaving the Union is a legitimate choice for less well-off members of the EU. Though there are immense benefits to be had, it has to be a matter of concern for these countries that when push comes to shove they may be forced to make choices that in fact worsen their situation. As Blustein noted, the early attempts to fix the Greek problem were plagued with over-optimism and other European nations refusing to take actions that would possibly spread the harm and better fix the issue at hand.

My central question as someone with ties to the region are the lasting implications of the control exerted by wealthier European nations during the Eurozone crisis now that the financial crisis is once again beyond Europe’s shores. Blustein did an excellent job of illustrating that the IMF itself was hamstrung by its subordinate role in the Troika, as well as the historical context that led to the IMF being desperate to participate just as a matter of survival. But the fact that the IMF appears to have simply accepted measures adopted by the powerful European countries, even when it seemed to radically disagree with those measures, should be galling for countries in the future on BOTH sides of the sovereign debt issue. Powerful nations across the world lending money may be unhappy if they aren’t given their perceived fair voice in the outcome. This may be especially important with regard to Venezuela, where my understanding is that China has lent extraordinary sums. The IMF may even make what is likely the right choice in the future and seeks to limit these outside influences. But, having previously allowed nations to dictate policy, and then reverting back now that the crisis is not European, when the management of IMF is already seen as having European bias, may be disastrous for the reputation and respect accorded to IMF decision-making in the future. The BRICS countries that have maintained their grievances for some time will likely not let that go without a fight. I will be very interested to see how the IMF management chooses to approach this particular situation given the continuing European hierarchy. I will certainly hope that even extreme internal measures are contemplated so as to better dilute shouts of preferential treatment.

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