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Coral Reef Protection in Exchange for Debt Relief: Could it Really Work?

posted by Mitu Gulati

Belize, as of this writing, is undertaking a restructuring of its sovereign bonds. Hard hit by covid and general economic woes, this is that nation’s fifth debt restructuring over the past decade and a half. This time though, Belize is trying to do something different with its restructuring.  Something that just might contain lessons for other emerging market nations struggling with covid related economic downturns.

Using funding from the environmental group, The Nature Conservancy (TNC), Belize is doing a bond buyback, offering investors around 50% of face value.  Once purchased, the bonds are to be cancelled.  Belize has collective action clauses in the so-called superbond in question, so the deal will be binding on all holders of its external debt if a supermajority of creditors (75%) agree to the deal.  The dynamics of collective action clauses have been examined in excruciating detail elsewhere and I won’t get into that here. What interests me, and has intrigued many in the financial press (e.g., see here,  here, here, here, and here) is Belize’s attempt to tie a promise to behave in a greener fashion in the future to its request for debt relief from investors.

Specifically, Belize is promising investors that it will, in conjunction with TNC set aside a significant portion of the funds that it will save from doing the restructuring for environmental protection endeavors in the future (Belize's gorgeous coral reefs feature prominently in most accounts of the deal). As explained by a Belizean official:

As an integral part of the offer to repurchase the bonds, Belize will commit to its bondholders to transfer an amount equal to 1.3% of the country’s 2020 GDP to fund a Marine Conservation Endowment Account to be administered by a TNC affiliate. After a period in which the Endowment Account will retain its investment earnings in order to reach a targeted aggregate size, the annual earnings on the Account will thereafter be used, in perpetuity, to fund marine conservation projects in Belize identified by TNC and approved by the Government of Belize.

I have at least four questions that strike me as relevant to figuring out whether this strategy can work for other nations also facing covid related debt restructuring needs.

First, does the Belize example suggest that a nation can get greater debt relief from investors by tying its debt restructuring to a credible green project (and we are assuming the credibility part)? Certainly, the funding from TNC is helping do the deal.  And in return for TNC helping retire foreign currency debt, Belize is promising to expend resources that will help its local infrastructure (and specifically, environmentally friendly aspects of infrastructure – such as the coral reefs).  

But is the foregoing persuading investors to take 55 cents of the dollar instead of 60? I have heard that that literally was the case – that the tentative deal was at 60 cents and Belize then put the coral reef preservation plan on the table and asked: How much is this worth? Investor quotes in a recent Financial Times article on the Belize deal suggest this as well (here). But talk is cheap. Enough creditors have not agreed to the deal as yet.  We will have to wait until the dust settles on the deal to get better information on whether investors really were willing to give up basis points to do an environmentally friendly deal.  But if it is the case that countries willing to make credible environmental promises are able to get a few more cents of recovery in exchange for credible ESG promises, that would be amazing and very important for future deals.

Second, what about the official sector? My sense is that there is enormous enthusiasm in Official Sector circles for anything green.  Does this mean that official sector support of restructuring efforts that are tied to a Belize type nature preservation deal is more likely?  And can official sector support for the deals be combined with ensuring that the green promises are actually kept by the governments in question so as to get investor support?

Third, I confess to deep skepticism that any of the fund managers negotiating with Belize really care about ESG. But they do care about their investors and they don’t like bad publicity (that then leads to regulation and government oversight). Similarly, I’m skeptical about government officials in this space. But governments care about voters and maybe that can result in their helping fund managers to care. Along these lines, I wonder whether there is some way for investors to receive green tax credits. That is, if there is 50 cents of debt relief for each dollar owed where 10 cents is going to a conservation project, could investors show that as 10 cents of a green investment and receive some kind of tax credit or more favorable accounting treatment?

Fourth, is this kind of a deal best done as a buy back of the bonds?  Usually, the term “buyback” is used for open market repurchases and my economist friends are deeply skeptical about whether these can ever work to a sovereign’s advantage. Belize though is essentially doing a more traditional restructuring through the mechanism of a buyback where it sets the price in advance and then only takes tenders if it gets all of the creditors into the deal.  I wonder whether this kind of a buyback structure can work if the sovereign has multiple bonds outstanding, all of which have different voting thresholds and mechanisms for stopping holdouts from disrupting the deal.

Despite my many questions, I very much want to be enthusiastic about the Belize structure and the possibility that it can be reproduced.  To quote a note penned by the Belizean PM:

All sovereign debt restructurings start with a sovereign borrower that needs debt relief in order to recover its financial footing. That debt relief is conventionally provided through some combination of principal write-offs, interest rate adjustments and maturity extensions. The common feature of these techniques, however, is that they leave the money liberated by the debt relief in the hands of the sovereign debtor to be spent, or misspent, with no further control or oversight by the lenders granting that debt relief. This feature of conventional sovereign debt restructurings can sometimes contribute to the bulimic appearance of the process: over-borrowing followed by a disagreeable purging through a debt restructuring, followed by another borrowing binge and yet another purging, and so forth and so on.

Belize’s pending offer attempts to break this cycle by channeling a portion of the debt relief into an investment in the Belizean economy that will result in the benefits — to Belize and to the planet . . . . The innovation of Belize’s approach is to direct a portion of the savings from the restructuring back into the country in a form that will achieve the dual goals of improving the country’s debt dynamics and supporting projects like environmental conservation that, in the middle of a fiscal crisis, might otherwise have gone wholly neglected and unfunded.

As noted, I don’t know yet whether the Belize deal will get done.  But, as of this writing, I hear that more creditors are hopping on board (apparently, the positive press this deal has received is helping add creditor votes). Fingers crossed. If this works, it could help my friends in the Maldives, Costa Rica, Barbados, Tobago Fiji, Sri Lanka and so on – all of whom have been hit badly by covid expenses and the drop in tourist revenues over the past eighteen months.  And they all have beautiful reefs that need protection.


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