New food for the vultures? Lack of state insolvency regime undermines Ukraine debt deal

27 August 2015 by Bodo Ellmers

Ukraine - CC Flickr / Juanedc

Ukraine has reached a debt restructuring agreement with a creditor committee representing 50% of outstanding government bonds. Substantial debt reduction is essential to bring Ukraine’s debt levels down to sustainable levels. But the agreed deal falls short of what is needed. And the participation of the other 50% of bondholders is not secured, and cannot be secured in absence of a multilateral debt restructuring framework that can make binding and enforceable decisions. The Western powers reluctance to help build such a framework might have fed FED
Federal Reserve
Officially, Federal Reserve System, is the United States’ central bank created in 1913 by the ’Federal Reserve Act’, also called the ’Owen-Glass Act’, after a series of banking crises, particularly the ’Bank Panic’ of 1907.

FED – decentralized central bank : http://www.federalreserve.gov/
their ally to the vulture funds Vulture funds
Vulture fund
Investment funds who buy, on the secondary markets and at a significant discount, bonds once emitted by countries that are having repayment difficulties, from investors who prefer to cut their losses and take what price they can get in order to unload the risk from their books. The Vulture Funds then pursue the issuing country for the full amount of the debt they have purchased, not hesitating to seek decisions before, usually, British or US courts where the law is favourable to creditors.
and their aggressive litigation strategies.

The Ukraine debt deal

According to information obtained by the Financial Times, Ukraine has reached a deal with a creditor cartel led by the investment fund Investment fund
Investment funds
Private equity investment funds (sometimes called ’mutual funds’ seek to invest in companies according to certain criteria; of which they most often are specialized: capital-risk, capital development funds, leveraged buy-out (LBO), which reflect the different levels of the company’s maturity.
Franklin Templeton. The deal agrees a 20% haircut to Ukrainian government bonds worth US$18bn. It will also extend the repayment period by four years to ease Ukraine’s liquidity Liquidity The facility with which a financial instrument can be bought or sold without a significant change in price. needs. As a sweetener, participating creditors receive a higher interest Interest An amount paid in remuneration of an investment or received by a lender. Interest is calculated on the amount of the capital invested or borrowed, the duration of the operation and the rate that has been set. rate of 7.75% instead of 7.2%. In addition, reports the FT, “a GDP GDP
Gross Domestic Product
Gross Domestic Product is an aggregate measure of total production within a given territory equal to the sum of the gross values added. The measure is notoriously incomplete; for example it does not take into account any activity that does not enter into a commercial exchange. The GDP takes into account both the production of goods and the production of services. Economic growth is defined as the variation of the GDP from one period to another.
­linked warrant will be provided from 2021 to 2040 that will pay out up to 40 per cent of the value of annual economic growth above 4 per cent.”

Too little, too late

The deal comes after Ukraine’s economy fell into a deep recession following the outbreak of the civil war and the annexation of the Crimean peninsula by neighboring Russia. Last year, Western powers used their influence in the IMF IMF
International Monetary Fund
Along with the World Bank, the IMF was founded on the day the Bretton Woods Agreements were signed. Its first mission was to support the new system of standard exchange rates.

When the Bretton Wood fixed rates system came to an end in 1971, the main function of the IMF became that of being both policeman and fireman for global capital: it acts as policeman when it enforces its Structural Adjustment Policies and as fireman when it steps in to help out governments in risk of defaulting on debt repayments.

As for the World Bank, a weighted voting system operates: depending on the amount paid as contribution by each member state. 85% of the votes is required to modify the IMF Charter (which means that the USA with 17,68% % of the votes has a de facto veto on any change).

The institution is dominated by five countries: the United States (16,74%), Japan (6,23%), Germany (5,81%), France (4,29%) and the UK (4,29%).
The other 183 member countries are divided into groups led by one country. The most important one (6,57% of the votes) is led by Belgium. The least important group of countries (1,55% of the votes) is led by Gabon and brings together African countries.

http://imf.org
to unleash bailout loans of €9.6bn under the Extended Fund Facility. The programme came with brutal austerity and structural adjustment Structural Adjustment Economic policies imposed by the IMF in exchange of new loans or the rescheduling of old loans.

Structural Adjustments policies were enforced in the early 1980 to qualify countries for new loans or for debt rescheduling by the IMF and the World Bank. The requested kind of adjustment aims at ensuring that the country can again service its external debt. Structural adjustment usually combines the following elements : devaluation of the national currency (in order to bring down the prices of exported goods and attract strong currencies), rise in interest rates (in order to attract international capital), reduction of public expenditure (’streamlining’ of public services staff, reduction of budgets devoted to education and the health sector, etc.), massive privatisations, reduction of public subsidies to some companies or products, freezing of salaries (to avoid inflation as a consequence of deflation). These SAPs have not only substantially contributed to higher and higher levels of indebtedness in the affected countries ; they have simultaneously led to higher prices (because of a high VAT rate and of the free market prices) and to a dramatic fall in the income of local populations (as a consequence of rising unemployment and of the dismantling of public services, among other factors).

IMF : http://www.worldbank.org/
conditionality attached.

As in other IMF program countries, most prominently Greece, the economy collapsed further when implementation began and austerity policies started to impact. Earlier this year, the IMF revised growth projections downward, while lauding that “Ukraine at the moment remains current on all its debt, the coupon on the Russian bonds and all other coupons on Ukraine debt have been paid.”

The debt restructuring that is now being conducted was one of the conditions for official lending from the IMF, as the IMF faced increasing pressure to no longer violate its lending framework’s policy to refrain from lending into unsustainable debt situations, even if this is in the political interest of its major shareholders.

However, the 20% haircut negotiated with bondholders now falls short of the depth calculated by the IMF, which required savings to the of €15.3bn through a “debt operation” as part of an overall financing package. No further debt relief is presently in sight from any other creditor. Independent analysts even saw a need for much more comprehensive debt relief.

New food for the vultures?

It is far from certain if the remaining bondholders will participate in the deal negotiated by the creditor committee of Templeton and others. If the affected bonds were under Ukrainian domestic law, Ukraine could simply retrofit collective action clauses to them to secure full creditor participation, as Greece did with their domestic bonds back in 2010. Unfortunately, they are under English law. The holdout ratio – bondholders who refused to participate - under foreign law was 29% in the case of Greece. Ukraine could now face a similar situation. This jeopardises the whole deal.

The UK is one of just two European countries that has a ‘vulture funds law’ to avoid litigation by aggressive vulture funds Vulture funds
Vulture fund
Investment funds who buy, on the secondary markets and at a significant discount, bonds once emitted by countries that are having repayment difficulties, from investors who prefer to cut their losses and take what price they can get in order to unload the risk from their books. The Vulture Funds then pursue the issuing country for the full amount of the debt they have purchased, not hesitating to seek decisions before, usually, British or US courts where the law is favourable to creditors.
. These funds have made a business model out of buying junk bonds Junk Bonds The nickname in the USA for high-risk bonds, also called High Yield Bonds, issued by a company whose solvency is considered doubtful. This type of bond is considered highly speculative by the rating agencies. of crisis countries at a few cents to the Euro, then suing for full payment. Unfortunately, the UK law is for debt of the Heavily Indebted Poor Countries Heavily Indebted Poor Countries
HIPC
In 1996 the IMF and the World Bank launched an initiative aimed at reducing the debt burden for some 41 heavily indebted poor countries (HIPC), whose total debts amount to about 10% of the Third World Debt. The list includes 33 countries in Sub-Saharan Africa.

The idea at the back of the initiative is as follows: a country on the HIPC list can start an SAP programme of twice three years. At the end of the first stage (first three years) IMF experts assess the ’sustainability’ of the country’s debt (from medium term projections of the country’s balance of payments and of the net present value (NPV) of debt to exports ratio.
If the country’s debt is considered “unsustainable”, it is eligible for a second stage of reforms at the end of which its debt is made ’sustainable’ (that it it is given the financial means necessary to pay back the amounts due). Three years after the beginning of the initiative, only four countries had been deemed eligible for a very slight debt relief (Uganda, Bolivia, Burkina Faso, and Mozambique). Confronted with such poor results and with the Jubilee 2000 campaign (which brought in a petition with over 17 million signatures to the G7 meeting in Cologne in June 1999), the G7 (group of 7 most industrialised countries) and international financial institutions launched an enhanced initiative: “sustainability” criteria have been revised (for instance the value of the debt must only amount to 150% of export revenues instead of 200-250% as was the case before), the second stage in the reforms is not fixed any more: an assiduous pupil can anticipate and be granted debt relief earlier, and thirdly some interim relief can be granted after the first three years of reform.

Simultaneously the IMF and the World Bank change their vocabulary : their loans, which so far had been called, “enhanced structural adjustment facilities” (ESAF), are now called “Growth and Poverty Reduction Facilities” (GPRF) while “Structural Adjustment Policies” are now called “Poverty Reduction Strategy Paper”. This paper is drafted by the country requesting assistance with the help of the IMF and the World Bank and the participation of representatives from the civil society.
This enhanced initiative has been largely publicised: the international media announced a 90%, even a 100% cancellation after the Euro-African summit in Cairo (April 2000). Yet on closer examination the HIPC initiative turns out to be yet another delusive manoeuvre which suggests but in no way implements a cancellation of the debt.

List of the 42 Heavily Indebted Poor Countries: Angola, Benin, Bolivia, Burkina Faso, Burundi, Cameroon, Central African Republic, Chad, Comoro Islands, Congo, Ivory Coast, Democratic Republic of Congo, Ethiopia, Gambia, Ghana, Guinea, Guinea-Bissau, Guyana, Honduras, Kenya, Laos, Liberia, Madagascar, Malawi, Mali, Mauritania, Mozambique, Myanmar, Nicaragua, Niger, Rwanda, Sao Tome and Principe, Senegal, Sierra Leone, Somalia, Sudan, Tanzania, Togo, Uganda, Vietnam, Zambia.
only, a category to which the Ukraine does not belong. The UK’s legislators’ failure to respond tin a timely manner to civil society warnings that the law must cover all nations could prove fatal in this case.

Western UN boycott could be fatal for Ukraine

The debt restructuring operation could have been conducted faster, fairer and in a far better way if the international financial architecture included an insolvency regime for sovereign debtors. In August last year, the group of developing countries at the United Nations mandated the UN General Assembly to create such a multilateral debt restructuring framework to avoid this situation. But the UN Committee that had been set up to do the job has been boycotted by the USA, the EU and the other G7 countries. Ironically, their ally Ukraine could now become the first victim of the Western powers’ regime-building boycott.


Source : Eurodad


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