Eminent guest Lee Buchheit discusses EU bond debt, social bonds, and the G-20's Common Framework. They also delve into the weird clauses in Zambian eurobonds and the possibility of debt restructuring under the common framework. Interesting topics include joint and several liability, the Paripasu clause, and the removal of certain clauses in post-2014 Euro bonds.
The legal character of EU bonds and the question of joint and several liability remains unresolved.
EU bonds could potentially reduce the interconnectedness between sovereigns and banks, mitigating the risks associated with the doom loop.
Deep dives
The Background of EU Bonds and Joint and Several Liability
During the Eurozone debt crisis, there was a debate about issuing mutualized debt instruments that carried either joint and several guarantees of the member states or several guarantees. However, resistance from countries like Germany hindered the adoption of these instruments. Recently, the European Commission has approved a recovery program to finance COVID amelioration, raising questions about the legal character of these bonds. The Commission claims that the proceeds will be lent to member countries, and they assume that the bonds will be paid in full. Additionally, they state that there are options to cover deficiencies through reallocation of budget funds or calling upon member states. However, they do not provide a clear answer regarding joint and several liability.
The Benefit of EU Bonds and Tackling the Doom Loop
EU bonds could help address the doom loop between European sovereigns and their banks. Currently, banks heavily invest in their own government's debt obligations, considering them risk-free due to liquidity and ease of selling. However, during the Eurozone debt crisis, this practice led to the collapse of banks when sovereigns faced financial trouble. EU bonds would provide an alternative investment option, reducing the interconnectedness between sovereigns and banks. This move could mitigate the potential contagion effect and risks associated with the doom loop.
The Common Framework for Debt Treatments
The G20s common framework aims to coordinate debt restructuring activities between traditional bilateral lenders and non-Paris Club bilateral creditors like China. This represents a significant step towards international financial architecture cohesion. While the common framework is a major development, there are uncertainties, such as the treatment of state-owned entities as creditors. The framework states that debtor countries must have an IMF program consistent with Paris Club practice and must seek comparable debt relief from other creditors. However, consequences for countries failing to achieve comparable relief remain unclear, raising questions about the framework's effectiveness.
The Paripasu Clause and Modification Provisions
The Paripasu clause, aimed at rank equalization of creditors, traditionally made sense in corporate contexts. However, it was mistakenly included in sovereign bonds, where it lacks practicality. Questions arise regarding the provision that allows unilateral bond modifications by the issuer without bondholder consent, particularly one that gives the issuer sole discretion to decide whether modifications are prejudicial to note holders. This provision is unusual, and its true legal implications are uncertain. In more recent bonds, such discretion has been replaced with narrower language, such as allowing corrections for manifest errors, thus reducing the issuer's unilateral power.
Recent Sovereign Debt Drama. Plus: Zambia’s Weird Bond Contracts
Are EU member states jointly and severally liable for EU bond debt? (No, of course not. Well, kind of…) Other than being fun at parties, what makes a “social” bond social? And has the G-20’s Common Framework removed the need to worry about a wave of defaults and restructurings in the wake of the pandemic? Our guest this week is the eminent Lee Buchheit, who kindly fields these and other off-the-wall questions from us in the first half of the show. In the second half, we talk about Zambia and what a debt restructuring in that country might look like. Actually, we talk about weird clauses in the Zambian eurobonds that might be relevant in a restructuring. Can it really be the case that Zambia can unilaterally modify its way out of debt?
Producer: Leanna Doty
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