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Sovereign Debt and Drive-In Movies, Part II



As Anna Gelpern observes on The Credit Slips blog, there is no real political support for an international bankruptcy court for sovereigns.

What less daunting solutions might there be?

The obvious one is that bond-issuing sovereigns can change the language of their issuing documents. Couldn't they simply stop using the pari passu language that the holdouts have been employing in the New York courts? 

Well, yes, although something more than simply deleting that Latin phrase will be necessary. Fortunately, some very bright legal minds have given a lot of thought to the draftsmanship involved.

Most bonds issued by sovereigns nowadays have collective action clauses. These explicitly allow for a restructuring in which some supermajority of the creditors can vote to accept a "haircut," as it is called, and holdouts will then be stuck receiving the same payments with the same haircut, too.

Without a CAC, the situation is as if a drive-in movie theatre were prohibited from building a fence around its grounds, [an opaque fence of course, and one taller than any convenient viewer spot outside of itself] unless everyone in town agreed. The last hold-out on that agreement would be in an enviable situation, at the expense of the movie lovers who were more agreeable. But, with a CAC, the movie theatre needs only the approval of [say] two-thirds of the locals to build the fence should that fiscal crisis come.

But every country has until now been on its own in devising the wording of its own CAC, and a lot of disparate contract language is out there, threatening endless further litigation and presumably some Argentina-ish results.

The latest development is that the International Capital Market Association has devised standard language for collective action clauses.

The solution to the hold-out problem, then, will involve muddling through the messes created by the sort of contact language used thus far, until the new superior language becomes dominant, and the nesses will disappear. No reason to call in a planetary government after all, folks.

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