Who Benefits From Sovereign Debt Crises?

Yves here. Even though the struggle over Greece’s bailout has receded from the news, with many countries carrying large debt burdens, the need to restructure sovereign debts is not going away. But as Greece illustrates, the recent pattern has been to try to get blood from stones, and to be indifferent to the very real risk of turning fragile economies with weak governments into failed states (it must also be pointed out that Greece actually has gotten a lot of debt relief, but in the form of lowering of interest rates and extensions of maturities, but is being held to such unrealistic government budget and labor market “reform” targets as to virtually that the debt to GSP ratio will continue to worsen).

This Real News Network interview with Jayati Ghosh, whose posts we’ve featured from time to time, touches only briefly on the role of vulture investors in derailing what had been a successful sovereign debt restructuring by Argentina. For more detail, see Why Has Vulture Fund King Paul Singer, Picked Rubio To Be President? at DownWithTyrrany.

LYNN FRIES, TRNN: Welcome to the Real News Network. I’m Lynn Fries in Geneva.

In this series we’ve reported on an historic and unprecedented move on the part of the UN General Assembly to tackle the kind of sovereign debt crises that have hit Greece, Argentina, and the Ukraine, and we’ve been having a conversation on the issue with our guest, economist Jayati Ghosh. This is the concluding segment of that conversation and report.

First, to more on the General Assembly.

FRIES: Thanks to Argentina, the UN General Assembly has approved an historic resolution today. Argentina has opened the world’s eyes. So said Bolivia’s ambassador to the UN, speaking in his capacity as president of the G77 plus China at a UN press conference in 2014 on September 9, as work on the sovereign debt issue got underway as called for in the resolution introduced by Argentina, presented by the G77, was approved.

In a related comment at a resolution work session, Joseph Stiglitz had this to say.

JOSEPH STIGLITZ: The reason that we have a bankruptcy law is that in the absence of that there can be long delays. And the outcomes are determined not on the basis of principles of fairness and efficiency but on the basis of economic weight, economic might. The party that is willing to wait to spend the most on litigation. These are not principles of social justice or even economic efficiency. And the reason we have a rule of law is to protect those who are weaker, those who in the battle would be, would lose out. That’s why we have a legal framework and an international rule of law. And ironically when I talk to some people in the private sector, they say except for Argentina the old system worked perfectly well. What they meant was, we could beat up on almost all the countries and get our way. And it was only because Argentina was willing to stand up and say we want a fair negotiation that Argentina was the problem.

FRIES: We now continue to part five, the concluding segment of our conversation, with our guest, economist Jayati Ghosh. Jayati Ghosh is a professor of economics, and chair of the Center for Economic Studies at Jawarharlal Nehru University in New Delhi. Welcome.

JAYATI GHOSH: Thank you. It’s a pleasure to be here.

FRIES: Let’s talk now about Argentina’s debt restructuring. What happened there?

GHOSH: What really happened, what the Argentine case shows very clearly, is that the bona fide creditors and those who actually accepted the reduction in the debt, which was a very reasonable, plausible reduction, they are the ones who suffer. Because even they are not being allowed to be repaid by the US courts and by the US banks because of this peculiar, complicated system of jurisdiction.

So a few holdout creditors or a few holdout vulture funds can actually disrupt an entire system of debt and repayment because of their own interest. And this is not just disruptive of a particular case, it’s disruptive of the entire sovereign debt market.

FRIES: Talk more about the global and systemic implications of all this.

GHOSH: I think more and more people across the world and more and more countries across the world are realizing that you cannot have a properly functioning global financial system without this kind of debt workout mechanism. And this was the driving force behind the UN General Assembly resolution on this matter, which was of course led specifically by the case of Argentina. As you know, Argentina managed to restructure its debt with the support of 80 percent of its creditors. There were a few holdout creditors, those who didn’t agree.

Now, if you had a proper sovereign debt mechanism with collective action clauses it wouldn’t matter. They would also have been forced to agree. But these holdout creditors then sold their assets, their distressed assets, to what are called vulture funds. Vulture funds are companies that buy these really cheap, distressed assets and then somehow try and get the maximum gain from them. These vulture funds have been pursuing the case in various courts all over the world, including in the U.S. court. A U.S. district court, and subsequently the U.S. Supreme Court, have basically said that Argentina must pay those vulture funds the full value of the debt, even though they probably bought it at one-hundredth of the price. But they have to repay the full value of that debt, even when they have not paid that to the 80 percent of the creditors and they have themselves, when they did that restructuring, taken the position that they will not pay any other creditor more.

So Argentina’s in a complete bind. It cannot pay those holdout creditors or the vulture funds the full amount, because it has already promised the earlier creditors it would not do so. Yet now the U.S. courts are saying if you don’t do that we will freeze your assets here, we will not allow you to repay your other creditors. I mean, it’s completely bizarre what has happened.

Now, it’s that kind of ridiculous anomaly which really has to be fought and which would be clarified if we had a proper sovereign debt mechanism functioning globally. And so, in fact, there was a UN General Assembly move which, I’m very happy to say, won with a very large majority. But it’s interesting to see the countries that did not vote for it. They were mostly the developed countries. The United States, which originally President Obama had actually said yes, a debt workout mechanism is necessary. The United States voted against. The major European countries voted against.

So essentially, the developed world voted against because they feel that they’re in a position to ensure that their banks somehow get repaid at the cost of all the debtor nations. I think that’s the political economy of it. But it’s a very short-sighted political economy. Because in fact, if these governments feel that being able to by force push down a certain agreement on a debtor country, grind it into the dust, deny its citizens basic needs and all of their social and economic rights, force them into poverty and penury and somehow extract this debt, that this is a feasible way out, it’s not.

FRIES: What if things continue like this?

GHOSH: If it continues like this, in fact you will not have financial markets functioning for sovereign debt. Because it’s too messy, it’s too unpredictable, it’s too unreliable. And if there is no proper workout mechanism it means that neither creditors nor debtors actually know what’s ahead. This is really not a desirable situation. No financial market can function like this. Just as it was the financial markets that demanded debt resolution mechanisms for people, for companies, for municipalities, so in fact I am surprised that financial markets are not demanding this for the sovereign debt mechanism.

FRIES: To wrap up, what problem can a sovereign debt workout mechanism resolve?

GHOSH: Sovereign debt workout mechanism is something you do when there is a debt crisis, when there is a solvency problem, when there is a real problem of an inability to repay and a need to restructure the debt. We need to have a transparent, clear, systematic way of doing that. Because otherwise, now you are getting these really, really messy crises, which are not just messy. They’re extraordinarily painful and damaging to the citizens of the country involved. So we really have to think of a way in which we work out how to deal with the crisis. But of course that’s not enough. What we also need is a way of reducing the possibility of getting into these crises and ensuring stable, sustainable forms of external finance.

So in a way, you can’t separate this issue of the sovereign debt crisis with the fact that governments are now either forced to or willing to take on extremely unstable sources of external finance. And we should really try and reduce that. Reduce the reliance of governments on sources of finance that will be difficult to repay and can create huge potential for crisis in the future.

FRIES: So are you saying that there’s this increased risk of probability of debt crisis for any economy or government that’s seeking financing, so that’s a de facto structural impediment on the path to economic development?

GHOSH: Yes, the system we have today is actually one that either inhibits governments from seeking finance which is short-term in nature when they have long-term investments, or which will necessarily involve them in crises.

FRIES: And what about when G7 nations were developing countries?

GHOSH: The G7 nations are classic examples of countries that have benefited from very positive historical contexts, and from specific institutional conditions which they are unwilling to give now to developing countries. Or even giving, unwilling to give to some of their own.

We’ve talked about how Germany benefited from debt agreements and debt renegotiations that were dramatically more generous than what it is willing to offer Greece today. But as I mentioned the United States was a huge beneficiary of long-term sustained capital inflows through the bond market, which enabled the entire expansion of the U.S. railway system, the expansion of the U.S. power industry, the development of a whole range of other manufacturing industries. None of this would have been possible without that very long-term sustained foreign investment, and particularly foreign bonds.

Now, this kind of stable, sustained investment is what developing countries need today. And that’s what’s being denied to them.

FRIES: And a concluding thought?

GHOSH: A lot of sovereign debt crises are not because governments took on too much debt, or governments were profligate. A lot of them are because when private sector takes on too much debt and they can’t repay, then the government is forced to come in and take over those bad debts. That’s what happened in Ireland, that’s what happened in Spain. And then it’s the government that is left holding this baby, and somehow having to deal with the debt crisis which was really created by private investors.

A sovereign debt mechanism requires governments to be able to access long-term finance in a sustainable way, but it also requires financial regulation so that private players cannot behave irresponsibly and then leave the mess for the government and the citizens of the country to clean up.

FRIES: We’ll have to leave it there. This concludes our series. Jayati Ghosh, thank you.

GHOSH: You’re welcome.

FRIES: And thank you for joining us on the Real News Network.

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  1. Ignacio

    How popular is the Real News Network? How many people watch this? Did this interview generate a wave of tweets? I guess not despite it deserves all the attention and I am grateful for being able to read the interview at NC. It is not easy to find the precise moment in which people in general are open to this kind of discussions and willing to understand.

    1. Yves Smith Post author

      Real News Network has a much bigger audience than we do, although I do not think it is as well followed among journalists (and therefore not tweeted much) and also not much by economists (even though it does have economists on many of its shows, they are perceived to be sufficiently far left as to not get much attention from the mainstream. The MMT folks have managed to claw their way into being heard, while others perceived to be from the “left” are still largely marginalized.

  2. Clive

    What the vulture funds are aiming at is power, and power without responsibility — the prerogative of the harlot through the ages. (not my quote alas, https://en.m.wikiquote.org/wiki/Stanley_Baldwin gets the credit)

    One could argue that, in corporate debt, vulture funds perform something like the role of the vulture in the natural ecosystems in which they live (clearing up the waste, on occasion turning it into something useful). But that doesn’t hold true in Sovereign Debt. You shouldn’t get to screw around with whole countries unless you’re willing to take the consequences you’re inflicting on that country. It’s no surprise that the developed world isn’t rushing in to put a stop to it, the same (lack of) thought-processes operate all too clearly in, for example, our behaviour in Syraqistan.

    1. Synoia

      I would not be quoting Stanley Baldwin.

      What the vulture funds are aiming at is Money. Not power..

  3. RabidGandhi

    Just a couple of quick points, surely preaching to the choir here:

    1. When Yves mentions labour and market “reforms” these are surely consequences that benefit a certain group (capitalists/rentiers). But in and of themselves they have nothing to do with sovereign debt; quite the opposite. These reforms are just part of an irrational neo-liberal religion inevitably imposed by the IMF et al, even though they have been shown to exacerbate any sovereign debt crisis by stunting growth. Thus when we talk about Greece, the issue as I see it is not its sovereign debt level (which everyone agrees will need to be haircut), but rather whether these retrograde “reforms” will be implemented. The two are not linked.

    2. In this interview at least (I admit I didnt watch the whole series) Ghosh makes it look like this is an issue of vulture funds vs countries (and this was the line of argument of Argentine FinMin Axcel Kicillof at the UN). Yet this is somewhat simplistic, since there are always small groups within the country itself that benefit from the sovereign debt crisis as well. For example, any Argentine who successfully speculated by keeping financial assets abroad and liabilities at home came out a huge winner in the corralito of 2001/2002.

    Both (1) and (2) above show that there is always a comprador class that makes its living by shorting the common welfare of the country as a whole, and they come out winners in a sovereign debt crisis. In general, this is even bigger than the vultures (who in the Argentine case account for just $1.5b of some $160b in debt).

    1. Alejandro

      Certainly the IMF is infamous for their prescriptions but have been known for accurate diagnosis. It’s one thing to condemn the effects, and another to identify the causes, and change the causes to ameliorate the effects as opposed to exacerbate them. Austerity has been shown to exacerbate the effects, yet continues seemingly unabated. One of my favorite quotes is from Fiorello H. La Guardia, a former mayor of NYC, who happened to be a member of the “R’s”: -“Don’t talk to me about surpluses. There is no such thing as surplus until every family in the country is properly housed, and every man, woman and child is properly fed and properly clad.”…can’t say for certain, but in today’s context, I believe he would add healthcare, education and meaningful work.

      As far as vultures v. countries…this is how it’s played out in the courts… a venue that should facilitate the fair and orderly restructuring of UNPAYABLE debt and not aid vultures in their predatory and despicable “business model”.

      Not to minimize the observation about the comprador classes, which in a functioning “democracy”, would very likely be a focus of effective fiscal policy, but the predatory ethos of vultures should not be understated…placing the $1.5b next to $160b is misleading and gives a distorted sense of the disproportionality involved. How much would the $1.5b figure be if it were restructured as the others, and how much would the $160b figure be if it were never restructured? This would not even begin to address, what social or economic purpose, vultures can possibly have.

      Vultures like Paul Singer, would have us believe that “charity” and “philanthropy” are adequate substitutes for effective fiscal policy in a functioning democracy…if we just let them free to roam, they will take care of all that ails us.

      1. RabidGandhi

        That’s a great LaGuardia quote.

        By no means am I defending Paul Singer & co.; quite the contrary. Rather my point is that since Argentina told the IMF to stick its austerity in its keester, the economy has rebounded phenomenally. Thus the haircut Argentina wants the vultures to take now amounts to less than 1/30th of its reserves. That is what we are quibbling about: it would not represent an undue burden to pay it, but there is a matter of principle. Likewise from Singer’s point of view, they have already invested a tonne in attorneys and other expenses like campaign contributions (what we call “bribes” down here in the third world), and they haven’t a brass farthing to show for it.

  4. Steve H.

    -GHOSH: A lot of sovereign debt crises are not because governments took on too much debt, or governments were profligate. A lot of them are because when private sector takes on too much debt and they can’t repay, then the government is forced to come in and take over those bad debts. That’s what happened in Ireland, that’s what happened in Spain. And then it’s the government that is left holding this baby, and somehow having to deal with the debt crisis which was really created by private investors.

    Uh-oh… How fast can dark clouds on the horizon blow up to Category 5? How fast can Wall Street lose money?

    Rinse and repeat.

    1. susan the other

      Private banking is a dangerous institution. It works only for its own profits. And because we are stupid enough to give it all our money to “manage” we, as sovereign taxpayers, are vulnerable to the worst forms of extortion.

  5. Brooklin Bridge

    Nitpick in the intro: “[…]and labor market “reform” targets as to virtually [guarantee] that the debt to GSP ratio will continue to worsen).”

    Missing or not, it’s clear in the context.

  6. RBHoughton

    Speaking of sovereign debt crises, POTUS and Congress have just agreed an increase in the national debt to US$20t, an approximate doubling in this one presidency.

    The imperative growth that our system requries is being met by bits of paper circulating Wall Street banks and hedgies and less by actual economic activity of the traditional sort. Is this what countries lacking an internationally-traded currency should be emulating?

    Inflation which should reveal this is hidden by asset invisibility – JP Morgan’s 2013 accounts call their $67t of derivatives ‘notional assets’ – now you see them, now you don’t.

  7. blert

    What we are seeing, time and again, is the macro-effects of a collective thieving — by the local elites.

    The real reason that these nations have insuperable financial problems is do to macro-embezzlements of epic scope.

    The loot ends up stashed in Switzerland.

    Some idea of how much as been so looted popped into the news when Kaddafy’s pile was exposed, something well past $50,000,000,000 – the ultimate tally likely nearing $100,000,000,000.

    This same epic looting lies behind EVERY ‘troubled’ African economy.

    Even at the street level, the corruption rolls along. My nephew spent time in South Africa — in the absolute heart of AIDS. The local Big Mama was diverting 9 out of every 10 aid dollars into her kitty.

    As for Argentina and Brazil — the thieving is so extreme it makes other thieves blush — and attempt to steal even more.

    The epic debts are mirroring the epic stash piles in Switzerland. Even with a 1,000 franc note — they utterly ran out of vault space — nationally. And the Swiss build many vaults, big vaults. They are the vault center of the world.

    The shortage is so dire that wholly new — free standing — banknote vaults were constructed. These facilities exist for the sole purpose of hiding ill gotten cash. The usual client is stuffing a million francs into his ‘box.’

    Kakistocracy — it’s what’s in charge.

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