1. Lessons from a Decade of Sovereign Debt Crises Jeromin Zettelmeyer, IMF* Based on Debt Defaults and Lessons from a Decade of Crises, MIT Press 2007 (with Federico Sturzenegger) Presentation at The World Bank, July 11, 2007 *The views expressed in this presentation are the authors’ only and do not necessarily represent those of the IMF or IMF policy.

2. It’s hard to summarize a decade of crises! Strategy for this presentation: A quick reminder of what happened (2 slides!) Key issues/lession, along 4 dimensions  How did investors fare?  How did countries fare?  How well did existing debt restructuring mechanisms work?  Are there reforms of the international financial architecture that could put an end to costly debt crises?

3. What happened Since 1998, 15-20 sovereign debt crises and restructurings involving private creditors:  Russia (1998-2000), Ukraine (1998-2000), Pakistan (1999), Ecuador (1999-2000), Argentina (2001-2005), Gabon (1999, 2002), Seychelles (2002), Moldova (2002), Uruguay (2003), Paraguay (2003), Dominica (2004), Dominican Republic (2005), Grenada (2005), Belize (2006-07), Antigua (since 2006). Here: focus on 6 crises: Russia, Ukraine, Pakistan, Ecuador, Argentina, Uruguay  made history and/or were big in terms of Debt/GDP restructured  differ in complexity: from small and simple (Pakistan: 3 old instruments, 1 new instrument) to the complicated and huge (Argentina 2005: 156 old instruments).

4. Some facts Recent crises/restructurings focused on bonds (though sometimes holders were banks). A first since the 1930s. Involved both domestic and foreign debt (according to place of issue, or currency denomination, or both).both “Take it or leave it” exchange offers involving face value reductions and/or maturity extensions. Generally no formal negotiations with creditors (unlike 1980s; exception: Russia) See both “post default” restructurings (Russia, Ecuador, Argentina 2005) and “pre-default” restructurings (pre- emptive): Pakistan, Ukraine, Uruguay, Argentina “Phase 1”. Seniority of bonds disappears over time: Pakistan (1999): first Eurobond restructuring; Ecuador (2000): first Brady bond restructuring

5. How did investors fare? Ex post, in actual restructurings for the 1998-2005 period: wide range of outcomes  haircuts: high in Argentina 2005 (75%) and Russia 1999- 2000 (50-60%); low in Uruguay (13%); rest 25-40%. In the long run (e.g. 19 th century,1970-2001 period as a whole): modest positive excess returns on average (between 0 and a few percentage points) The period from 1990 until today is an outlier, with very good ex post returns (except for Argentina).  a consequence of high ex ante spreads, good luck, and— perhaps—a different financial architecture?

6. How did countries fare? Crises generally very costly in terms of output loss and “economic dislocation”  Exceptions: Pakistan, Ukraine Typically “twin”, or even “triple crises”: currency, debt, banking. Links in all directions.  Hence, it is very difficult to isolate the output cost of the default per se. Not attempted in our book.  Countries that avoided banking crises appear to have suffered less costly crises. In most cases, countries recovered, and their debt/GDP continued to fall after the restructurings.  Very different from the 1980s!  Main exception: Ukraine 1998-99.  Obvious caveat: some dose of good luck (after 2002).

7. How well did debt restructurings work? Reasonably quick  except for Russia,1998-2000, and Argentina, 2001-2005. High participation everywhere  Argentina 2005 lowest, at 76%. “Holdout creditors” did not block any restructuring.  They tried only in Argentina (but were unsuccessful). “Take it or leave it offers” of the 1998-2005 period did not lead to higher creditor losses than BAC- negotiated deals. Official sector (including IMF) played a constructive role in several cases, though it was less involved than in BAC-led debt restructurings.

8. Thoughts on financial architecture 1.Debt crises might involve “deadweight losses” for two reasons:  Imperfect institutions/contracts/legal frameworks, due to history and inertia to change.  Deep incentive problems and “incomplete contracts” imply a trade-off between incentives and insurance. 2.In principle, one can imagine international institutions that could eliminate these losses.  They usually involve a combination of a lot of insurance with prequalification (i.e. separate bad luck from bad debtor country policies) (The SDRM did neither. It’s weakness was probably not that it went too far but that it focused on second order problems like creditor coordination and free riding and did not address the first order ones-- output costs, reputational costs of debt crises, and “secondary runs”).

9. Thoughts on financial architecture (cont.) 3.First best international institutions are mostly politically unfeasible. They are too ambitious.  A possible exception: Tying large scale IMF crisis lending to good ex ante policies/institutions. 4.However, there may be scope for “completing contracts” directly, through financial innovation.  Local currency instruments: a form of indexation  “Real indexation” of debt service (equity like instruments)  “Negative convenants”  “Contingent reserves” (e.g. conditioned on the VIX) 5.In addition, some deep incentives problems could be addressed through reforms at the country level  Example: changes that made possible local currency debt

10. Currency/place of issue of restructured bonds

11. Thoughts on domestic policy-making Crisis prevention: largely conventional views “Crisis preparation”: A new angle? Firewalls idea.  Make it more difficult for a crisis in one sector (e.g., currency, or debt) to spread to another (banking). When to stop fighting. Non-PC views (for fighting):  Fight even if chance of avoiding crisis is small: difference in costs between crisis and non-crisis is much larger than the difference in costs between crisis now and crisis later). Crisis management (both before and after default):  largely conventional views; some tolerance for heterodoxy Working out a debt deal: why not front load more?  Puzzle: exit yields far higher than usual EM borrowing rates