rethinking sovereign debt

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  1. 1. RETHINKING SOVEREIGN DEBT Politics, Reputation and Legitimacy in Modern Finance PhD Forum, December 17, 2014 House of Finance, Frankfurt Luca Amorello presents Odette Lienaus new book
  2. 2. In a nutshell: Introduction: 1. Odette Lienau: a short bio; 2. Relevant Literature; Contents of the book: 1. Open Questions in Sovereign Debt; 2. Theoretical Underpinnings of Modern Finance; 3. Costly Talk? Reinterpreting the Soviet Repudiation; 4. Costa Rica, Public Benefit, and the Rule of Law; 5. Public and Private Capital in Mid-Century Repayment Norms; 6. Continuity and Consolidation in the Return of Private Finance; 7. Legitimacy and Debt at the Turn of the Century; 8. Politics and Prospects; Conclusions
  3. 3. Introduction:
  4. 4. Odette Lienau: a Short Bio Associate Professor of Law at Cornell Law School; Prior to joining the Cornell faculty, she practiced with the Financial Restructuring and Insolvency group at Shearman & Sterling in New York City; A.B. from Harvard College and a J.D. from NYU School of Law, where she was awarded the Jerome Lipper Prize for Excellence in International Law and the John Bruce Moore Award for Outstanding Work in Law and Philosophy; She has published articles and chapter contributions with Oxford University Press and the Yale Journal of International Law, among others, and is a consultant to the United Nations Conference on Trade and Development on the development of a sovereign debt workout mechanism; Her search and teaching interests include international economic law, international law and international relations, bankruptcy and debtor-creditor relations, and political and legal theory.
  5. 5. In Rethinking Sovereign Debt (Harvard University Press, 2014) she: challenges the conventional wisdom that all states, including those emerging from a major regime change, must repay debt or suffer reputational consequences; contends that this practice is not essential for functioning capital markets; and locates the twentieth century consolidation of the repayment rule in contingent actions taken by government officials, international financial institutions, and private market actors.
  6. 6. Relevant Literature: Main authors: Anne Gelpern, Mitu Gulati, Robert Howse, Chris Desan, Jonathan Kirshner, Katerina Linos; Peter Katzenstein, David Super. Interesting books: Sovereign Debt Management, R. Lastra, L. Buchneit, Oxford University Press, 2014; Sovereign Debt: From Safety to Default, R. W. Kolb, Wiley, 2011; Main practitioner: Lee Buchneit (to see:
  7. 7. Contents of the book:
  8. 8. Open questions in Sovereign Debt
  9. 9. Open Questions in Sovereign Debt There is one background rule in Sovereign Debt framework: Sovereign borrowers must repay, regardless of the circumstances of the initial debt contract, the actual use of loan proceeds, or the exigencies of any potential default; The common market narrative behind suggests that without this background rule of consistent repayment, reinforced by the disciplining mechanism of reputation, lending to many countries would disappear; The main idea of the book is that the market narrative supporting the repayment norm is simplistic and in some respect entirely wrong. How have we come to think about that the norm of sovereign debt continuity is more or less unavoidable for a working international financial system? Are there possible alternatives approaches in which odious debt ideas and selective debt cancellation might be incorporated into a functioning debt market for Sovereigns?
  10. 10. Conventional narrative of consistent debt repayment Three main ideas: 1) Judgments about a borrowers repayment decisions are not shaped by politics per se; (Political Neutrality) 2) The mechanism of Sovereign reputation itself is free from subjective and historically variable political judgments; (Reputational Stability) 3) All rational creditors are expected to respond in basically the same way to particular market events; (Creditor Uniformity)
  11. 11. Challenging the mainstream continuity rule Instead, according to Odette Lienau: The debt continuity norm is intrinsically political and historically variable; Depending on the theory of sovereignty implicitly or explicitly adopted, the practice of Sovereign debt and reputation may diverge significantly; Creditor uniformity cannot simply be assumed and different creditors may interpret and historically have interpreted the same politicized debt repudiation in opposing ways; Alternative approach, as the incorporation of illegitimate debt and partial cancellation, emerged historically and could function more fully in future.
  12. 12. Problems with the conventional wisdom Political Neutrality derives from a statist conception of sovereignty (i.e.: idea that content of and changes in a states internal structure, interests, and popular support are irrelevant to its status as legitimate Sovereign); The determination of which Sovereign a reputational assessment attaches to is necessarily infused with a background, historically informed political judgment: statist and non-statist approach to the idea of Sovereign may lead to very different outcomes. The assumption of Creditor Uniformity and shared interests is not fully supported by the historical record. There are historical evidences in which creditors respond in entirely different ways to the same debt repudiation.
  13. 13. Odious debt as Sovereignty in Practice The issue of Odious Debt is pivotal. Odious debt arises when an illegitimate regime contracts debt that is not authorized by and does not benefit a nations people (Alexander Sack); The key point of all odious debt version is that they challenge the dominant statist vision of Sovereign continuity in international economic relations; When a regime changes, the incoming regime frequently seeks to distinguish itself from its predecessor, and may consequently seek to free itself of the predecessors debt obligations on the basis of the right. This idea then questions the norm of Sovereign debt continuity.
  14. 14. Creditors competition in the Last Century The ways in which creditors are consolidated or competitive in their interactions and risk interpretations affect the degree to which non-statist approaches are accepted in Sovereign debt: 1) In times when creditors are more competitive and they consider each other to be significant risks, sovereign debt norms are subject to greater contestation; 2) Shifts in broader norm of Sovereignty in the international arena affect the degree to which we consider odious debt ideas plausible in international economic relations. These two assumptions play a central role in conditioning the debt continuity rule and the ultimate responses of market actors in any Sovereign debt interaction. Although debt repudiations are not numerous, they do suggest that the continuity norm is not predetermined and also highlight how creditor interaction and broader conception of Sovereignty make flexibility more or less likely at certain historical contexts.
  15. 15. Theoretical Underpinning of Modern Finance
  16. 16. Addressing the Conventional Approach The strict rule of repayment depends upon a distinctly statist concept of Sovereignty, which assumes Sovereign continuity within the same territory and insists on the irrelevance of changes in internal rule of Sovereign Identity; however this idea leaves open vey basic questions: who actually constitutes the ultimate principal in a Sovereign contract? If it is people, what type of governmental authorization is needed to make such a contract binding? Different theories of Sovereignty in reality are alternative theories of agency in international context. Any valid domestic contract then is at least implicitly grounded in a theory of agency. The problem is the lack of a clear theory of agency in the international arena. The distinction between legitimate and illegitimate domestic contracts falls apart when we move to the realm of transnational sovereign debt. Different conceptions of Sovereignty should result in differential treatment of Sovereign Contract obligations. A theory of Sovereignty should then specify the nature of the relationship between the Sovereign government and the principal, the people against whom the contract is ultimately enforced.
  17. 17. The Indeterminacy of Sovereign Reputation The reputational mechanism is flexible enough to incorporate a range of statist and non- statist approaches of Sovereignty. However, different approaches to legitimate Sovereignty and debt continuity lead to conflicting reputational assessments; indeed, any claim about Sovereign reputation implicitly rests on an underlying political and legal theory. For example, any acceptance of an odious debt idea, which might highlight the importance of authorization and/or public benefit, suggests the presence or plausibility of non-statist approaches in Sovereign reputational analysis. If such an argument is made and accepted by a creditor after a regime change, the incoming regime may be treated as a new or unseasoned borrower. Conversely, a statist concept of Sovereignty, supportive of the continuity norm, would not distinguish between legitimate and illegitimate debt in assessing a new regimes repayment record as part of reputational analysis. The idea of Sovereign Reputation thus is important but it must be located within a broader theoretical and historical contexts;
  18. 18. Interest depends upon particular circumstances and identities that may shift over time. There is little reason to believe that creditor interests in the arena of Sovereign debt will be entirely uniform, given that they respond to tow principal source of risk: 1) Risk of default or debt repudiation; 2) Competition between suppliers of


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