By Joe Vladeck
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| Greeks protest austerity cuts by Piazza del Popolo | Flickr |
Nations have been defaulting on debt for about as long as
nations have been borrowing money. The Greeks went first. In the 4th century B.C.,
three
quarters of Greek city-states defaulted on loans issued by a temple on the
island of Delos.
Today, Greece is
still struggling. Although it is not the most recent nation to default on its
sovereign debt (that dubious honor belongs to Cyprus),
Greece's on-going
sovereign debt travails nearly led to the collapse of the Euro in 2012 and
continue to fester. Granted, the question of whether Greece actually
"defaulted" in December 2012 involves complicated
semantics, but Greece's track record of debt repayment record is spotty. According
to two renown economists, "Greece has been in a state of default about
50% of the time" since the country's independence in the 1830s.
Modern-day Greeks have recoiled at the policies of domestic
austerity that the country's creditors, notably Germany, have insisted upon as
part of Greece's debt restructuring. But in historical context, austerity might
not seem so bad: When Venezuela
defaulted on German, British, and Italian debt at the start of the 20th
century, Germany et al sent warships,
set up a blockade, sank Venezuelan ships, and shelled Venezuelan military
installations. Venezuela got the message, and the parties eventually agreed to
U.S.-led mediation of the dispute.
Fortunately, creditor nations no longer resort to
"gunboat diplomacy" when debtor nations fail to make payments. But it
is difficult to say that sovereign debt restructuring has become significantly
more systematic in the intervening eleven decades. A report
by the Brookings Institution recently noted that while "[s]overeign
debt crises occur regularly and violently," there is still "no
legally and politically recognized procedure for restricting the debt of
bankrupt sovereigns."
Critics of this ad hoc
approach point to two
factors as evidence that a more formal system is needed for dealing with
bankrupt nations. The long-held view that sovereign bankruptcies only
exclusively (or even primarily) affect developing nations has been refuted, as
demonstrated by the financial tremors that rippled through Europe following
Greece's crisis. Moreover, recent court decisions in a long-running dispute
between Argentina and a U.S. hedge fund upheld the
“hold-out” strategy that the hedge fund had pursued. (The hedge fund,
Elliott Management, refused to participate in Argentina’s debt restructuring following
the country’s 2002 default and insists on being paid in full if Argentina pays
off any of its other debts.) Policymakers fear the impact of the “hold-out”
strategy on future debt restructurings.
Along those lines, both Brookings
and the International
Monetary Fund have recently set forth proposals to formalize the sovereign
default process. The Brookings proposal, at its essence, is simple: once a
country's ratio of debt to gross domestic product exceeds a certain limit, that
country cannot receive any official-sector assistance (from the World Bank or
IMF, for example) without first undergoing a debt restructuring. The IMF goes
the other direction and takes a more complicated (or, perhaps, more
sophisticated) approach, largely predicated on marshaling
broad support for early intervention, before sovereign defaults turn into widespread
crises.
Still, many remain unconvinced that the IMF and Brookings
proposals represent progress. For example, many buyers of sovereign bonds have not
been persuaded that the current approach to sovereign debt restructuring is
broken. "[T]his whole thing looks to me a bit too much like a solution in
search of a problem," writes
Reuters columnist Felix Salmon, who goes on to suggest that policy-makers
are over-reacting to the Greek calamity and holdout litigation. Salmon invoked
a venerable legal adage as he urged caution. "Hard cases,” he explained, “make bad law."
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