Impact of US Judicial Interpretations in Global Credit Risk

Eduardo Petazze The recent decision by U.S. courts regarding interpretation of the equal treatment clause (pari passu), and additionally, the imposition on financial agents -in charge of distributing the payments from the debtor- for the retention of amounts sufficient to meet to treatment parity clauses, are having and continue to have a significant effect on increasing the risk premium of international financial institutions and countries with high debt exposure. The odds that the U.S. Supreme Court agrees to analyze the sentence, and, in any case, to reverse the decisions of the lower courts is very low. The Argentina, is pushing for a new law, protective measures in favor of the bondholders under foreign jurisdiction, both for holdouts and to performance bonds. Possible new sovereign debt crisis could significantly reduce the degrees of freedom of any country to offer -with some probability of success- a restructuring of its debt, including reductions, time extensions, adjustment of interest rates, etc.. Indeed, the interpretation of American law (even if the case of Argentina was not a precedent), protects the rights of the creditor against the claims of a debtor (including sovereign) to decide to restructure its debt. In that sense, the creditors will not be compelled to accept the proposed swaps. Additionally, sovereign debtor is required to produce a negative pledge, as is demonstrating its inability to improve an offer or afford the payment due on the agreed conditions. Because they are inevitable sovereign debt crisis occur from time to time, the international community should work on two essential aspects to prevent or mitigate systemic effects A set of rules, issued under the auspices of an international body to establish the mechanisms for self-declaration of "bankruptcy" of a sovereign issuer, and the rights and obligations of unsecured creditors, up to that statement. Such kind of rules may be referenced by each country in its future debt issues A limitation, as recommended by the Deutsche Bundesbank, to limit tenure (for computing capital adequacy) of sovereign-debt by financial institutions. The analysis of the impact of the proposal of the Bundesbank should be done with haste, ensuring that a possible implementation of such a limitation does not end up creating a problem of liquidity in debt securities issued or ability of new funding for the public deficit. It is not advisable to await the decision of the Supreme Court or speculate that the international impact of the case against Argentina end up being limited.