Over the past three months, the world of sovereign debt restructuring has Zoom-called and document-shuffled its way to a new “common framework” for debt restructuring beyond the temporary global relief offered during the Covid-19 pandemic. While, sadly, travel and meeting restrictions did not allow for the customary seasonal partying among the sovereign debt tribes, they did exchange the traditional fulsome self-congratulations, if only electronically.
The common framework is intended to lead to a new age of transparency and harmony of term-setting among multilateral institutions such as the IMF and the World Bank, official lenders such as export guarantee agencies, and private lenders, including banks and bondholders. The intention is to put an end to the queue jumping and secretive side dealing that always bedevils negotiations between problem sovereign borrowers and their international creditors.
That would be great, so we could all move on in an orderly manner to restructure distressed sovereign credits such as Zambia, Lebanon and Sri Lanka, not to mention all the airlines, hotels and so on. The IMF can avoid expensive and dangerous traps such as its Greek and Argentine programmes.
There are, though, complications. Like China.
For the past 30 years, sovereign debt restructurings have, most of the time, followed rules that could almost always lead to deals between a country and its creditors.
You had two gravitational centres: official creditors, led by the IMF, and private creditors, initially led by commercial bankers, and then by bondholders’ groups. The distressed sovereigns orbited around these double stars of the dollar system.
In physics you would call this a “restricted three-body problem”, for which you solve the relative motions. Since one of the three bodies — the distressed sovereign — has, for computational purposes, a “negligible mass”, it is possible to find a repeatable solution using classical mechanics.
Three-body problems are harder. Three-body movements relative to each other are generally non-repeating, which means that it is difficult, if not impossible to find a “common framework” for predictable solutions.
“China”, by which I mean the Chinese state, Chinese financial institutions and Chinese companies, is the third body in the sovereign debt world. Official China is, of course, a leading member of the IMF-World Bank group and, at least notionally, is committed to international financial co-operation.
Except when it is not. China, unlike other rising countries, is close to being an alternative world to the dollar system. You can sell metals or oil for renminbi credits, which can buy a wide range, if not a complete range, of goods shipped in Chinese vessels or aircraft. Dollar-system outlaws such as Venezuela and Iran can still conduct trade and financial deals with Chinese counterparties, albeit on demanding terms.
And it is not just US-sanctioned countries that have moved to the Chinese gravitational field. The restructuring flavour of the week, Zambia, is frustrating to bankers and “common framework” officialdom because there is little transparency of its borrowings from China or its contractual commitments to Chinese companies.
Chinese entities also restructure debt for troubled international debtors, sometimes using variations of “debt for equity” swaps. These were welcomed as admirable innovations when they were used as part of the American-sponsored Brady deals in the 1980s and 1990s.
But since China acquired a Sri Lankan port late in 2017 as part of a debt/equity swap, it has faced a growing political reaction to its finance and trade strategy. Still, for all the speechifying and editorialising about Chinese expansion, it continued to gain financial market share as long as the global economy was expanding.
Financial crises and sovereign restructurings always come with a lag to contractions in the real economy. China has an interest in co-operating with the dollar-based world, so we can expect some lifting of the secrecy of its trade deals, and partial easing of the preferred creditor status it has imposed on weaker sovereigns.
And China has, to a degree, internally consolidated its international financial negotiating authority within its Ministry of Finance and development bank. That makes it easier for its counterparts to strike global deals.
China shares a fundamental interest with the legacy financiers. Both sides are threatened by populists demanding a reversion to capital and trade controls. Remember how that worked out in the 1930s?
Three-body systems are inherently chaotic.