IMF promotes wider use of collective action clauses

• Author: Effie Psalida/Yan Liu
• Position: IMF International Capital Markets Department and Legal Department
• Pages: 166-168

Page 166

The IMF has long recognized that including collective action clauses (CACs) in international bond instruments can facilitate more orderly and rapid debt restructuring in the rare cases when a sovereign needs to restructure its debt. The IMF has recently stepped up efforts to promote the use of such clauses. And recent bond issuances indicate they are growing in popularity and are not affecting bond prices.

Faster, less costly crisis resolution is an IMF objective. Over the past decade, the IMF has been actively engaged in strengthening the framework for crisis resolution and, over the past two years, has devoted particular attention to exploring how unsustainable sovereign debt can be restructured in a rapid and orderly manner.

There is now widespread recognition that collective action problems can impede debt restructuring.

The large number and considerable diversity of creditors make it difficult to coordinate debt restructuring and more likely that some creditors ("free riders") will attempt to manipulate the process for their own benefit. In the absence of a legal framework that resolves this collective action, or free rider, problem, a sovereign with an unsustainable debt burden can find it difficult to reach agreement with its creditors.

While creditors, as a group, recognize that rapid restructuring may be in their best interests, they may hesitate to agree to a restructuring for fear that holdout creditors would fare better-that is, they might successfully press for full payment after the restructuring agreement has been reached.

The IMF has long recognized that the inclusion of collective action clauses in international bond instruments can help resolve this problem. For this reason, since July 2002 the IMF has, in the context of its annual country and multilateral surveillance efforts, encouraged the use of such clauses. In light of the recent decision by several emerging market issuers to include collective action clauses in bonds issued in New York, the IMF has pursued a more active dialogue with members on this important issue.

What are CACs?

Collective action clauses are provisions in bond contracts that enable the sovereign that issues the bond and a qualified majority of those who hold the bond to make decisions that become binding on all bondholders of that particular issuance. Perhaps the most important provision of these clauses is...