In Search for Consensus. A Sovereign Insolvency Procedure as a Way Out of the Debt Crisis?

In April 2022, Sri Lanka became the first emerging market country in the Corona pandemic to suspend its payments to its external creditors. Economic heavyweight Ghana followed suit in January 2023. Even before that, there were several countries that had to seek debt relief from their creditors under the impact of the Corona pandemic. In all countries, it is evident that the existing procedures for restructuring sovereign debt do not provide a quick and effective way out. For this reason, the issue of resolving debt crises is high on the political agenda. In its coalition agreement, the German government commits to make more progress in the area of international debt management:

"Our goal is a new international debt management consensus. We support an initiative for a codified international sovereign insolvency procedure that includes all creditors and implements debt relief for particularly vulnerable groups of countries." (Coalition Agreement, p.154)
 

This is the third time since 2002 that a German coalition agreement has declared its intention to create a rules-of-law-based debt workout mechanism, as civil society and academia have long called for. Unlike in 2002 and 2009, today we are in the midst of an acute debt crisis: more than three times as many countries are at risk of over-indebtedness as before the pandemic. Unlike in 2002 and 2009, debtor countries today are increasingly taking the initiative: since the start of the Corona pandemic, various proposals and initiatives for elements of a new debt architecture have been put forward, for example by the Vulnerable20, a group of 54 climate-vulnerable countries. A sovereign insolvency procedure, as envisaged in the coalition agreement, would abolish the prevailing imbalance of power between creditors and the debtor country through internationally binding rules and offer critically indebted states a sustainable way out of the debt trap. At the same time, such a procedure would avoid future debt crises by more realistically mapping the risk for creditors and curbing speculative incentives. 

Germany is an important policy-setting actor in global governance bodies such as the G7, the G20, in institutions such as the International Monetary Fund and the World Bank, and in European Union votes, for example. Thus, Germany can play an important role in finding a fair solution to the current debt crisis.

Time is pressing, but no consensus is in sight

In the current legislative period, the acute threat of a cross-continental debt crisis in the Global South is high on the political agenda. But political reform discussions in 2022 were dominated by the war in Ukraine and the geopolitical conflict between Western countries and China, the largest official bilateral creditor. There is no international consensus for the creation of a sovereign insolvency procedure. Moreover, the mandate in the coalition agreement is interpreted differently: For some, the G20's so-called “Common Framework for Debt Treatments beyond the DSSI” already corresponds to what they understand to be a fair procedure for debt restructuring. But this framework, which was adopted by the G20 countries back in November 2020 in response to the Corona pandemic, has significant shortcomings, such as the fact that it is only available to a limited selection of debtor countries and explicitly does not include all creditors.

Fulfilling the mandate in the coalition agreement by no means has to mean either achieving the big bang solution or doing nothing at all. It can also mean implementing individual elements of a sovereign insolvency procedure and taking smaller steps toward more rule of law in debt restructuring negotiations. These steps would not automatically have to replace or weaken existing procedures such as the Common Framework, but could make them more efficient, fairer and attractive for debtor countries.

In November 2022, at the invitation of erlassjahr.de and the Friedrich Ebert Foundation, around 100 experts from civil society and academia, from international financial institutions, and from ministries and parliaments in Germany and other countries discussed what sustainable solutions to the debt crisis might look like. The idea: to explore pragmatic suggestions for a fair and effective debt relief architecture for the remainder of the legislative period and to encourage the forging of coalitions. The event was held under Chatham House Rules. A substantive summary of the discussion can be found here.

In the video "No more too little, too late - For a sustainable solution to the global debt crisis" individual experts reflect the perspectives represented on context, urgency, and reform options:

At the meeting, various ideas for action steps emerged: from the adoption of national legislation to improve the participation of private creditors, to the creation of an independent institution to help debtor countries in debt restructuring negotiations, to independent debt sustainability analyses.

One thing is clear, the participants at the event agreed: Champions are needed to initiate reform steps, in the Global South as well as in the Global North. Time is pressing.

“It takes very big shocks to break the status quo. To have a fundamental change in debt initiatives, the ground is ready because the world, the COVID-19, has shown us that no one is safe if not everyone is safe.”
Sajid Javed, Sustainable Development Policy Centre Pakistan

A substantive summary of the discussion can be found here.