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Iia Issues Notes No.2 - Sovereign Debt Restructuring and International Investment Agreements - July 2011

Note by UNCTAD, 2011

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This Note examines the extent to which international investment agreements (IIAs)may affect the ability of States to implementsovereign debt restructurings when a debtor nation has defaulted or is close to default on its debt.

1


I. Introduction


Highlights
• Currently, there is no single forum for


nations toaddress issues related todebt.
Instead,differentpolicyjurisdictionsapply
to sovereign debt restructurings (SDRs),
with international investment agreements
(IIAs)beingoneofthem.


• Wherepublicdebtobligationsarecovered
by an IIA, bondholdersmayuse investor-
Statedisputesettlement (ISDS) topursue
theirfinancialinterests–evidencedbythe
case of Argentina that was subject to IIA
claims related to the nations’ sovereign
debtdefaultandsubsequentrestructuring.


• As it cannot be ruled out that a public
debt restructuring would breach a
provision of the IIA, such as national
treatment, expropriation, or fair and
equitable treatment, some more recent
IIAs specifically address the interaction
betweenSDRsandtheIIA.


SOVEREIGN DEBT RESTRUCTURING AND
INTERNATIONAL INVESTMENT AGREEMENTS*


*This Issues Note is based on a draft by Kevin P. Gallagher, Associate Professor of International Relations at Boston University, published as Kevin
P. Gallagher (2011), The New Vulture Culture: Sovereign debt restructuring and trade and investment treaties,IDEAs Working Paper no. 02/2011,
IDEAs, New Delhi. The note was finalized by Sergey Ripinsky.UNCTAD gratefully acknowledges comments received from Anne van Aacken,
Ariel Martins, Sheila Ruffin, Michael Waibel and Louis Wells. Contact: Elisabeth.Tuerk@unctad.org.


Note: This report may be freely cited provided appropriate acknowledgement is given to UNCTAD.


IIA
ISSUES NOTE


No. 2 July 2011


This Note examines the extent to which
international investment agreements (IIAs)1
mayaffecttheabilityofStatestoimplement
sovereigndebtrestructuringswhenadebtor
nationhasdefaultedorisclosetodefaulton
itsdebt.Numerousdefaultsandrestructurings
of the 1990s, Argentina’s debt restructuring
after its crisis in 2001, aswell as the recent
global financial andeconomiccrisishaveall
emphasized that governments may need
somefreedomtomaneuverinthisarea.


Whilethusfar,Argentinaistheonlynationto
besubjecttoIIAclaimsrelatedtothenations’
sovereign debt default and subsequent
restructuring, today’s situation where
numerous countries face the risk of debt
crises,suggeststhattheprospectofholdouts
(i.e. investors who refuse to negotiate
and demand that the debt instruments
be honored in full) bringing additional
investor-State dispute settlement (ISDS)
claimscannotbe ruledout. It is therefore
importanttoensurethatIIAsdonotprevent
debtor nations from negotiating debt
restructuringsinamannerthatfacilitates
economicrecoveryanddevelopment.


Advance unedited
version


1 “IIA”inthisNotereferstoanyinternationaltreatywithinvestmentprovisions,includingbilateralinvestmenttreaties
(BITs)andotherIIAssuchasfreetradeagreements(FTAs)oreconomicpartnershipagreements(EPAs).




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II. Debt, Development and Financial Crises
Government borrowing through sovereign bonds is a long-established feature of the
worldeconomy.However,infinancialcrises,governmentsmayfaceproblemsinservicing
their sovereign debt and may eventually find themselves defaulting on their sovereign
debt commitments.Previous sovereigndefault eventshaveoccurred in least-developed,
developinganddevelopedcountriesalike.


A. Lack of a single international regime for debt restructuring


Whenagovernmentisnolongerabletopayitsdebts,sovereigndebtrestructurings(SDRs)
usuallyfollow.AnSDRisachangetodebtcontractsthatisnegotiatedbetweencreditors
andthedebtorState.SDRs,or“workouts”,oftentaketheformofreducingthefacevalue
of thedebtor “swaps”wherenewbondswith lower interest ratesand longermaturities
areexchangedforthedefaultedbonds.Suchworkoutsareusuallyhighlydiscountedand
result in a loss for bondholders. Losses to creditors, through reduction in the principal
amount,changesininterestrates,orextendedpaymentterms,arecommonlyreferredto
as“haircuts”.


Currently there is no single comprehensive regime or adequate forum for nations to
“workout” their debt problems. At the international level, certain classes of lenders are
coordinatedthrough“clubs”–theParisClubcomprisingrich-countrygovernmentlenders,
and the LondonClub, which brings together commercial-bank lenders. However, in the
past decades there has been a growing amount of sovereign debt held by numerous
creditorsdispersedaroundtheglobe.Thishascreatedanewclassofcreditors,makingthe
restructuringprocessmorecomplex.2


When it comes to restructuring government debt, the standard practice in the past two
decadeshasbeenforagovernment,aftertakingmarketsoundings,tomakeanexchange
offerintheexpectationofsecuringtheacceptanceofagreatmajorityofcreditors.Thereare
alwayssome“holdouts”,i.e.investorswhorefusetonegotiateanddemandthatthedebt
instrumentsbehonored in full.Holdoutsmaybe “vulture funds”,whichhavepurchased
debtatlowprices,drivendownbypaymentproblems.Byaccumulatingalargeamountof
bonds,theycanjustifythehighcostsoflitigation(Wells,2010).


Holdouts seek to obtain preferential financial terms for themselves, as compared to the
majority of creditors. They can thereby obstruct a restructuring that is in the broader
interest.Holdoutsmayfilesuitsunderthedomesticlawsthatgovernbondcontracts,often
outsidethedebtorState’sterritory.Inanewdevelopment,holdoutinvestorshaveinitiated
internationalarbitralproceedingsunderIIAs(seebox1).Fromtheclaimants’pointofview,
oneoftheadvantagesofaninternationalarbitralawardisthatitmayofferahigherchance
ofcompliancebythedebtorStates,ascomparedtoadecisionofaforeigncourt.


B. Recent sovereign debt restructurings


Table1listssomeofthemajorSDRsoverthelastfewyears.Itshowsthedurationofthe
SDRnegotiations,thetotalfacevalueofthebondsunderrestructuring,the“haircut”and
participationrate(i.e.thepercentageofinvestorsacceptingthe”haircut”).


ThemostrecentrestructuringshaveoccurredinArgentina,culminatingin2010.Someofthe
holdoutsinArgentina’srestructuringshavebroughtclaimstoICSIDunderIIAs.Asynopsis
oftheArgentinacaseispresentedinbox1.


2 Thelackofasingleinternationalregimetomanageallofacountry’sforeignobligationsintimesofcrisisstands
incontrast tothebankruptcyprocessavailableforprivatedebtors introuble. Indealingwiththeproblemsof
private firms, the coordinationofferedbybankruptcy is considered tobe in the common interest.Domestic
bankruptcyregimescanhalttherushofcreditorstoseizeassetsbeforeothersgetthemandtheydetermine
prioritiesforvariouscategoriesofclaimants.Also,theycanforceholdoutstoagreetofairlydistributedreductions
in obligations and try tomaximize thebenefit available to creditors as a group.Restructuring and reducing
obligationsallowsthebankruptentitytoreturntoagrowthpattern(Wells,2010).




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Table 1. Sovereign Debt Restructurings, 1998 to 2010


Duration
(m)


Value
(US $ billion)


Haircut
(%)


Participation
(%)


Russia(1998-2000) 20 31.8 37.5 98
Ukraine(1998-2000) 3 3.3 0.0 95
Pakistan(1999) 10 0.6 0.0 95
Ecuador(2000) 12 6.8 40.0 97
Uruguay(2004) 1 5.4 0.0 93
Argentina(2005) 40 81.8 67.0 76
Argentina(2010) 60 18.0 75 66
Argentinatotal 100 99.8 93


Sources: Porzecanski (2005); (Dhillon et al., 2006); (Hornbeck, 2010).


Box 1. The Case of Argentina: Crisis, Default, Restructuring and IIA Claims


Havingdefaultedonitsdebt inDecember2001asaresultof thecountry’sfinancial
crisis, Argentina restructured aroundUS$100 billion of debt by 2010. After the first
unsuccessful attempts to restructure, Argentina announced that it would open a
one-timebondexchangeandpasseddomesticlegislationthatitwouldneverholda
futureswapwithabetteroffer.InJanuary2005,thecountryopenedanexchangeon
overUS$100billioninprincipalandinterestonadiversenumberofbondissuances
wherebythebondholdersweretoreceivea67%haircut.Itmanagedtorestructurejust
overUS$62billion,withaconsiderableparticipationrate.
Someholdouts,amongthemnumerousvulturefunds,tookthelitigationrouteinthe
UnitedStates,where158suitshavebeenfiled (Hornbeck,2010). For thefirst time
ever,anumberofholdoutsfiledclaimsunderIIAstotheInternationalCenterforthe
SettlementofInvestmentDisputes(ICSID).InSeptember2006,approximately180,000
bondholdersinitiatedarbitralproceedingundertheItaly-ArgentinaBITforapproximately
US$3.6billion.aThecreditorsclaimthattheArgentinerestructuringwastantamountto
expropriationandviolatedfairandequitabletreatmentstandardsunderthetreaty.
Argentina,stillleftwithasignificantdebtload,launchedanotherexchangefromMay-
June2010forUS$18billionofitsdebt,offeringa75%haircutunderthesamerationale
asin2005.66%ofthebondholders(US$12.1billion)tendered.$6.2billionworthof
bondholderswillcontinuetolitigateeitherthroughdomesticcourtsorthroughICSID.
Sincethen,someoftheItalianbondholderswhohavefiledanICSIDclaimdidtender,
althoughapproximatelyUS$1billionworthofICSIDclaimsremain.


aGiovannaaBeccaraandothersv.ArgentineRepublic,ICSIDCaseNo.ARB/07/5.SeealsoGiovanni
Alemanniandothersv.ArgentineRepublic,ICSIDCaseNo.ARB/07/8,andGiordanoAlpiandothers
v.ArgentineRepublic,ICSIDCaseNo.ARB/08/9.Inallthreecases,investorsrelyontheArgentina-
ItalyBIT.


III. The Role of International Investment Agreements
TheIIAclaimsagainstArgentinapromptedquestionsabouttheextenttowhichIIAsgrant
governmentsthepolicyspacetorestructuresovereigndebtinacomprehensive,justand
efficientmanner.Thissectionaddressesthe issueofcoverageofsovereigndebtbyIIAs,
reviews IIA provisions that might provide grounds for international claims and looks at
whetherIIAsprovidesufficientsafeguards.


A. Coverage of government bonds by IIAs


Anenquiry into the relationshipbetweenSDRsand IIAsstartsbydeterminingwhethera
particular IIA applies to government bonds.Most existing IIAs use a broad asset-based
definitionofinvestmentthatcovers“everykindofasset”ownedorcontrolledbyaninvestor.




2


4


Theall-encompassingnatureofthisdefinitionsuggeststhatitmaycovergovernmentbonds
aswell.SomeIIAsexplicitlyinclude“government-issuedsecurities”,3orrefertoall“bonds,
debenturesandotherdebt instruments” andcontaina special provisionongovernment
debt,thusmakingclearthatthelatteriscovered.4


On the other hand, a number of IIAs explicitly exclude sovereign debt from the treaty
coverage.5 Sometreatiesexcludeportfolioinvestmentsingeneral.6StillotherIIAs,suchas
NAFTA,createsomeuncertaintybyexpresslyexcludingdebtsecuritiesofStateenterprises
butbeingsilentaboutgovernmentbonds. It isalsoquestionablewhetheratreatycovers
sovereign debt obligations where its definition of investment, while being open-ended,
expressly refersonly to “debentures in a company” and “claims tomoney… related to
abusiness.”7 Finally,wherean IIA containsa reference to themandatory characteristics
ofaninvestment(usuallycommitmentofcapital,theexpectationofgainorprofitandthe
assumption of risk),8 onewould need to determinewhether public debt securitiesmeet
theserequirements.


AnIIAclaimisconceivableonlyifanindebtedgovernmenthasanIIAinplacewiththehome
countryofthebondholder.ThismeansthatthepotentialforIIAclaimsdependsinter aliaon
howmanyIIAsthehostcountryhasinplace.However,bondsmayfrequentlychangehands
inthesecondarymarket,andalsobestructuredthroughintermediateholdingcompanies,
providingopportunitiesfor“treatyshopping”inorderforaninterestedbondholdertoobtain
protectionofanavailableIIA.9


B. Potential tensions between SDRs and IIAs’ substantive provisions


WherepublicdebtobligationsarecoveredbyaspecificIIA,thereisscopeforadiscussion
onwhetheraparticularpublicdebtrestructuringhasviolatedcertain IIAobligations.This
sectionbrieflyconsidersseveralpossiblegroundsforfindingabreachofIIAprovisions.


Nationaltreatment.Anationaltreatmentclaimcanoccurwhendomesticbondholdersreceive
better termsduringa restructuring thando foreignbondholders. This canbea concern
because there may be considerable economic justification for a differential treatment.
Someeconomistshaveconcludedthat“theabilitytotreatdomesticandforeigncreditors
differentlyisanecessarypolicyoptionforgovernmentsinafinancialcrisis”(Gelpernand
Setser,2004,796).


Givingpriority to servicingdomesticdebtmaybenecessary soas to revive adomestic
financial system, provide liquidity and manage risk during a recovery. Without such
measuresabankingcrisis canensuewheremassiveoutflowsof foreignexchangeand/
orbankrunscanoccur.InboththeRussianandArgentinacases,thisargumentunderlay
themorefavorabletreatmentgrantedtodomesticbondholders(Panizza,2010;Gorbunov,
2010;GelpernandSetser,2004;Blustein,2005;IMF,2002).Thereisalsoaclearrationale
togiveprioritytolocalbondholderstoretaintheabilityofeconomicactorstopaywages,
salariesandpensionsinordertomaintainlivelihoods,enabledomesticdemandandavoid
massprotest(GelpernandSetser,2004;IMF,2002).Considerationsofthiskindmayormay
notaffectatribunal’sdeliberationsofwhetherdomesticandforeignbondholdersare“inlike
circumstances.”


3 Jamaica-KoreaBIT(2003),Article1.


4 See,forexample,Peru-SingaporeFTA(2008),Articles10.1(6)and10.18;UnitedStates-UruguayBIT(2005),
Article1andAnnexG.


5 Canada-ColombiaFTA(2008),Article838,footnote11;Australia-ChileFTA(2008),Article10.1(j)(iii);Azerbaijan-
CroatiaBIT(2007);Chile-JapanFTA(2007),Article105.TherecentlyrevisedmodelBITsofColombia(2008)and
Ghana(2009)excludesovereigndebt.


6 TurkeyModelBIT(2009),Article1(1).


7 ASEANComprehensiveInvestmentAgreement(2009),Article4(c).


8 E.g.Malaysia-PakistanFTA(2007),Article88(d).


9 On“treatyshopping”andmethodstocounteractit,seeUNCTAD,Scope and Definition: A Sequel(2011).




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Expropriation. Sovereign debt restructuring or default could be seen as constituting an
expropriation,andmorespecifically,anindirectexpropriation.Thelatterreferstosituations
where the title to the investmentor it’sphysical integrityarenotaffected,but itsvalue is
destroyed or greatly diminished. An outright default without any additional steps by a
government will completely destroy the value of the outstanding bonds, while a debt
restructuringislikelytodiminishtheirvalueconsiderably.Undera“take-it-or-leave-it”swap
arrangementabondholderhasthechoiceofeitherlosingabondaltogetheroracceptinga
newbondwitha(sometimessignificant)haircut.Tribunalsarelikelytoemploya“substantial
deprivation”test10toexaminethedecreaseinthevaluetodeterminewhetheraparticular
restructuringisexpropriatory.


FairandEquitableTreatment (FET).While theprecisecontentof theFETobligation isa
subjectofanongoingdebate,itisofteninterpretedasinter aliaprotectinginvestors’legitimate
expectations, guaranteeing freedom from harassment and coercion, and incorporating
fundamentalprinciplesofdueprocess.11


AconcernhasbeenexpressedthatbondexchangesmayviolatetheFETobligationinandof
themselves,despitethefactthatexchangeshavebecomestandardpractice.Arestructuring
couldbeviewedasunderminingtheState’scontractualpromisesandtheassociatedlegal
framework,therebydestroyinginvestors’legitimateexpectations.Furthermore,exchanges
could triggerallegations that theprocess lacks transparencyand that it iscoercive.The
“take-it-or-leave-it”natureofexchangescouldbeseenasviolatingdueprocessandnotseen
asbeing ingood faith,because therearenogenuine restructuringnegotiations (Waibel,
2007).However,effectivenegotiationswiththousands,sometimeshundredsofthousands,
ofcreditorswouldbeimpossible,andinpracticeadebtorStatemakesanofferthatithopes
wouldbeacceptedbya“supermajority”ofitscreditors.


Umbrellaclauses.Underan“umbrella”clause,foundinasignificantnumberofIIAs,ahost
country typically assumes the responsibility to respect other obligations it has entered
intowith regard to thecovered investments.Given thatabondestablishesacontractual
relationshipbetween theborrower (hostgovernment)and the lender (investor),adefault
or an imposed restructuringmight be seenas thehostState’sbreachof its contractual
obligationtopaythefacevalueofthebondandinterest.Byvirtueoftheumbrellaclause,
suchacontractualbreachmayturnintoabreachoftheIIA.


A contentious issue with respect to umbrella clauses has been whether any breach of
contractissufficientforaclaimundertheIIAtoproceed,orwhetherthebreachmustresult
fromanexerciseofsovereignpowersbythegovernment.12Ifthisdistinctionistobefollowed,
thecaseofadebtdefaultorrestructuringislikelytobeseenasasovereignact.Another
debatedissueiswhethertheinvestorcanbringatreatyclaimobviatingthedisputeresolution
mechanismincludedinthecontractitself.IftheapproachoftheSGS v. Philippinestribunal
istobefollowedinthisrespect,an“umbrellaclause”claimmaybeconsideredinadmissible
wherethebondcontractconfersexclusivejurisdictiononadifferentforum(e.g.domestic
courtsofaparticularState).13


Transferoffunds.TheremaybegroundstoallegeaviolationoftheState’sobligationtoallow
thefreetransferofinvestmentsandreturns,wherethesovereigndebtdefaultorrestructuring
issupplementedbyrestrictionsonthetransfer(intheformofcapitalorcurrencycontrols,a
taxonoutflows,etc.).


10 See“§7.16Therequirement forasubstantialdeprivation” inNewcombe&Paradell (2009,p.344).Seealso
Hoffmann(2008)andPaulsson&Douglas(2004).


11 Seefurther,UNCTAD,Fair and Equitable Treatment: A Sequel(forthcomingin2011).


12 SeeNewcombe&Paradell(2009,pp.466-472).


13 SGS Société Générale de Surveillance S.A. v. Philippines,DecisionoftheTribunalonObjectionstoJurisdiction,
29January2004,paras.136-155,169(4).SeealsoWaibel(2007,pp.734-735).




6


C. General safeguards preserving governments’ freedom of action14


Some (not all) IIAs contain provisions permittingStates to takemeasures necessary for
the protection of “essential security” or “national security” interests. If read as including
economic security, such clauses can prove helpful in defending against bondholders’
claims, particularly if such clauses are formulated as self-judging and thus limiting the
power of arbitral tribunals reviewing the measure.15 A relevant question with respect to
non-self-judging clauses iswhether the terms of a particular debt restructuring, perhaps
mostimportantlytherateofthe“haircut”,werenecessaryandproportionatetoprotectthe
State’ssecurity.Itisalsonottotallyclearwhetheran“essentialsecurity”exceptionshould
completelyexcusethemeasure(SDR),orprovideonlyatemporaryreliefuntiltheeconomic
situationinthecountrynormalizes.


WithrespecttothoseIIAsthatdonotincludean“essentialsecurity”safeguard,thereisscope
foranargumentthatgeneralprinciplesofinternationallawenableStatestogiveprecedence
tobasicdutiestoitspopulationasawholeovertherepaymentofmonetaryobligationsto
individualcreditors.AGermanjudge,inaseparateopinion,hasaffirmedthatinternational
lawmust not be interpreted in away that would cause, aggravate or prolong a State’s
inabilitytodischargeitsmostelementarydutiestowardsitscitizens.16Thenecessitydefence
hasbeenincorporatedintheArticlesonStateResponsibility,17althoughitsrequirementsare
difficulttomeet.


D. Bonds’ collective action clauses and their relationship with IIAs


In recent years, the so-called collective action clauses (CACs)havebecomea common
featureofpublicdebtobligations;theyarecurrentlyfoundinmorethan90%ofnewlyissued
bonds(Helleiner,2009).CACsweredesignedtoincreasethecoordinationofbondholders
andstreamlinetheprocessofsovereigndebtrestructuring.CACshavethefollowingkey
features:


• collective representation component where a bondholders’ meeting can take place
wheretheyexchangeviewsanddiscussthedefault/restructuring;


• majority restructuringcomponentthatenablesa75%“supermajority”ofbondholdersto
bindallholderswithinthesamebondissuetothetermsofrestructuring;


• minumum enforcement component whereby aminimum of 25% of the bondholders
mustagreethatlitigationcanbetaken.


GiventhespreadofCACs,aquestionariseswhethertheycaneffectivelypreventIIAclaims.
CACs are not uniform; and the examination of a specific clause would be necessary.
However,asageneralmatter, itwouldappearthatwherethemajority imposestheterms
ofrestructuringonallbondholderswithinthebondissue,dissentingbondholderscannot
succeedintheir IIAclaims,giventhattheircontractualrightshavebeendulymodified.A
minimumenforcementclausemayalsobeviewedasgenerallyprecludingIIAclaimsifitis
interpretedtocoveralltypesofdisputesettlementclaims.


14 SomeIIAsmayalsoincludeadditionalsafeguardsthatexcuseconductwhichwouldotherwiseviolateaspecific
treatyobligation.Thus,withrespecttoexpropriation,anumberofIIAsprovidethataState’snon-discriminatory
regulatoryactionsfortheprotectionoflegitimatepublicwelfareobjectivesshouldnotbeseenasexpropriatory;in
manyIIAstheobligationtoallowfreetransferoffundsisqualifiedbyabalance-of-paymentexception.However,
thesesafeguardsdonotapplytothetotalityofthetreaty.


15 For example, the 2004UnitedStatesModelBITprovides: “Nothing in this Treaty shall be construed […] to
precludeaParty fromapplyingmeasures that it considersnecessary for the fulfillmentof itsobligationswith
respecttothemaintenanceorrestorationofinternationalpeaceorsecurity,ortheprotectionofitsownessential
securityinterests”(Article18,emphasisadded).Thewords“itconsiders”suggestthatthehostnationshouldbe
thejudgeofwhetherornotthemeasureatissuewasnecessarytoprotectitssecurity.


16 SeeDecisionof theGermanConstitutionalCourt (the“Bundesverfassungsgericht”)of8May2007,Separate
OpinionofJudgeLübbe-Wolff,paras.80-93.


17 Article 25 of the International Law Commission’s Articles on the Responsibility of States for Internationally
WrongfulActs.




7


Although CACs are a significant improvement, many observers consider them not fully
sufficient,inparticularbecausetheydonotaddresstheso-called“aggregationproblem.”
CACsonlycoverindividualbondissuesbuthavenoeffectontheholdersofotherissues.
Forasovereignthathasmanybondissuancesoutstanding,holdoutcreditorscandisrupt
therestructuringprocessbyobtainingacontrollingposition inasinglebondissuance. If
bondholdersofsomeissuesrefuseagovernment’soffer,theymayhavetobepaidinfull.18


E. Special IIA provisions on sovereign debt restructuring


SomerecentIIAscontainadditionalguidelinesfortheinteractionbetweenSDRandtheIIA
concerned,usually intheformofaspecialprovisionorannexonpublicdebt.19Although
specificlanguagevariesacrosssuchtreaties(seetwotreatyexamplesinBox2),theyoften
prohibitclaims relating toa “negotiateddebt restructuring”,unlessan investorcontends


18 Forexample,EichengreenandMody(2003)andHagan(2005).


19 See forexamplePeru-SingaporeFTA (2008),Article10.18 “PublicDebt”,UnitedStates-UruguayBIT (2005),
AnnexG“SovereignDebtRestructuring”;CentralAmerica-DominicanRepublic-UnitedStatesFTA(DR-CAFTA)
(2004),Annex10-A“PublicDebt”;Chile-UnitedStatesFTA(2003),Annex10-B“PublicDebtChile”;China-Peru
FTA,Chapter10,Annex8“PublicDebt”.


Box 2. Examples of SDR related treaty language
Peru-Singapore Free Trade Agreement (2008)
Article10.1:DEFINITIONS[…]
8.negotiatedrestructuringmeanstherestructuringorreschedulingofadebtinstrument
thathasbeeneffectedthrough(i)amodificationoramendmentofsuchdebtinstrument,
asprovidedforunderthetermsofsuchdebtinstrument,or(ii)acomprehensivedebt
exchangeorothersimilarprocess inwhich theholdersofno less thanseventyfive
percent(75%)oftheaggregateprincipalamountoftheoutstandingdebtundersuch
debtinstrumenthaveconsentedtosuchdebtexchangeorotherprocess;
ARTICLE10.18:PUBLICDEBT
1.ThePartiesrecognizethatthepurchaseofdebtissuedbyaPartyentailscommercial
risk.Forgreatercertainty,noawardmaybemade in favourofadisputing investor
foraclaimwith respect todefaultornonpaymentofdebt issuedbyaPartyunless
thedisputing investormeets itsburdenofproving thatsuchdefaultornonpayment
constitutesanuncompensatedexpropriationforpurposesofArticle10.10(Expropriation
andNationalisation)orabreachofanyotherobligationunderthisChapter.
2.NoclaimthatarestructuringofdebtissuedbyaPartybreachesanobligationunder
thisChaptermaybesubmittedto,orifalreadysubmittedcontinuein,arbitrationunder
thisChapteriftherestructuringisanegotiatedrestructuringatthetimeofsubmission,
or becomes a negotiated restructuring after such submission, except for a claim
that therestructuringviolatesArticle10.3(NationalTreatment)orArticle10.4(Most-
Favoured-NationTreatment).
3.Subjecttoparagraph2,aninvestoroftheotherPartymaynotsubmitaclaimunder
thisChapterthatarestructuringofdebtissuedbyaPartybreachesanobligationunder
this Chapter (other than Article 10.3 (National Treatment) or 10.4 (Most-Favoured-
NationTreatment)unlesstwohundredandseventy(270)dayshaveelapsedfromthe
dateoftheeventsgivingrisetotheclaim.
Central America-Dominican Republic-United States Free Trade Agreement (DR-
CAFTA) (2004)
Annex10-A:PublicDebt
ThereschedulingofthedebtsofaCentralAmericanPartyortheDominicanRepublic,
orofsuchParty’sinstitutionsownedorcontrolledthroughownershipinterestsbysuch
Party,owed to theUnitedStatesand the reschedulingofanyofsuchParty’sdebts
owedtocreditorsingeneralarenotsubjecttoanyprovisionofSectionAotherthan
Articles10.3[NationalTreatment]and10.4[MFN].




thatthetermsof therestructuringviolatenational treatment(NT)ormost-favoured-nation
treatment(MFN)obligations.Such treatiesusuallydefine“negotiatedrestructuring,”asa
restructuringwhere75%ofthebondholdershaveconsentedtoachangeinpaymentterms.
Ifaninvestordoesfileaclaimintheeventofarestructuringthatisnota“negotiated”one,
s/hemusthonora“coolingoff”periodusuallylasting270daysbeforeaclaimmaybefiled.


To summarize, under the Peru-Singapore FTA and other similarly-worded treaties, any
countrycanengageina“negotiatedrestructuring”withoutbeingliableforlossesofforeign
investors.However,non-negotiatedrestructuringcanbechallengedsubjecttothe270-days
cooling-offperiod.Furthermore,NTandMFNclaimsmaybebroughtregardlessofwhether
therestructuringisnegotiated.


Incontrast, theDR-CAFTAFTAspecifiesveryclearly thatsovereigndebt restructuring is
subjectexclusively tonational treatmentandMFNobligations.Theadditionalcoolingoff
periodisnotenvisaged,andthereisnomentioningof“negotiatedrestructuring.”


Theseprovisions canbe seenas a step in the right directiongiven that the contracting
partiesrecognizethatdebtrestructuringisaspecialcase,yetquestionsremain.Inparticular,
asdiscussedabove,economistshaverepeatedlyheldthattherecanbegoodreasonsto
discriminatebetweendomesticandforeignbondholders.Also,inrelationtothetake-it-or-
leave-itbondexchanges,itisnotclearthatsuchswapscouldbedeemedas“negotiated.”
Finally,vulturefundsandotherholdoutscanacquiremorethan25%inabondissuancein
ordertoblocka“negotiatedrestructuring”andarbitrateinstead.


IV. Conclusions and Policy Options
As amatter of policy, it is desirable that countries retain the tools to resolve their debt
problemsinaneffectivemannerinordertoreturntonormaleconomicfunctioningassoon
aspossible.TheISDSmechanismallowingindividualbondholderstoarbitrateagainstthe
State,especiallywherea restructuringhasbeenagreed toby themajority,canposean
obstacletoefficientdebtrestructuring.


ArgentinaisthusfartheonlycountrytobesubjecttoISDSclaimsrelatedtothenation’s
sovereign debt default and subsequent restructuring. However, there are numerous
countriesthatfaceariskofadebtcrisis,andatsomepointinthefuturedebtdefaultswill
certainlyoccur. IthasbeendemonstratedthatIIAsandSDRsmayoverlapandthatthere
remainsawindowfordisappointedbondholderstotaketheinternationalarbitrationoption
throughIIAs.


Themostreliablewaytoavoidthiswouldbetoremovesovereigndebtfromthecoverage
of the IIAs.Asmentioned,somecountrieshavealreadyfollowedthispath.Thisoption is
unlikelytohaveanegativeimpactoninvestorconfidenceandtheabilityofStatestoborrow.
AnotheroptionistoexcludeSDR-relatedissuesfromthescopeofISDS,leavingthemto
theIIA’sState-Statedisputeresolutionprocess.AStatemayprovetobeamorereasonable
negotiatingpartnerwithabetterunderstandingofunderlyingpoliticalandpolicyconcerns,
eventhoughthereisnoguaranteeagainstahostilecounterpart.Itimayalsobeusefulto
includethe“essentialsecurity”exceptionintheIIA,withaclarificationthatitcoverseconomic
andfinancialcrises.Furthermore,ahandfulofrecentIIAshaveincludedexplicitprovisions
regardingSDR.Whilealsoapositivedevelopment,suchprovisionsmayprovenot tobe
fullyadequateforthereasonsdiscussed.Otherapproachesmaybeavailable,anditisin
countries’ interesttocontinueconsideringtheseissuesandtobeproactiveinpreventing
outcomesthatcouldhurttheirfinancialsustainability.


8




References
Blustein,Paul(2005),And the Money Kept Rolling In (And Out): Wall Street,the IMF, and the


Bankrupting of Argentina, NewYork,PublicAffairs.


Cross, Karen (2006), “Arbitration as a Means of Resolving Sovereign Debt Disputes”,
American Review of International Arbitration,Vol.17(3).


Eichengreen, Barry (2003), “Restructuring Sovereign Debt”, Journal of Economic
Perspectives,Vol.17(4).


Eichengreen,BarryandAshokaMody(2003),“Is Aggregation a Problem for Sovereign Debt
Restructuring?”,AmericanEconomicReview,AmericanEconomicAssociation,Vol.
93(2).


Gallagher,Kevin(2011),“The New Vulture Culture: Sovereign debt restructuring and trade
and investment treaties“.IDEAsWorkingPaperno.02/2011,IDEAs,NewDelhi.


Gelpern,AnnandBradSetser(2004),“DomesticandExternalDebt:TheDoomedQuestfor
EqualTreatment”,Georgetown Journal of International Law,Vol.35(4).


Gorbunov,Sergei(2010),“TheRussianFederation:FromFinancialPariahtoStarReformer”,
in Herman, Barry, Ocampo, Jose Antonio and Spiegel, Shari (eds.), Overcoming
Developing Country Debt Crises,NewYork,OxfordUniversityPress.


Hagan, Sean (2005), “Designing a Legal Framework to Restructure Sovereign Debt,”
Georgetown Journal of International Law,Volume36,(2).


Helleiner, Eric (2009), “Filling a Hole in Global Financial Governance? The Politics of
RegulatingSovereignDebtRestructuring”,inThe Politics of Global Regulation,Walter
MattliandNgaireWoods(eds.),Princeton,PrincetonUniversityPress.


Hoffmann,Anne(2008),“IndirectExpropriation”,inA.Reinisch(ed.),Standards of Investment
Protection,Oxford,OxfordUniversityPress.


Hornbeck,Jeff(2010),Argentina’s Defaulted Sovereign Debt: Dealing with the “Holdouts”
UnitedStatesCongressionalResearchService.


IMF(2002),Sovereign Debt Restructuring Mechanism – Further Considerations,Washington
DC,InternationalMonetaryFund.


Newcombe, Andrew andParadell, Luís (2009),Law and Practice of Investment Treaties:
Standards of Treatment, TheHague,KluwerLawInternational.


Panizza,Ugo (2010), “IsDomesticDebt theAnswer toDebtCrises?”, in Herman,Barry,
Ocampo,JoseAntonioandSpiegel,Shari (eds.),Overcoming Developing Country
Debt Crises,NewYork,OxfordUniversityPress.


Paulsson,JanandDouglas,Zachary (2004), “IndirectExpropriation in InvestmentTreaty
Arbitrations”,inHorn,NorbertandKröll,Stefan(eds.),Arbitrating Foreign Investment
Disputes: Procedural and Substantive Legal Aspects, The Hague, Kluwer Law
International.


UNCTAD (forthcoming in 2001), Fair and Equitable Treatment: A Sequel, New York and
Geneva,www.unctad.org/iia.


UNCTAD(2011),Scope and Definition: A Sequel,NewYorkandGeneva,www.unctad.org/iia.


Waibel, Michael (2007), “Opening Pandora’s Box: Sovereign Bonds in International
Arbitration”,American Journal of International Law,Vol.101(4).


Wells,Louis(2010),“Propertyrights for foreigncapital:sovereigndebtandprivatedirect
investment in times of crisis” in Sauvant, Karl (ed.), Yearbook on International
Investment Law & Policy 2009-2010.NewYork,OxfordUniversityPress.


9




For the latest investment trends
and policy developments, including


International Investment Agreements (IIAs),
please visit the website of the UNCTAD


Investment and Enterprise Division
www.unctad.org/diae
www.unctad.org/iia


For further information,
please contact


Mr. James X. Zhan
Director


Investment and Enterprise Division
UNCTAD


Tel.: 00 41 22 917 57 60
Fax: 00 41 22 917 04 98


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