Analysis-Zambia bondholder deal flop prompts calls for rethink of debt reworks

By Libby George and Rachel Savage

LONDON/JOHANNESBURG (Reuters) – The collapse of Zambia’s $3 billion bond rework deal this week is reverberating well beyond the country’s borders, raising doubts about the very framework designed to get bankrupt nations back on track quickly.

Zambia’s government said on Monday an International Monetary Fund-approved deal with bondholders – agreed in principle less than a month ago – could not proceed due to objections from bilateral creditors, who say the terms of the deal are not comparable to relief offered by a group of countries including France, China and India.

The setback sent the bonds of countries in the midst of debt reworks such as Ghana and Sri Lanka tumbling. It also raised fresh questions about the commitment of Western nations and multilateral lenders to help poor countries claw their way out of unmanageable debt.

“To me there is a real problem, and the real problem goes beyond Zambia,” said Brad Setser, a Council on Foreign Relations fellow and former U.S. government official, suggesting the way debt sustainability and market accessibility for low income countries was assessed might need to be adjusted.

The core of the issue is the Common Framework, a G20-backed debt negotiation architecture that aimed to smooth and speed deals for insolvent low-income countries thrust into crisis during the COVID-19 pandemic with a historically complicated tangle of lenders that, for the first time, included China.

It established basic principles at its 2020 launch, with more to be defined and debated along the way. Progress has, however, proven more arduous than expected.

Zambia – the Framework’s test case – is entering its fourth year of default and its long, thorny path could deter other struggling countries such as Tunisia, Egypt and Kenya from Common Framework debt reworks.

International bondholders say the Framework failed to provide the transparency on other creditors’ concessions needed to cut comparably fair deals. Most agree it provides no clarity on what fair treatment of various creditors would actually look like, nor how the value of concessions given to indebted nations should be calculated.

Milestones such as Zambia’s memorandum of understanding (MoU) with bilateral creditors on restructuring $6.3 billion of debt and similar successes for Ghana raised hopes the Framework was working. Now there are once again whispers that it’s failing.

“This has not been a success and we need a reset,” said Kevin Gallagher, director of Boston University’s Global Development Policy Center.

The IMF did not respond to a request for comment sent over a U.S. holiday.

A QUESTION OF FAIRNESS

The current rift centres on “Comparability of Treatment” – a principle from the Paris Club of wealthy creditor nations aimed at ensuring its members don’t give outsized concessions compared to private lenders or others outside the group.

Zambia’s government said the Official Creditor Committee (OCC) sank the bondholder deal because it fell afoul of that principle under a “base case” scenario. This outraged bondholders, who say they offered more debt relief than bilateral lenders on a net present value (NPV) basis and a principal haircut of 18% when official creditors tabled none.

With no rules on how to calculate concessions, creditors can come to different conclusions regarding the figures.

“One of the founding principles of the Common Framework was indeed Comparability of Treatment. The fact that we’ve gotten this far without reaching a common understanding of what that is, is indeed unhelpful,” said Yvette Babb, a portfolio manager at William Blair.

Tallying different creditors’ priorities is tricky: Bondholders target shorter-term cashflows but will accept principal writedowns, while official creditors favour maturity extensions.

“Are you willing to allow deals that allow bondholders to get a lot of money out before official creditors? And are you willing to let bondholders take money out when the IMF is putting money in?,” said Setser.

HOW TO FIX IT

Zambia’s government said there was no consensus between OCC co-chairs China and France on the concessions needed from bondholders to secure a deal. The OCC statement also did not say which creditor country raised concerns, making it harder to address them, investors said.

Convincing China, which emerged as a key creditor after a decade-long lending spree, to cut deals alongside other creditors has been a core challenge.

China’s repeated assertions that it must safeguard its taxpayers’ money, its rejection of blanket acceptance that multilateral lenders do not take haircuts and its objections to the IMF’s debt sustainability assessments have upended the official lenders’ historic approaches to debt deals.

China’s central bank and finance ministry did not respond to requests for comment.

Already, a group called the Global Sovereign Debt Roundtable – comprised of development banks, G20 chair India and official and private creditors – is trying to work through the Framework’s snags and seek a consensus on net present values and comparability of treatment.

Any such consensus, William Blair’s Babb said, would eliminate “a large degree of this discretionary assessment”.

“That is a fundamental principle that I think could be agreed on to avoid this becoming a stumbling block in other discussions,” she added.

The IMF has also promised to rejig its debt sustainability calculations – key figures in restructurings – and make its process more transparent.

With a record $554 billion of sovereign debt in default globally, according to the Institute of International Finance, getting countries out of distress quickly is key.

Zambia’s finance minister has said the long delays have curtailed economic growth and hit the poorest of the population.

Some say the Framework, while flawed, is the only way, and that countries outside it, such as Suriname and Sri Lanka, have also struggled to finalise deals.

“Sovereign debt restructuring is a very ugly, messy process,” said Mark Sobel, a former U.S. representative at the IMF, adding its aim was also to cut through the web of competing domestic powers within China to allow it to give debtor countries much-need relief.

“To me, the Common Framework, for better or for worse, is the only game in town.”

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