1

The Seniority Structure of Sovereign Debt

Matthias Schlegl (LMU Munich)

Christoph Trebesch (LMU Munich; CEPR)

Mark L.J. Wright (Fed Chicago; NBER)

Sovereign Debt, Sustainability, and Lending InstitutionsCambridge, Sept. 3, 2016

2

• Sovereigns owe debt to many different creditors• Focus here: external sovereign debt

• Six external creditor groups:1. Bondholders2. Commercial Banks3. Trade Creditors (Exporters and Suppliers)4. International Monetary Fund5. Multilateral Creditors (in particular World Bank)6. Bilateral Creditors (Governments / Paris Club)

Motivation

3

Share of total external debts outstanding(127 Developing and Emerging Economies, World Bank data)

BondsBanks

Trade Creditors

Bonds account for 40% of total public external debts in EMEs

4

Share of total external debts outstanding(127 Developing and Emerging Economies, World Bank data)

Trade Creditors

BanksBonds

Bilateral (Governmentto Government)

Multilateral (e.g. WB)

IMF

5

• For sovereigns: no insolvency regime, no rules of priority• Official creditors often assumed to be senior (IMF,

Kaletsky 1985, experts in World Economic Survey 2014)• Recent events question this: Greece, Ukraine, Venezuela

1) Are official creditors senior?

2) What is the seniority structure of sovereign debt?

• Literature mostly theoretical: Broner et al. 2010, 2014, Corsetti et al. 2006, Hatchondo et al., Chatterjee/Eyigungor 2015…

• This paper: first comprehensive empirical analysis of de facto seniority in sovereign debt markets

Who is senior in sovereign debt markets?

6

Two exercises:

1) Arrears data: missed payments to six external creditors– Proprietary data from World Bank Debtor Reporting System– Allows to disentangle sovereign from corporate arrears– 127 developing country governments, 1980-2006

2) Haircut data: losses by official vs. private ext. creditors– New database of haircuts on official (Paris Club) debt– Compare to bank/bond haircuts by Cruces/Trebesch (2013)

Show stylized facts, but also regressions (to controls fordebt structure, fundamentals, time and country effects)

Implicit seniority structure in the data

7

Part 1: seniority in repayment (arrears)

8

Arrears for 127 countries (i), 28 years (t), 6 creditor groups (k)

1. Arrears to Debt Stocks (ATD):

2. Relative Percentage in Arrears (RPIA):

– Seniority RPIA<0– Creditors are senior if they face lower arrears per unit of debt

than the average creditor.

Measures of seniority: arrears data

Compares ATD(k) toaverage arrears ratio

9

The pecking order ….. full sample (ATDs)

Arrears to Debt Ratios(in %)Unweighted averagesacross 127 countries (pooled, 1980-2006)

10

…. across income groups (ATDs)

Arrears to Debt Ratios (in %)

11

…. compared to average arrears ratio (RPIAs)

RPIAs, unweighted averages across127 countries (pooled, 1980-2006)

Trade CreditorsBanksBilateralBondsMultilateralIMF

12

…. over time (RPIAs) RPIAs, pooled, by year (unweighted country averages in percent)

13

Determinants of arrears: results confirmedOLS FE regression controlling for country & time effects, debt structure, fundamentals (debt/GDP, GDP p.c., openness, debt service, reserves...)

BaselineCategory:Bilateral Creditors

14

Oaxaca-Blinder decomposition: similair resultsMethod to measure wage discrimination. Here: applied to creditor-pairs RPIAs and controlling for econ. fundamentals

Counterfactual Decomposition Technique:

Discriminationvs.Fundamentals

15

Part 2: seniority in restructuring outcomes (haircuts)

16

Haircuts data – private vs. official

1) Private creditors: haircuts in 187 restruct. with banks/ bondholders, 1978-2013, from Cruces/Trebesch (2013)

2) Official creditors: haircuts in 414 Paris Club restruct. New dataset from Reinhart/Trebesch (2016), updated here

• Paris Club intransparent• Many assumptions needed to compute PV 𝑁𝑁𝑁𝑁𝑁𝑁 𝑟𝑟𝑡𝑡𝑖𝑖

• Discounting for PC haircuts - two alternatives:a) Risk-free rates: CIRR, used by IMF, WB, Paris Clubb) Market rates: imputed yields, as in Cruces/Trebesch

𝐻𝐻𝑀𝑀𝑡𝑡𝑖𝑖 = 1 −

Present Value of 𝑁𝑁𝑁𝑁𝑁𝑁 Debt 𝑟𝑟𝑡𝑡𝑖𝑖

Face Value of 𝑂𝑂𝑂𝑂𝑂𝑂 DebtHaircutMeasure:

17

Sovereign debt restructurings since 1978

18

Paris Club haircuts: discount rate choicerisk-free rate market rate

Country & time varying marketyields, as in Cruces/Trebesch

CIRR rate used by IMF, World Bank, Paris Club

Pooled across 414 Paris Club restructurings

19

Haircuts by creditor group: comparison

Using market rates for discounting

BondsBanks

Official

Pooled across 414 Paris Club, 165 bank and 22 bond restruct.

20

Haircuts by creditor group: comparisonrisk-free rate for Paris Club market rates for bank/bond

Official

Pooled across 414 Paris Club, 165 bank and 22 bond restruct.

Banks Bonds

21

Determinants of haircuts (OLS): results confirmedrisk-free rate market ratesPC haircuts:

Most conservativeestimate:

PC haircuts5% higherthan forbanks/bonds

22

1. We document an implicit pecking order• Senior: IMF, World Bank, also bonds• Junior: bilateral creditors, banks and trade creditors• Differences cannot be explained by debt structure,

fundamentals, fixed country characteristics

2. Official creditors not always senior- We show this for developing countries- Pecking order in advanced countries? Eurozone?

- Official haircuts on EFSF/ESM debt in Greece (3x), Portugal (2x), Ireland (2x)

- Private external haircuts ONLY in Greece 2012

Two main take aways

23

What can explain these results? Theory: work in progress

• Punishments and issue linkages– IMF and World Bank can sanction, bondholders can litigate– Bilateral creditors and banks may not want to damage

relationship with creditor government

• “Loud” versus “silent” default – “Loud”: defaults to bonds and IMF visible (rating agencies, rules)– “Silent”: bilateral creditors and banks have less incentives to

publicize defaults and haircuts

• Negotation frictions– Negotiations easier with banks and bilateral creditors? – Harder with bondholders, IMF, World Bank (WB)?

Potential channels

24

Thank you

25

Appendix

26

Arrears (ATDs) in years with S&P default

This figure shows arrears during private debt crisis events (measured by S&P) and in non-crisis times.

27

Arrears (ATDs) in crisis years (total arrears>1%)

This figure shows the fraction of observations with an ATD larger than 5% over crisis events (defined as 1 if total arrears > 1% of total debt)

28

Amounts Restructured since 1978

In billion 2009 USD (inflation adjusted)

29

Share of total external debts UNWEIGHTED (127 Developing and Emerging Economies, World Bank data)

Trade Creditors

BanksBonds

Bilateral (Governmentto Government)

Multilateral (e.g. WB)

IMF

30

Computing Paris Club HaircutsWe approximate NPV(new) as follows:

1. Interest rates on new debt: Average country borrowing termsfrom World Bank WDI database)

2. Discount rate (two alternatives): (i) market rates (exit yields) from Cruces/Trebesch, or (ii) risk free rate (CIRR by OECD)

3. Maturity, grace periods and nominal debt canclation based on generalized Paris Club Terms:• Classic Terms to deal with short-term liquidity problems

(rescheduling at the “appropriate market rate“)• Lower & Middle Income Countries: Houston Terms and Evian

approach (/w partial debt stock cancellation) • Low Income Countries: Toronto, 1988, London 1991, Naples

1994, 80% Lyons 1996, Cologne 1999 and HIPC Exit Terms

31

Haircuts by Creditor and Income Group

risk-free rate for Paris Club market rates for bank/bond

32

Haircuts by Creditor and Income Group

Using market rates for discounting

33

Determinants of Arrears

34

Oaxaca-Blinder decomposition

35

Determinants of Haircuts

36

History of Arrears to the IMF

37

Example Greece: the great debt migration

EU/EFSF 52.9

ECB/ NCBs56.7

IMF; 20,1

Privately held

Bonds: 205.6

T-Bills15.0

EU/ EFSF: 161.1ECB/

NCBs;45.3

IMF 22.1

New Bonds29.6

T-Bills;23.9

Holdouts; 5,5

2012 restructuring

Other GIIPS also large shares (Portugal, Ireland, Spain…)

Before (Feb 2012): €350 bn FV After (end-2012): €287 bn FV

Greece today: 80 % owed to official creditors