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Part VI International Monetary Law and the International Financial Architecture, XLI Debt Crises and State Insolvency

From: Principles of International Economic Law (2nd Edition)

Matthias Herdegen

From: Oxford Public International Law (http://opil.ouplaw.com). (c) Oxford University Press, 2023. All Rights Reserved. Subscriber: null; date: 08 June 2023

International investment law — Debts

(p. 540) XLI  Debt Crises and State Insolvency

1.  The International Management of Debt Crises

The power of taxation and the usually ample State property nourish the far-spread concept of the State as a reliable debtor. However, from a historical perspective, State insolvency is by no means a rare phenomenon. It is usually triggered by an unsustainable burden of foreign debt. Whilst countries can meet outstanding debts in their own currency by speeding up the money press (fostering inflation), this mechanism is no answer to debts in foreign currencies. The last two centuries witnessed about ninety cases of State insolvency, moratorium, and default on foreign debt, which include European States such as Denmark, Germany, Greece, and Russia.

In the 1970s, favourable conditions created incentives for developing and emerging market countries to borrow extensively from international financial institutions like the World Bank and its affiliates, from industrialized donor countries and also from private banks. Later, economic conditions deteriorated for many countries (eg by declining competitiveness, falling prices for commodities, rising interest rates, and the withdrawal of private lenders). For these and other reasons, numerous debtor countries did not manage to use these credits for lasting economic stabilization and their debt burden increased. In the last two decades of the 20th century, a number of developing and emerging market countries, especially in Latin America (eg Mexico, Brazil, Argentina), in Sub-Saharan Africa and in South-East Asia, as well as Russia entered into a severe debt crisis. The last decades witnessed restructuring or collection of sovereign debt on a very large scale.1 Response by the IMF played a vital role in managing these crises.2 The debt crisis of Russia in the late 1990s and the Argentine crisis (1995–2005) tell ambivalent lessons about the IMF’s policy with tightening and relaxing conditionalities in volatile political conditions, in the face of sincere and cooperative willingness of governments, subsequent defiance, default on payments, and new appeals for rescue.3 More recently, (p. 541) Hungary, Greece and other heavily indebted members of the Eurozone had to rely on the European Union and the European Central Bank, on multilateral assistance from other EU members and on the IMF for financial rescue.

In the meantime, many of the highly indebted developing countries (most from Africa) have been released from debt to a considerable extent. In 1996, the IMF and the World Bank group launched the Heavily Indebted Poor Countries (HIPC) Initiative for debt relief. This initiative provides massive reduction of debt for eligible countries (about 40) under certain conditions, for example if they have established a track record of reform and sound policies (like the fight against corruption) and have designed a strategy for poverty reduction. In 2005, the G8 summit of Gleneagles started the Multilateral Debt Relief Initiative (MDRI) that supplemented the HIPC providing that the World Bank, the African Development Fund, and the International Development Association help economically weak states facing an unmanageable debt burden by a 100 per cent relief under HIPC conditions. As there have been no more such debts, the process of liquidating the Fund started in the beginning of 2015.

A number of mechanisms have been developed to ease the debt burden of poor countries vis-à-vis private creditors.4 The valuation of debt from a market perspective (rather than valuation at its nominal value) plays an important role in rescheduling processes. In 1989, as a response to the Mexican crisis, the so-called ‘Brady initiative’ of the US Government laid the ground for an agreement with the Mexican Government which left creditor banks to opt, inter alia, for converting existing 30-year debt instruments into debt reduction bonds (with a reduced nominal value and the existing interest rates) or for debt service reduction bonds (with existing nominal value and a reduced interest rate). The principal of these bonds (‘Brady bonds’) was secured by 30-year zero bonds (which paid no interest) sold by the US treasury to Mexico (which in turn could finance the purchase with loans from the World Bank and other international lenders). This model was also adopted in context with the restructuring of debts of other countries.

A vehicle to reduce the debt and stimulate investment is the conversion of debt into equity to be invested in the debtor country through ‘debt-equity swaps’.5 In this process, to be approved beforehand by the debtor country’s authorities, a private investor purchases a developing country’s debt instrument denominated in foreign currency (usually from a foreign bank) at a market price inferior to its nominal value (reflecting the market’s expectation of the debt to be honoured), presents the debt instrument for redemption at a superior price in local currency to the debtor’s central bank and invests the proceeds in the debtor country according to the approved scheme. The success of such conversion programmes essentially depends on the investment climate prevailing in the debtor country.

(p. 542) 2.  Restructuring Sovereign Debt: The ‘Paris Club’ and the ‘London Club’

There are two important processes of rescheduling sovereign debt, the ‘Paris Club’ and the ‘London Club’. Since the early 1950s, the ‘Paris Club’, set up by creditor countries, operates as an intergovernmental forum, under the auspices of the French Ministry of Finance, for addressing problems arising from possible or actual default of debtor countries and for negotiations on relief between debtor and creditor countries. As a rule, the IMF, the World Bank, the OECD, and the UNCTAD also participate in the meetings. The objective of restructuring sovereign debt is the establishment of a new schedule for payment with a postponement and reduction of the debt (principal or interest rate). As a rule, restructuring of debt is tied to a stand-by arrangement with the IMF and a programme of economic adjustment according to IMF conditionality.

The ‘London Club’ (Bank Advisory Committee) is the framework set up by commercial banks for rescheduling sovereign debts to private creditors (‘hair-cut’). In recent years, bondholders and suppliers joined the creditors’ ranks in the negotiations with debtor countries. In 2004, the Institute of International Finance, a global association of commercial and investment banks and other financial corporations, adopted the Principles for Stable Capital Flows and Fair Debt Restructuring in Emerging Markets,6 which met with the approval of the Group of 24 (G24).7

3.  State Insolvency and International Law

(a)  General aspects

Beyond the statutes of international lenders like the IMF or the World Bank, international law offers little conceptual guidance for relief from the perspective of heavily indebted countries. The ‘gun-boat diplomacy’, practised by great powers in the late 19th century and early 20th century, included military intervention to ensure military enforcement of sovereign debt to private creditors (most prominently in the Venezuelan debt crisis of 1902 with a naval blockade by the United Kingdom, Germany, and Italy). In the Drago-Porter Convention (1907),8 Contracting States, in principle, renounced military enforcement as the primary means of settling (p. 543) claims of their own nationals, long before the comprehensive prohibition of the use of force under the UN Charter (Article 2(4)).

Under existing customary law, the right to development (acclaimed in principle, controversial in substance)9 or the emerging principle of solidarity towards developing countries10 may establish an obligation of creditor countries to enter, bona fide, into negotiations on clearly sustainable debt. However, neither the right to development nor the principle of solidarity gives rise to any tangible claims to debt relief or to fresh money.

Under conditions for borrowing from the IMF, default will put at risk the release of further tranches under a stand-by arrangement and the IMF’s willingness to grant credits in the future. This explains why States have hardly ever defaulted on IMF loans (Argentina did, however, in September 2003, before clearing its arrears a few days later, after a new arrangement had been negotiated).11 Under cross-default clauses used by banks, a country’s default on debt may trigger a domino effect: default on one debt constitutes default on other loans covered by the clause and makes these loans immediately due and payable.

The former UN Commission on Human Rights (now the UN Human Rights Council) took a very critical stance towards economic adjustment programmes in conflict with the insurance of human rights standards:

[T]‌he exercise of the basic rights of the people of debtor countries to food, housing, clothing, employment, education, health services and a healthy environment cannot be subordinated to the implementation of structural adjustment policies and economic reforms arising from the debt.12

This approach may be an over-simplification. It ignores the long-term impact of unsustainable debt and insufficient productivity on social standards and on the capacity of the State adequately to ensure the rights under the International Covenant on Economic, Social and Cultural Rights. Still, the possible tensions between economic adjustment and human rights from a short or medium-term perspective call for serious consideration.

In the case of State insolvency, international law only provides some rather rudimentary rules which govern relations between the debtor country and its sovereign or private creditors.13 On the one hand, the principle of sovereign equality of States (p. 544) (Article 2(1) of the UN Charter) leaves no room for any procedure of liquidating sovereign debtor’s assets, as in bankruptcy under national law. On the other hand, the debtor State’s jurisdiction to regulate debt towards foreign creditors and to restructure or suspend its own payment obligations denominated in foreign currencies is rather limited.

Internationally operating banks and other private creditors are sensitive to the law governing sovereign debt instruments. Debt instruments denominated in US-Dollar or another foreign currency and issued by countries without an impeccable record of compliance are usually payable in one of the big financial centres of the world (eg London or New York) or are explicitly governed by US, British, German, or other foreign law. In the United States, the Federal Court of Appeals for the Second Circuit established in Allied Bank International v Banco Credito Agricola de Cartago14 that bonds or other debt instruments payable in the United States are obligations situated in the United States. Therefore, legislation or executive acts of the debtor country suspending payment or unilaterally reducing obligations amount to extraterritorial taking of property, which the United States will not recognize under the act of State doctrine. All this protects bondholders against unilateral interference with their claim by the debtor State. Moreover, unilateral measures of the debtor State ordering a moratorium on or the restructuring of loans which are subject to foreign law need (and, in practice, will) not be respected by other States under Article VIII, section 2(b) of the IMF Agreement.15

Capital markets are sensitive to these legal implications. In the Eurozone, heavily indebted countries like Greece or Portugal had issued different types of bonds, most being subject to domestic law of the issuing country (Greek or Portuguese law), some governed by English law. When the Euro crisis became aggravated, interest rates for the two types of bonds spread considerably, with a premium on the English law-governed, possibly safer asset class. Sovereign debt which is payable in New York is also subject to US jurisdiction. This explains why the litigious aspects arising from Argentina’s default in 2001 (actions for payment and for attachment of assets) were essentially handled by one federal judge of the US District Court for the Southern District of New York.

(b)  Necessity

Under the rules of State responsibility, it is a most controversial issue when and to what extent a State may refuse or suspend payment on its debt. Although the rules on necessity immediately apply only to obligations under international law (p. 545) (ie loans granted by sovereign creditors or international organizations like the IMF or the World Bank), they have implications on foreign debt to private creditors and on the adjudication of private payment claims by national courts.

According to public international law, problems of solvency, in principle, neither destroy the legal basis for payment obligations nor release the State from its debt. The citizenship of the debtor State, as a kind of solidary community, must share their State’s responsibility for mismanagement of its own government. This calls for an analysis that differs from the cases of corruption. Addressing corruption induced by government, modern international law, in terms of responsibility and redress, looks behind the shell of the State at the interest of the population which, ultimately, is the victim of intransparent public administration and bad governance.16 In contrast, contracting debt, unlike corruption, is not per se directed against the interests of the population at large. However, public international law must and will be sensitive to an economic and financial situation, in which the unmitigated compliance of payment obligations seriously affects the debtor State’s responsibility for human rights standards, internal peace, and national security. The international order is committed to the existence of the individual member of the community of States and to the values behind elementary human rights. Thus, public international law would jeopardize its own legitimacy, if it allowed compliance of payment obligations to trump the fulfilment of the core functions of the debtor State or economic and social human rights standards. In practice, debtor States and creditors do not insist on maximizing possible legal positions (full compliance on the one hand and complete release from or suspension of payment obligations on the other hand), but try to reach a balanced agreement in times of severe crises.

International tribunals and arbitral bodies have taken the broader implications of a State’s inability to pay its debts into account. In its award in the French Company of Venezuelan Railroads case (1905), a mixed claims commission set up by France and Venezuela, conserved Venezuela’s argument of insolvency:

[The government] can not be charged with responsibility for the conditions which existed in 1899, prostrating business, paralyzing trade and commerce, and annihilating the products of agriculture; nor for the exhaustion and paralysis which followed: nor for its inability to pay its just debts; nor for the inability of the company to obtain money otherwise and elsewhere. All these are misfortune incidents to government, to business, and to human life. They do not beget claims for damages.17

In the famous Socobel case, Belgium had taken up the claim of a Belgian corporation which had obtained an arbitral award for payment of a considerable sum in gold against Greece. Before the Permanent Court of International Justice, the Greek Government pleaded that its economic situation prevented Greece from immediately complying with the award. The Permanent Court of International Justice held that it had no jurisdiction to decide whether the Greek Government could rely on (p. 546) the alleged financial crisis as force majeure and allowed the Belgium demand.18 Both parties recognized that a case of force majeure (disputed in the actual case) could allow a debtor State to suspend payments in a financial crisis.

Under the modern law of State responsibility, a State may rely on necessity as a justification for suspending compliance with an international obligation.19 In addition, natural catastrophes and similar external interferences with the State’s capacity to act may also qualify as force majeure. The Draft Articles of the International Law Commission on State Responsibility contain rather strict conditions for justification by necessity (Article 25):


  1. 1.  Necessity may not be invoked by a State as a ground for precluding the wrongfulness of an act not in conformity with an international obligation of that State unless the act:

    1. (a)  is the only way for the State to safeguard an essential interest against a grave and imminent peril; and

    2. (b)  does not seriously impair an essential interest of the State or States towards which the obligation exists, or of the international community as a whole.

  2. 2.  In any case, necessity may not be invoked by a State as a ground for precluding wrongfulness if:

    1. (a)  the international obligation in question excludes the possibility of invoking necessity; or

    2. (b)  the State has contributed to the situation of necessity.

It is a most controversial issue, whether a debtor State can invoke justification even if its own government, by economic or financial mismanagement, contributed to the situation of necessity. As a rule, a substantial contribution of an affected State precludes reliance on necessity.20 However, at least in the case of State insolvency, a more lenient standard seems appropriate. In virtually all cases of State insolvency, the government of the debtor country has at least substantially contributed to the situation. Therefore, balancing the interests of the debtor State and its population on the one hand and the interests of the creditors on the other hand, it seems appropriate to allow the reliance on necessity if exogenous factors beyond the responsibility of the debtor State played an essential role in generating insolvency.21

Several ICSID awards addressed the argument of necessity in context with the Argentine crisis in the beginning of 2000. In the case CMS Gas Transmission Co v Argentina, the arbitration tribunal held that the Argentine crisis was rooted in (p. 547) the policies of successive administrations, and that the ‘government policies and their shortcomings significantly contributed to the crisis and the emergency’.22 In Enron v Argentina23 and Sempra Energy International v Argentina,24 the arbitral tribunals rejected Argentina’s argument that exogenous factors had mainly contributed to the financial crisis. In any case, necessity does not permanently release a State from its debt burden, but only allows the State to suspend pending payments as long as a situation of necessity lasts.25 In addition, the debtor State must pay compensation for specific damages arising from temporary non-compliance.26 The due compensation does not, however, include interest on the arrears.27

Modern arbitral decisions on investment law do not lightly assume a situation of necessity. In the case LG & E v Argentine Republic,28 an ICSID arbitral tribunal based the justification by necessity on an existential threat to Argentina at the end of 2001:

It faced an extremely serious threat to its existence, its political and economic survival, to the possibility of maintaining its essential services in operation, and to the preservation of its internal peace.29

A situation of necessity justifies only measures necessary to safeguard a State’s essential interests. However, arbitral decisions sometimes take different views on this issue, even when they evaluate the same economic crisis.30

A number of investment treaties have special necessity and safeguard clauses which allow the host State to take measures to counter an economic crisis or (p. 548) internal disturbances.31 The investment treaty between Argentina and the United States provides in Article XI:

This Treaty shall not preclude the application by either Party of measures necessary for the maintenance of public order, the fulfilment of its obligations with respect to the maintenance or restoration of international peace or security, or the Protection of its own essential security interests.32

For host States, such clauses are far more favourable than the rules on necessity under customary law.33 In particular, they vest the host State with considerable margins of appreciation and discretion. This has far-reaching implications for claims of foreign creditors under public debt instruments (bonds, promissory notes). To the extent that investment treaties cover these claims, necessity clauses in investment treaties broaden the scope for suspending payments and other measures taken by debtor States. Thus, the extension of covered investments to debt instruments under investment treaties, apparently strengthening the position of bondholders, may, in the end, weaken their protection.

In a landmark decision, an ICSID arbitral tribunal held in the case Abaclat v Argentina that the BIT at stake covered claims of bond holders and assumed jurisdiction of thousands of claims against Argentina.34 The reasoning of the arbitral tribunal as to the treatment of bonds and other similar instruments as protected can be applied to many other investment treaties.

Some investment treaties, however, contain clauses on necessity which are much narrower than Article XI of the BIT between Argentina and the United States.35 To the extent that these narrower clauses only refer to losses of investments ‘in the territory’ of the host State, they do not affect bonds and other debts payable abroad.

It is a matter of controversy, whether a State can rely on necessity also towards private creditors. Clauses on necessity in investment treaties directly refer to private claims. The situation under customary law is not entirely clear. After Argentina defaulted on its foreign debt in 2001, the Government pleaded necessity in a number of litigations. In Lightwater Corp Ltd v Argentina, the Court brushed the argument of necessity aside.36 The Constitutional Court of Germany held that the customary rules on necessity only apply to claims under international law and not (p. 549) to claims by creditors.37 This ruling can hardly stand up to scrutiny. The Court distinguished the arbitral cases decided under bilateral investment treaties on the ground that, even though the claimants were private individuals, like those private energy suppliers CMS Energy or LG&E, the law governing the disputes was international law.38 It contradicts a whole array of arbitral decisions, which applied the rules on necessity to relations with private investors, under customary law and investment treaties.39 Moreover, the rules on necessity protect essential functions of the debtor State vis-à-vis the international community at large and must, therefore, be respected by other States and foreign courts adjudicating claims of foreign creditors. It would be inconsistent if States had to respect a situation of necessity in relation to their own claims, but could entirely ignore this defence in the enforcement of private claims through their own machinery of justice. The sovereign interests shielded by the rules on necessity, which also have a human rights dimension, do not simply give way to private interests. Finally, the principle of non-intervention in the internal affairs of other States prohibits States from jeopardizing the fulfilment of basic functions of other States by enforcing private claims in a crisis threatening the very survival of a debtor State.

A German district court held that a situation of necessity does not bar an action for payment because only subsequent measures of execution could possibly interfere with the sovereign function of the debtor.40 This view ignores that the rules on necessity affect the payment obligation as such and not only execution measures.

(c)  Collective restructuring of debts and objecting minority lenders

In a severe financial crisis, the debtor State will negotiate with private creditors to reach an agreement on restructuring debts. Often, some creditors will be opposed to a restructuring of debt accepted by the majority of creditors. In the absence of specific contractual clauses, the legal position of non-consenting creditors is a difficult issue. Creditors rejecting a restructuring of the debts may try to pursue their claims before the courts of the country where the bonds are payable. These problems are exacerbated when institutional investors with a speculative and aggressive strategy (‘vulture funds’) purchase debt instruments of States in a financial crisis at (p. 550) a considerable discount with the intention of bringing an action for payment at the full nominal value.

The case-law of US courts does not always follow a clear line. Solidarity among lenders and equal treatment of creditors is a recurring theme. In Crédit français Int’l, SA v Sociedad Financiera de Comercio, CA,41 the Supreme Court of New York relied on the terms of a syndicated loan to reject the claim of a minority lender which opposed the arrangements accepted by the majority.

In this case, the plaintiff was a member of a consortium of banks which had given a loan to a State-owned financial institution of Venezuela. In order to cope with a financial crisis, the Venezuelan Government had decided not to pay the debt principal in US-Dollars, whilst allowing continuing payments of interest. Unlike the plaintiff, the majority of the consortium had agreed to accept this situation rather than driving their Venezuelan debtor into insolvency. The Supreme Court of New York held that, under the underlying contractual arrangement, the syndicated loan constituted a joint venture and that the plaintiff, as a minority lender, could not enforce its individual claim in conflict with the agreement among the majority of lenders.

The broader implications of enforcement of minority claims were highlighted by the Elliott litigation against Peru.42 On the secondary market, Elliott, a hedge-fund, had purchased defaulted bonds issued by the central bank of Peru and guaranteed by the Republic of Peru, with the intention of collecting the full debt through litigation before US courts. After a restructuring of the Peruvian debt in accordance with the Brady Plan, accepted by most creditors, Elliott sued for the full amount of the debt including accrued interest. In Elliott Associates, LP v Banco de la Nación and the Republic of Peru,43 the Court of Appeals of the Second Circuit, reversing the judgment of the court below, held for the plaintiff and emphasized the voluntary nature of a restructuring agreement and the interest (also of debtor countries) in maintaining a functional secondary market for defaulted sovereign debt.

After obtaining the judgment against Peru and its central bank, Elliott sought assets of Peru to execute the judgment. When Peru moved funds to New York for payment of other creditors under the restructuring agreement, Elliott claimed that it should be paid like the other (consenting) under a pari passu clause44 contained in the Peruvian bonds (in accordance with international bond practice) and tried to intercept the funds. A US District Court held that this clause entitled Elliott to equal treatment, that is to payment from the funds on the same basis as the other creditors.45 After Peru had redirected the funds to Belgium for paying creditors in Europe, the Brussels Court of Appeal, also impressed by the pari passu argument, granted Elliott a restraining order.46 Peru then paid Elliott in full and the (p. 551) restraining order was lifted. Other courts were less sympathetic to similar claims under the pari passu clause. In Kensington International Ltd v Congo, the English Court of Appeal confirmed the exercise of judicial discretion denying a restraining order sought by an affiliate of Elliott’s.47

More recently, in EM Ltd v Argentina, the US Court of Appeals for the Second Circuit confirmed a decision of the court below which had placed the interest in a collective restructuring backed by a vast majority of creditors above the claims of non-consenting buyers of defaulted Argentine debt. After 76 per cent of creditors had accepted a restructuring scheme, providing the exchange of old bonds for instruments, plaintiffs sought to attach the old bonds deposited with US banks and to restrain disposition of these bonds. The District Court for the Southern District of New York had exercised its judicial discretion to vacate the orders of attachment and restraint.48 The Court of Appeals affirmed this ruling and held:

[T]‌he District Court acted well within its authority to vacate the remedies in order to avoid a substantial risk to the successful conclusion of the debt restructuring. That restructuring is obviously of critical importance to the economic health of a nation.

The UNCTAD Consolidated Principles on Responsible Sovereign Financing (2012)49 proclaim a duty of lenders to respond to a financial crisis of sovereign debtors in terms of a consensual debt restructuring:

In circumstances where a sovereign is manifestly unable to service its debts, all lenders have a duty to behave in good faith and with cooperative spirit to reach a consensual rearrangement of those obligations. Creditors should seek a speedy and orderly resolution to the problem (Principle 7).

As the German Federal Court of Justice held in a case brought against Argentina, customary international law does not establish an obligation on lenders to cooperate in terms of such a restructuring of sovereign debts.50

In September 2014, the UN General Assembly adopted Resolution 68/304 ‘Towards the establishment of a multilateral legal framework for sovereign debt restructuring processes’.51 This resolution, sponsored by Bolivia, can be understood as a direct reaction to the successful actions of hedge funds before US courts. In the resolution, the General Assembly recognized that

the efforts of a State to restructure its sovereign debt should not be frustrated or impeded by commercial creditors, including specialized investor funds such as hedge funds, which seek to undertake speculative purchases of its distressed debt at deeply discounted rates on secondary markets in order to pursue full payment via litigation.

(p. 552) The General Assembly, inter alia, decided

[…] to elaborate and adopt through a process of intergovernmental negotiations, as a matter of priority during its sixty-ninth session, a multilateral legal framework for the sovereign debt restructuring processes with a view, inter alia, to increasing the efficiency, stability and predictability of the international financial system and achieving sustained, inclusive and equitable economic growth and sustainable development, in accordance with national circumstances and priorities.

In 2015, the UN General Assembly adopted Resolution 69/319 on ‘Basic Principles on Sovereign Debt Restructuring Processes’.52 The resolution calls for debt restructuring to be guided by the principles of sovereignty, good faith, transparency, impartiality, equitable treatment, sovereign immunity, legitimacy (including the rule of law), sustainability, and majority restructuring.

Reacting to the public outcry in the United Kingdom at vulture fund litigation against poor African countries, the UK Parliament adopted the Debt Relief (Developing Countries) Act 2010. The Act protects poor countries, with about 40 States qualifying for reduction in their foreign debt under the HIPC Initiative of the IMF and the World Bank and against claims of creditors claiming the full amount of debt. The Act limits claims to the rate of reduction set under the HIPC for each eligible country’s debt.

(d)  Statutory mechanisms for restructuring sovereign debt

The experiences with the debt crises of the last decade and controversial litigation initiated by ‘vulture funds’ (eg in the Elliott case) set off a number of proposals for a statutory mechanism to cope with the insolvency of States and to reach a restructuring of sovereign debt, which is internationally recognized.53 The challenge lies in devising a reliable legal framework which joins all creditors together, provides for a procedure managed by a neutral body, bars the enforcement of individual claims, and lays the foundation of re-establishing long-term solvency of the debtor State (rehabilitation). Analogies to national laws on bankruptcy call for caution. Thus, liquidation of sovereign debtors’ assets lies absolutely outside of the possible functions of a restructuring mechanism. On the other hand, the US Bankruptcy Code has inspired many proposals. This applies, in particular, to chapter 11 of the Bankruptcy Code which allows a debtor to restructure its business and to continue operations under protection of the bankruptcy court.

The Proposal of a Sovereign Debt Restructuring Mechanism (SDRM), designed within the IMF,54 aims at a leading role of the IMF on the basis of an amendment of the IMF Agreement. Key elements of this concept are:

  • •  majority restructuring, with restructuring accepted by a qualified majority of creditors to be binding on the non-consenting minority;

  • (p. 553) •  a stay on creditor litigation after commencement of reorganization proceedings;

  • •  protection of creditor interests, with the debtor country being precluded from making payments to non-priority creditors and with assurances for preserving the values of public assets as well as commitments to economic rehabilitation;

  • •  priority financing, with privileges for private creditors providing fresh money; and

  • •  a statutory framework based on a universal treaty, preferably an amendment to the IMF agreement.

The reformed structure of the IMF, with enhanced influence of countries like China, India and many developing countries, might vest the Fund with new legitimacy for administering a sovereign debt restructuring mechanism. Another option is a treaty for a new restructuring body administering private claims, modelled after the ICSID Convention. In any case, only a treaty reliably ensures international recognition for restructuring measures.

(e)  Collective action clauses

A contractual solution to the problem of the non-consenting creditor are collective action clauses (CACs),55 which have become a widely accepted element of bonds and other debt instruments issued by States. Collective action clauses provide a contractual basis for the restructuring of sovereign obligations with the consent of a qualified majority of creditors. Majority restructuring provisions allow the debtor country and the majority of creditors to reach an agreement binding upon all bondholders including the non-consenting minority. Majority enforcement provisions bar minority creditors from enforcing claims through litigation. For a long time, collective action clauses were contained in sovereign bond contracts governed by English law. In the last decade, countries like Mexico, Brazil, Italy, South Africa, and even the United States have included collective action clauses in their bonds governed by the law of New York.56 Under the Agreement on the European Stability Mechanism (Article 12(3)), the countries of the Euro group committed themselves to include standardized and identical collective action clauses in the terms of new bonds from June 2013. As the German Federal Court of Justice rightly concluded, the acceptance of a restructuring of sovereign debts by a majority of creditors can be opposed to the claims of holdout creditors only if the terms under which a government bond was issued provide such a majority decision.57

(p. 554) (f)  pari passu clauses

A standard clause in government bonds grants equal treatment of bondholders and other creditors of the State (pari passu clause). As previously mentioned, such a clause typically means that the debtor state may not discriminate between bondholders who accepted an agreement on restructuration on the one hand and non-consenting bondholders on the other hand. In Argentina v NML Capital, the US Court of Appeals for the Second Circuit held that the creditor State, under a pari passu clause, must pay out the same quota to non-consenting bondholders which it is willing to pay to consenting creditors. In this context, the Court of Appeals underlined the interest in maintaining the integrity of the New York marketplace for borrowers and lenders and, by implication, the attractiveness of New York as an international centre of capital transactions:

We do not believe the outcome of this case threatens to steer bond issuers away from the New York marketplace. On the contrary, our decision affirms a proposition essential to the integrity of the capital markets: borrowers and lenders may, under New York law, negotiate mutually agreeable terms for their transactions, but they will be held to those terms. We believe that the interest—one widely shared in the financial community—in maintaining New York’s status as one of the foremost commercial centers is advanced by requiring debtors, including foreign debtors, to pay their debts.58

This judgment not only serves national and local interests. It rightly insists in non-discrimination of bondholders according to the issuing of a State’s own terms.

Select Bibliography

  • D Asiedu-Akrofi, ‘Sustaining Lender Commitment to Sovereign Debtors’ (1990) 30 Colum J of Transn’l L 1.

  • D Carreau and NN Shaw, La Dette extérieure/The External Debt (Martinus Nijhoff 1995).

  • DH Cole, ‘Debt-Equity Conversions, Debt-for-Nature Swaps, and the Continuing World Debt Crisis’ (1992) 30 Colum J Transnat’l L 57.

  • R Dolzer, ‘Staatliche Zahlungsunfähigkeit: Zum Begriff und zu den Rechtsfolgen im Völkerrecht’ in J Jekewitz (ed), Festschrift für Karl Josef Partsch zum 75. Geburtstag (Duncker & Humblot 1989) 531.

  • FP Feliciano and R Dolzer, ‘The International Law of External Debt Management—Some Current Aspects (Report of the Committee for International Monetary Law)’ in International Law Association, Report of the Sixty-Third Conference (Warsaw) (1988) 472.

  • M Herdegen, ‘Europäische Bankenunion: Wege zu einer einheitlichen Bankenaufsicht’ (2012) 40 WM 1889.

  • R Lastra and L Buchheit (eds), Sovereign Debt Management (OUP 2014).

  • RG MacLean, ‘Legal Aspects of the External Debt’ (1989 II) 214 RdC 31.

  • RSJ Martha, ‘Inability to Pay under International Law and under the Fund Agreement’ (1994) 41 NILR 85.

  • (p. 555) J Morgan-Foster, ‘The Relationship of IMF Structural Adjustment Programs to Economic, Social, and Cultural Rights: The Argentine Case Revisited’ (2003) 24 Mich J Int’l L 577.

  • CG Paulus, A Debt Restructuring Mechanism for Sovereigns (Hart Publishing 2014).

  • SL Schwarcz, ‘Sovereign Debt Restructuring: A Bankruptcy Reorganization Approach’ (2000) 85 Cornell L Rev 956.

  • RD Sloane, ‘On the Use and Abuse of Necessity in the Law of State Responsibility’ (2012) 106 AJIL 447.

  • F Vischer, ‘Zur Stellung der Anleihegläubiger bei Zahlungsunfähigkeit des Schuldnerstaates’ (2011) 21 Schw Z Int & Eu R 243.

  • M Waibel, Sovereign Defaults before International Courts and Tribunals (CUP 2011).


1  LF Guder, The Administration of Debt Relief by the International Financial Institutions (Springer 2009); L Rieffel, Restructuring Sovereign Debt: The Case for Ad Hoc Machinery (Brookings Institution Press 2003).

2  See AF Lowenfeld, International Economic Law (2nd edn, OUP 2008) 667ff.

3  See AF Lowenfeld, International Economic Law (2nd edn, OUP 2008) 699ff (on Russia), 719ff (on Argentina).

4  EC Buljevich, Cross Border Debt Restructuring: Innovative Approaches for Creditors, Corporate and Sovereigns (Euromoney Institutional Investor PLC 2005).

5  M Bowe and JW Dean, ‘Debt Equity Swaps: Investment Incentive Effect and Secondary Market Prices’ (1993) 45 Oxford Economy Papers 130; DH Cole, ‘Debt-Equity Conversions, Debt-for-Nature Swaps, and the Continuing World Debt Crisis’ (1992) 30 Colum J Transnat’l L 57.

6  Institute of International Finance, Principles for Stable Capital Flows and Fair Debt Restructuring in Emerging Markets (2005) 10–14 <http://www.iif.com/download.php?id=4fyB5BGIKzU=> (accessed 23 June 2016).

7  Communiqué of the Inter-Governmental Group of Twenty-Four on International Monetary Affairs and Development (15 April 2005) para 6 <https://www.imf.org/external/np/cm/2005/041505.htm> (accessed 23 June 2016).

8  Hague Convention II Respecting the Limitation of the Employment of Force for the Recovery of Contract Debts (1907) Treaty Series 537.

9  A Marong, ‘Development, Right to, International Protection’ in R Wolfrum (ed), The Max Planck Encyclopedia of Public International Law (OUP 2012) vol III, 85; N Roht-Arriaza and SC Aminzadeh, ‘Solidarity Rights (Development, Peace, Environment, Humanitarian Assistance)’ in R Wolfrum (ed), The Max Planck Encyclopedia of Public International Law (OUP 2012) vol IX, 278ff paras 6ff.

10  R Wolfrum and C Kojima (eds), Solidarity: A Structural Principle of International Law (Springer 2010); R Lastra and L Buchheit (eds), Sovereign Debt Management (OUP 2014).

11  See AF Lowenfeld, International Economic Law (2nd edn, OUP 2008) 729ff.

12  UNHCR Res 82 (6 January 2000) UN Doc E/CN.4/2000/82.

13  See R Dolzer, ‘Staatliche Zahlungsunfähigkeit: Zum Begriff und zu den Rechtsfolgen im Völkerrecht’ in J Jekewitz (ed), Festschrift für Karl Josef Partsch zum 75. Geburtstag (Duncker & Humblot 1989) 531; M Herdegen, ‘Der Staatsbankrott: Probleme eines Insolvenzverfahrens und der Umschuldung bei Staatsanleihen’ (2011) 65 WM 913; JA Kämmerer, ‘Der Staatsbankrott aus völkerrechtlicher Sicht’ (2005) 65 ZaöRV 651; K von Lewinski, Öffentlichrechtliche Insolvenz und Staatsbankrott (Mohr Siebeck 2011); C Ohler, ‘Der Staatsbankrott’ (2005) 60 JZ 590; C Paulus, ‘A Standing Arbitral Tribunal as a Procedural Solution for Sovereign Debt Restructurings’ in CA Primo Braga and GA Vincelette (eds), Sovereign Debt and the Financial Crisis: Will This Time Be Different? (World Bank Publications 2011) 317; C Paulus, ‘Überlegungen zu einem Insolvenzverfahren für Staaten’ (2002) 56 WM 725.

14  Allied Bank International v Banco Credito Agricola de Cartago 757 F.2d 526 (2d Cir 1985).

15  See Ch XXXIX.7.

16  See Ch IX.

17  French Company of Venezuelan Railroads Case, France v Venezuela (1905) vol X RIAA 285, 353 (mixed commission of arbitrators).

18  PCIJ The ‘Société Commerciale de Belgique’ (Belgium v Greece) [1939] PCIJ Rep Series A/B No 78 paras 160–79.

19  J Crawford, The International Law Commission’s Articles on State Responsibility: Introduction, Text Commentaries (CUP 2002) Article 25, 2.

20  See ICJ Case Concerning the Gabčíkovo-Nagymaros Project (Hungary v Slovakia) [1997] ICJ Rep 7 paras 51–2; J Crawford, The International Law Commission’s Articles on State Responsibility: Introduction, Text Commentaries (CUP 2002) Articles 25, 20.

21  See R Dolzer, ‘Staatliche Zahlungsunfähigkeit—Zum Begriff und zu den Rechtsfolgen im Völkerrecht’ in J Jekewitz (ed), Das Recht des Menschen zwischen Freiheit und Verantwortung—Festschrift für Karl Josef Partsch (Duncker & Humblot 2002) 551.

22  CMS Gas Transmission Co v Argentine Republic, ICSID Case No ARB/01/8 (Award) (2005) 44 ILM 1205 para 329; See AK Bjorklund, ‘Emergency Exceptions: State of Necessity and Force Majeure’ in P Muchlinski (ed), The Oxford Handbook of International Investment Law (OUP 2008) 490.

23  Enron Corporation Ponderosa Assets, L.P. v Argentine Republic, ICSID Case No ARB/01/3 (Award 2007).

24  Sempra Energy International v Argentine Republic, ICSID Case No ARB/02/16 (Annulment Proceeding) (2010) 49 ILM 1445 paras 186ff.

25  See ICJ Case Concerning the Gabčíkovo-Nagymaros Project (Hungary v Slovakia) [1997] ICJ Rep 7 paras 47, 63, 101; CMS Gas Transmission Co v Argentine Republic, ICSID Case No ARB/01/8 (Award) (2005) 44 ILM 1205 paras 379ff; Article 27 lit c of the Draft Articles on Responsibility of States for Internationally Wrongful Acts.

26  See Article 27 lit b of the Draft Articles on the Responsibility of States of Internationally Wrongful Acts; CMS Gas Transmission Co v Argentine Republic, ICSID Case No ARB/01/8 (Award) (2005) 44 ILM 1205 paras 390ff.

27  J Crawford, The International Law Commission’s Articles on State Responsibility: Introduction, Text Commentaries (CUP 2002) Article 27, 4.

28  LG & E v Argentine Republic, ICSID Case No ARB/02/1 (Decision on Liability) (2007) 46 ILM 36 para 257.

29  For a different assessment of the Argentine crisis, see CMS Gas Transmission Co v Argentine Republic, ICSID Case No ARB/01/8 (Award) (2005) 44 ILM 1205 paras 318ff (denying circumstances of necessity). See also the decision of the ICSID (Ad hoc Committee) in the case CMS Gas Transmission Co v Argentine Republic, ICSID Case No ARB/01/8 (Annulment Proceeding) (2007) 46 ILM 1136 paras 101ff.

30  See on the Argentine crisis CMS Gas Transmission Co v Argentine Republic, ICSID Case No ARB/01/8 (Award) (2005) 44 ILM 1205 paras 318ff (denying situation of necessity); LG & E v Argentine Republic, ICSID Case No ARB/02/1 (Decision on Liability) (2007) 46 ILM 36 paras 256ff (assuming a situation of necessity).

31  W Burke-White and A von Staden, ‘Investment Protection in Extraordinary Times: The Interpretation and Application of Non-Precluded Measure Provisions in Bilateral Investment Treaties’ (2008) 48 Va J Int’l L 307.

32  See SF Hill, ‘The “Necessity Defense” and the Emerging Arbitral Conflict in Its Application to the U.S.-Argentina Bilateral Investment Treaty’ (2007) 13 Law Bus Rev Am 547.

33  (Ad hoc Committee) CMS Gas Transmission Co v Argentine Republic, ICSID Case No ARB/01/8 (Annulment Proceeding) (2007) 46 ILM 1136 paras 101ff; (Ad hoc Committee) Sempra Energy International v Argentine Republic, ICSID Case No ARB/02/16 (Annulment Proceeding) (2010) 49 ILM 1445 paras 186ff.

34  Abaclat and Others v The Argentine Republic, ICSID Case No ARB/07/5 (Decision on Jurisdiction and Admissibility 2011) paras 353ff.

35  See Art 4(3) and (4) of the German Model BIT (2008); Art 5(5)(b) of the US Model BIT (2012).

36  Lightwater Corp Ltd v Republic of Argentina 2003 Dist Lexis 6156 (SDNY 2003).

37  BVerfGE 118, 124 (dissenting opinion at 146ff); SW Schill, ‘German Constitutional Court Rules on Necessity in Argentine Bondholder Case’ (2007) 11 ASIL Insights Issue 20 <http://www.asil.org/insights/volume/11/issue/20/german-constitutional-court-rules-necessity-argentine-bondholder-case> (accessed 23 June 2016); AK Bjorklund, ‘Emergency Exceptions: State of Necessity and Force Majeure’ in P Muchlinski (ed), The Oxford Handbook of International Investment Law (OUP 2008) 516.

38  AK Bjorklund, ‘Emergency Exceptions: State of Necessity and Force Majeure’ in P Muchlinski (ed), The Oxford Handbook of International Investment Law (OUP 2008) 517.

39  LG & E v Argentine Republic, ICSID Case No ARB/02/1 (Decision on Liability) (2007) 46 ILM 36 paras 245ff; (Ad hoc Committee) CMS Gas Transmission Co v Argentine Republic, ICSID Case No ARB/01/8 (Annulment Proceeding) (2007) 46 ILM 1136 paras 101ff; (Ad hoc Committee) Sempra Energy International v Argentine Republic, ICSID Case No ARB/02/16 (Annulment Proceedings) (2010) 49 ILM 1445 paras 186ff.

40  LG Frankfurt a.M. JZ 2003, 1010 with note by A Reinisch; see also OLG Frankfurt a.M. NJW 2003, 2688.

41  Crédit français Int’l, SA v Sociedad Financiera de Comercio, CA 490 NYS 2d 670 (Sup Ct 1985).

42  See AF Lowenfeld, International Economic Law (2nd edn, OUP 2008) 737f.

43  Elliott Associates, LP v Banco de la Nación and the Republic of Peru 194 F.3d 363 (2d Cir 1999) para 71.

44  See Section 3.(f) in this Chapter.

45  Elliott Associates, LP v Republic of Peru US LEXIS 14169 (SDNY 2000).

46  Court of Appeal of Brussels Elliott Associates, LP v Republic of Peru General Docket No 2000/QR/92 (2000).

47  Kensington International Ltd v Republic of the Congo [2003] All ER (D) 159.

48  EM Ltd v the Republic of Argentina F.Appx. 131 (2d Cir 2005).

49  UNCTAD Principles on Promoting Responsible Sovereign Lending and Borrowing (Amended and Restated as of 10 January 2012).

50  BGH NJW 2015, 2328, 2330ff paras 28ff.

51  UNGA Res 68/304 (17 September 2014) UN Doc A/RES/68/304. This resolution was adopted with 124 votes in favour, 11 votes against, and 41 abstentions.

52  UNGA Res 69/319 (29 September 2015) UN Doc A/RES/69/319.

53  AO Krueger, A New Approach to Sovereign Debt Restructuring (International Monetary Fund 2002); CG Paulus, ‘Rechtliche Handhaben zur Bewältigung der Überschuldung von Staaten’ (2009) 55 RIW 11.

54  The proposal is closely associated with the then deputy managing director of the IMF Anne Krueger, see AO Krueger, A New Approach to Sovereign Debt Restructuring (International Monetary Fund 2002).

55  R Gray, ‘Collective Action Clauses: Theory and Practice’ (2004) 35 GJIL 693.

56  SJ Galvis and AL Saad, ‘Collective Action Clauses: Recent Progress and Challenges Ahead’ (2004) 35 GJIL 713; M Gugiatti and A Richards, ‘The Use of Collective Action Clauses in New York Law Bonds of Sovereign Borrowers’ (2004) 35 GJIL 815.

57  BGH NJW 2015, 2328, 2331ff paras 33ff.

58  US Court of Appeals for the Second Circuit, NML Capital, Ltd. et al v Republic of Argentina (2013).