Newsroom: Article

Emerging Market De(bt)velopments

Earlier, we examined the influence of the global economic crisis on the emerging markets and the consequent rising risk of sovereign-debt default in emerging markets.

In this edition, we will look at the first actual sovereign default, which emerged since our latest article; namely, a default by Ecuador on its sovereign-bond interest-payment obligations.

In this article, we will examine more deeply the decision by the Paris Club to publish the amount of its claims on foreign countries, and we will conclude with some background information on the debt restructuring agreement between the Paris Club and the East African state of Djibouti, which was agreed on 16 October 2008.

Ecuador
On 15 November 2008, Ecuador missed the interest payment on its 2012, 12% bond with a principal outstanding amount of $510m. The fact that Ecuador decided to use the 30 days grace period follows recommendations from a Debt Auditing Committee in Ecuador, which states that some of the country’s foreign debt is fraudulent.
The 30 days grace period has been invoked while the government studies the results of the Committee report, but it is expected that Ecuador will halt payments on some of the bonds it has issued.
The South American country has a long history of foreign debt defaults. In 1987, the commercial banks of Ecuador defaulted. In 1994, Paris Club creditors rescheduled bilateral debt with Ecuador for about $430m and, in 1995, the commercial debt was restructured via a Brady Bond Debt Restructuring for about $6bn.
After an economic crisis in 1999 caused by low oil prices, Ecuador exchanged the unpaid amounts of the Brady Bonds with the 2012 12% bond and a 2030 step-up bond. Since Rafael Correa was elected President in 2006, he has constantly made an issue of the debt burden, questioned the legitimacy of the foreign debt and threatened to stop payments. He has openly referred to the favourable – and unilaterally dictated - terms of Argentina’s debt restructuring. Spurred by declining oil prices, it seems he will now carry out his threat.
It is, however, unfortunate for Correa that his ally, Venezuelan President Hugo Chavez, has bought first-to-default notes with, among others, Ecuador as a potential defaulting sovereign entity. As holder of these notes, Venezuela would be forced to pay about $400m to the bondholders should Ecuador default on its interest-payment obligation.
The market expectation is that Ecuador will not pay the interest due since 15 November 2008. This is reflected in the yield-to-maturity requirements for the 2012 and 2030 bonds, which have moved up to 54% and 35% respectively. Currently, the only other bonds from sovereign entities coming close to this are Ukraine and Pakistan with a yield requirement at levels of 21% and 20% respectively.

Paris Club claims
During the Doha Conference on Financing for Development, the participants promised an enhancement of the transparency of financing and debt levels of developing countries. The main aim is to enable creditors to implement a more reliable risk assessment of the debt distress of certain developing countries. Especially recently, where risk is being re-qualified and re-quantified, a comprehensive debt reporting and disclosure process is indispensable.
In response, the Paris Club has now published its totals. The total principal amount outstanding to Paris Club creditors, is about $330bn, of which $173bn consists of Official Development Assistance claims and $158bn of non-Official Development Assistance claims. It is interesting to note that about $29bn, or one-fifth, of the non-Official Development Assistance claims is owed by Cuba.
One-tenth of the Paris Club debt - about $31bn - is owed by heavily indebted poor countries. The Paris Club intends to cancel most of these claims on countries that implement poverty-reducing and other economic reforms under the enhanced Heavily Indebted Poor Countries (HIPC) Initiative and through additional bilateral debt relief efforts.

Debt Restructuring Agreement between Paris Club and Djibouti
On 16 October 2008, Paris Club creditors and the Government of Djibouti agreed a restructuring of its external debt. This follows the approval by the International Monetary Fund of Djibouti's arrangement under the Poverty Reduction and Growth Facility on 17 September 2008. 
Djibouti is a small country with about 800,000 inhabitants and a GDP of slightly less than $1bn. Its total external debt is about $425m, of which around $100m is owed to the Paris Club creditors.
This agreement treats approximately $76m, of which $58m comprises arrears and late interest. Some $64m will be rescheduled and $12m will be deferred. The agreement entails a 79% reduction of the debt owed to the Paris Club creditors.
Djibouti has committed itself to seek comparable debt treatment from its commercial, non-Paris Club, creditors.

This debt restructuring will make an important contribution to Djibouti's economic outlook. After comparable effort from other creditors, this rescheduling will satisfy Djibouti's financing needs for the next three years.

Holders of sovereign trade debt are invited to contact us for advice on any questions relating to the default of Ecuador, of other (potential) defaults or the possibility of trading out of risk positions.

A.R. Thiescheffer on thiescheffer@omnibridgeway.com
H. Rijkens on rijkens@omnibridgeway.com

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