Risk Profiles for Re-Profiling Sovereign Debt
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Transcript of Risk Profiles for Re-Profiling Sovereign Debt
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Re-profiling Sovereign Debt
Stavros A. Zenios
University of Cyprus
Senior Fellow the Wharton School, USA
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Outline
¤ An Overview of Sovereign Debt Crises
¤ Sovereign Debt Re-profiling Challenge
¤ Issues in Debt Re-profiling
¤ Argentina, Greece, Cyprus
¤ Scenario Analysis for Optimal Debt Restructuring
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An Overview of Sovereign Debt Crises
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Eurozone debt
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Is the Eurozone public debt too high?
¤ Reinhart-Rogoff and others § The 90% threshold § Some debate (exogeneity and instruments) § Good reasons
¤ Theory § Tax burden § Financial risk, borrowing costs, shocks, multiple
equilibria § Policy constraint
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Special features of Eurozone debt
¤ The diabolic loop (Brunnermeier et al., 2011) § Governments at risk borrow from banks § Banks are at risk: need government rescue § ECB is not lender of last resort
¤ More generally: governments borrow in foreign currency (De Grauwe, 2012)
¤ Both are sources of multiple equilibria
¤ Eurozone countries like developing countries
¤ Lower public debt thresholds (R&R, Cecchetti et al.)
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Historical note: For young countries
¤ Average years to default-rescheduling for African and Asian countries
¤ 31.5 years
¤ Average years to default-rescheduling for Latin American countries
¤ 36 years, including Great Depression ¤ 38 years, excluding Great Depression
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Historical note: Share of time in default or rescheduling since 1800
¤ All European Countries: ¤ Share of years 14.3%
¤ Number of episodes 3.8
¤ European countries that defaulted at least once ¤ Share of years 22.8%
¤ Number of episodes 6.1
¤ Greece 50.6%, 5 episodes
¤ Germany 13%, 8 episodes
¤ Latin American countries ¤ Share of years 34.7%
¤ Number of episodes 7
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Sovereign Debt Restructuring Challenge
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Debt is Fragile: Hyman Minsky
¤ Phase I. Hedge finance
¤ Phase II. Speculative finance
¤ Phase III. Ponzi scheme
¤ Where do Governments operate?
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Factors of fragility of public debt
¤ Ability to repay: ¤ Interest rate ¤ Debt/GDP ratio
¤ Interest rate goes UP as ability to repay goes DOWN
¤ Increase debt servicing cost = “Snowball effect” on GDP
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Spreads of 5-year CDS of government bonds for European countries under assistance programs.
!
Marked!with!a!triangle!are!the!dates!of!applying!for!a!assistance!and!with!bullet!point!the!dates!of!reaching!agreement.!Graph!as!presented!by!A.!Orphanides!at!the!Tassos!Papadopoulos!Center!
Conference!on!“Five!Years!Euro”,!17!May!2013.!!!!
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Snowball effect - Cyprus
100% 120% 140% 160% 180% 200% 220% 240% 260% 280%
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013
Public Debt to Revenues
0%
10%
20%
30%
40%
50%
60%
70%
80%
2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013
External Debt to GDP
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Getting out of a debt trap
IMF Board notice 13/61, May 2013
«debt restructurings have often been too little and too late in recent crisis cases, thus failing to reestablish debt sustainability and market access in a durable way.»
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Getting out of a debt trap
Charles Wyplosz and Pierre Pâris, 2013.
Mutual Agreement for Public Debt Restructuring in the Eurozone: The MADRE Plan
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Debt re-profiling
¤ Extend maturity
¤ Adjust interest rate
¤ Preserve (or not) present value
¤ Preserve (or not) nominal value
Rescheduling vs Restructuring
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Re-profiling the Cyprus debt
0
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2013
2014
2015
2016
2017
2018
2019
2020
2021
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Original debt Restructured debt
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Issues in Debt Re-profiling
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Issues in debt re-profiling
1. Face and market value of bonds or loans
2. Amortization schedule (bullet vs amortization, existence of a sinking fund)
3. Interest rate and coupon (fixed vs flexible, step-up or linked)
4. Currency of denomination of the instruments (local vs foreign)
5. Enhancements, including embedded options or collateral
6. Legal clauses (CACs, non-default clauses, exit consents).
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Who does it?
¤ OSI vs PSI
¤ Paris Club
¤ London Club
¤ International Institute of Finance
¤ ECB, EC, IMF (the Troika)
¤ Coordination problems
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How to do it?
Principles for Stable Capital Flows and Fair Debt Restructuring, 2013, Washington, DC: International Institute of Finance.
1. Transparency and Timely Flow of Information
2. Close Debtor-Creditor Dialogue and Cooperation to Avoid Restructuring
3. Good-Faith Actions
4. Fair Treatment
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Argentina and Greek Debt Restructuring
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Argentina 2000-2005 crisis buildup
¤ Asian crisis 1997-1998 => -10% price of Argentinean exports
¤ Russian crisis 1998 => Increase Argentinean borrowing costs
¤ Devaluation of Brazilian real 1999 => -20% price of exports
Parliament refuses budget cuts in 1999!
¤ Debt to GDP ratio 1998:
Canada 94%, USA 64%, Brazil 42%, Argentina 38%,
¤ Interest paid on external debt as % of exports 1995 => 21% 2001 => 36%
(Brazil 25%, Chile 9%)
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Argentinean debt crisis unravels
¤ $40 billion “blindaje” with international lenders, Dec. 2000
¤ Rates drop by 300bp
¤ Swap $4 billion bonds with longer maturities, Feb. 2001
¤ Mega-swap $30 billion at higher interest rates, June 2001 ¤ $8 billion deferred 2002 ¤ $16 billion deferred 2005 ¤ $8 billion IMF financing
¤ $55 billion bond swap with debt guarantees from financial tax, Nov. 2001
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Argentinean debt climax
¤ Downratings by agencies
¤ Spread 2000 bp
¤ Bank runs
¤ Corralito in Dec. 2001
¤ IMF suspends disbursement
¤ Political instability
¤ January 2002 defaults on $28 million lira-denominated bond
¤ Argentinean bonds trade at 80% discount
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Argentinean debt crisis management
¤ Peso devaluation in 2002
¤ IMF refinancing $21 billion 2003 UNCONDITIONAL
¤ GDP growth in 2003 and 2004
¤ Debt restructuring 2005: ¤ Bond exchange 35 cents per $
¤ Local law
¤ Holdouts – vulture funds.
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The Greek public debt crisis
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IMF projections of Greek program
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PSI and PSI+
¤ July 2011, 21% PV haircut
¤ October 2011, 80% haircut on PV and 50% on nominal
¤ Euro 130 billion assistance package
¤ Euro 100 billion debt write-off
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Bank of Cyprus exposure to GGB
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The greatest carry trade ever
¤ Acharya and Steffen, May 2013
¤ ECB repos and invest in periphery countries
¤ Bank of Cyprus ¤ Euro 3 billion repos T 1.25%
¤ 20% of bank profitability
¤ Sovereign default NOT in EBA stress tests!
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Who paid the Greek PSI
!! CY!! GR! Germany!! Belgium!! France!! Portugal!PSI!losses!!(!bil!!€)! 4,14! 24,3! 3,6! 2,1! 5,04! 0,42!%!GDP!! 23.03! 11.65! 0.14! 0.56! 0,25! 0,25!!
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Was Cyprus in trouble?
0 100 200 300 400 500 600 700
Ireland
Greece
Cyprus
Cyprus -post Greek PSI
Mature economies
Households NFC FINANCIAL Govt
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35
Cyprus Tipping Point: the banking sector?
Source¨ECB, 2009.
0%
500%
1000%
1500%
2000%
2500%
Κυπρος Ελλαδα Ιρλανδια Λουξεμβουργο Μαλτα Ολλανδια ΗνωμενοΒασιλειο
ΣΥΝΟΛΟ
ΕΝΕΡΓΗΤΙΚΟΥ
(%
ΤΟΥ
ΑΕΠ
)
Ξενα Υποκαταστηματα Ξενες Θυγατρικες Ντοπιες Τραπεζες
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New meaning to political risk
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Bail in
• Bad Politics in the Way of Good Policy • Haircut money laundering Russian oligarchs
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Basel Institute of Governance AML Index
Cyprus 4.93
Holland 5.03
Germany 5.80
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Financial Action Task Force
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Who gets a haircut?
68.4 billion in Jan. 2013
26-30 billion Russian money
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What does a haircut look like?
Russian “oligarchs” è Eurobankers
Wipe out wealth 30% GDP
Slash business activity 9%-25% GDP
Freeze 70% of domestic lending
Freeze working capital of SMEs
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And the GDP?
IMF projections pre-eurogroup -3.5%
IMF projections post-eurogroup
-9%
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Massive legal problems
Emergency Liquidity Assistance worth 9.2 billion
Extended to an apparently insolvent bank for 1 year
Passed on improperly to a solvent bank
Where was ECB?
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What does a haircut look like?
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Scenario Analysis for Optimal Debt Restructuring
¤ Multi-period
¤ Dynamic
¤ Snowball effects
¤ Risk adjusted sustainability analysis
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Exampled: Cyprus debt profile
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2013
2014
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Original debt Restructured debt
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Multi-period scenario tree
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Scenario arithmetic for fiscal dynamics
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Scenario arithmetic for debt sustainability
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Model equations
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Stress Debt
Sturzenegger and Zettelmeyer, 2006 Debt defaults and lessons from a decade of crises, MIT Press
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Risk profile of debt
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Conditional Debt-at-Risk
¤ Arzner et al. CVaR
¤ Uryasev and Rockafellar CVaR optimization
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IMF Stylized example
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2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021
Original debt Restructured debt
0
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2011 2012 2013 2014 2015 2016 2017 2018 2019
Original debt Restructured -no haircut Restructured -haircut
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IMF example re-profiled
6
7
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15
0,0 100,0 200,0 300,0 400,0 500,0 600,0 700,0 800,0 900,0
Tho
usa
nds
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Cyprus discretized example
0
1000
2000
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7000
2016 2023 2030
Original debt Restructured -no haircut Restructured -haircut
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Cyprus debt re-profiling
20
22
24
26
28
30
32
1 1,5 2 2,5 3 3,5 4 4,5 5
Exp
ec
ted
Co
st
Conditional VaR
M1 M2-NoH M2-H
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Debt to GDP for re-profiled debt
5
10
15
20
25
30
0 0,5 1 1,5 2 2,5 3 3,5 4
Exp
ec
ted
Co
st
Conditional VaR
M0 M1 M2-NoH M2-H
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European Stability Bonds
¤ Blue bonds-red bonds
¤ Debt redemption fund
61
Debt/GDP ratio
Debt/GDP ratio
Borrowing rate
Borrowing rate
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European Stability Bonds
¤ Pool sovereign bonds and collateralize ¤ European Safe Bonds –ESBies
¤ European Junior Bonds –EJBies
¤ ESBies have no country risk
¤ ESBies create reserve currency
¤ Flight from EJBies to ESBies
¤ No EU institutional or Treaty modification
62
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European Stability Bonds
Suspiciously similar to CMOs
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The Greek debt profile with eurobonds
1150
1250
1350
1450
1550
1650
1750
1850
1950
1150
1250
1350
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1550
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1750
0 20 40 60 80 100 120
Exp
ec
ted
Co
st
Cost-at-Risk
Greece with Eu-bonds Germany Greece
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Conclusions
¤ Debt restructuring is costly
¤ Debt restructuring is mutually beneficial to debtors and creditors
¤ Need for better debt restructuring technology
¤ Risk adjusted
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My own papers on this
¤ Cyprus debt. The perfect crisis and a way forward http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2233239
¤ Fairness and reflexivity in the Cyprus banking crisis http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2409284
¤ With Andrea Consiglio Risk profiles for sovereign debt restructuring (in preparation).