Debt Restructuring

Conversation with William (Bill) White

Note: This is an edited transcript of a wide-ranging conversation I had with Bill in April 2013 over coffee in Hong Kong 

Sony: This is Sony Kapoor of Re-Define talking to Bill White of BIS fame. He needs no further introduction. Bill, we are in this global situation where there is a huge amount debt in the system and central banks have flooded the system with money. At the same time, OECD countries are facing a structural slow-down of which the demographic time bomb is a part. They also have the highest levels of public and private debt. Simultaneously, power in global governance structures is starting to shift towards the East. Not to mention recent ructions in emerging markets.

Given that we are facing the triple challenge of the changes in governance, the structural break in growth rates, and unprecedented levels of credit and debt, particularly in OECD economies, how does the landscape look going forward? What is the best we can hope for?

Bill: To be honest, the landscape looks rather scary. Clearly, when you talk about this credit bubble we are at the end in the advanced markets, of a very long period of excessive credit creation. This has now crept over into the emerging markets as well. I think that in a certain way they have inherited it, through more or less the fixed exchange rate system, the imbalances of the advanced market economies; we have a global problem here. It is, however, most obvious in many of the advanced market economies.

So, we have a problem. Now the question is, what do we do to deal with the problem? I do not think that the quick fix, for example, the idea that you can use base money to expand government spending in a cost-less manner, or quantitative easing. I think these quick macro-fixes really are totally illusionary as a general solution. I believe that what we do have to focus on is the search for things that will actually work.

The Spanish Bailout, the Eurocrisis & the myth of Seniority

The Spanish bailout has triggered a big ongoing debate on the issue of seniority for public creditors. Certain commentators and market actors claim that it is because the European Stability Mechanism (ESM) sees itself as a preferred creditor that the announcement of a Spanish bailout has led to rising spreads. They say that seniority means that once the ESM comes in, it reduces the effective claims of the private bondholders in the event of a restructuring.

This piece exposes the flaws in this thinking both in the general case and more particularly in the case of Spain. We conclude that if the EU wants to rescue Spain, the trick is not to remove seniority from the ESM but 1) to remove all uncertainties around the future of the Eurozone 2) make conditionality more growth friendly 3) channel the bailout directly to needy banks without going through the sovereign. 

EU Crisis Management Paper for the European Parliament

A growing consensus of analysts and informed commentators have criticized both the EU’s handling of the growing sovereign crisis in the Euro area as well as its proposed plans for future reform supposedly designed to prevent a recurrence of this crisis. There is an urgent need to change course.

Our latest paper (download here) offers several new suggestions on how best to 1) institutionalize a successful and credible crisis management response in the EU in the short and long term 2) improve the existing European Financial Stability Facility 3) construct a permanent European Stabilization Mechanism.

Comments - Proposals on Bank Bondholder Bail Ins and Haircuts

A welcome step

“Throughout this crisis, EU governments put the interests of bank bondholders over those of taxpayers. This has eroded market discipline, imposed unnecessary and unfair burdens on EU taxpayers and shielded bondholders from the consequences of the risks they undertook. The Commissions’ proposals today will help draw a line under this costly policy mistake.”

“The crisis exposed the lack of a fair, predictable and market stabilizing burden sharing regime for both sovereign and bank bondholders. This proposal plugs a part of that gap.”

“A bondholder bail-in regime, properly implemented, can be good for financial stability, taxpayers and even for bondholders themselves if it protects against value destroying bank runs and bankruptcy.”

“Proposals to bail in or haircut bank bondholders can help 1) improve market discipline 2) bring about fairer burden sharing 3) protect taxpayers 4) stabilize the EU financial system.”

Restructure Debts - A Shadow Fiscal Union is not the Way

Each day seems to bring a new idea that proponents claim will get us out of the crisis. No matter which of these policy paths politicians eventually choose they are likely to find it blocked by neither Greece nor Ireland being able to repay all of their outstanding debts. The way out can only be cleared by a decisive restructuring of these debts – the sooner the better.

The EU is at a crossroads. One way is the high road towards a fiscal union and the low road takes us back to each state fending for itself, the paradigm that prevailed before Greece was ‘rescued’. Euro-federalists have suggested everything from minimalist E-bonds to a complete fiscal union. Sceptics have called for kicking troubled countries out of the Euro zone.

Political expediency and economic logic rules out such a break up and political stalemate and public opinion stand in the way of a fully fledged fiscal union. The only feasible option lies in the middle. Since the announcement of the Greek aid package, the EU seems to be moving along this mid-path towards a 'shadow fiscal union'.