Sovereign Debt Restructuring Mechanisms (SDRM) starting with salvaging and not with preventing, are moral hazards

Sir, Elaine Moore’s when reporting on Sovereign Debt Restructurings Mechanisms quotes Anne Krueger with: “Government should be able to declare bankruptcy, just as companies do. Instead of bailouts and lost decades of austerity, they should be able to wipe the slate clean and start again.” “Economist in a hurry” August 8.

“No!” if it means irresponsible governments will find it easier to start from clean slates

“No!” if it means irresponsible creditors will be bundled together with responsible ones.

“Yes!” if it means responsible governments will have a chance to restart their country.

“Yes!” if it means odious creditors will be required to assume the largest share of sacrifices.

And for the latter to happen, nothing better than assuring that any Sovereign Debt Restructurings Mechanism developed, diminishes the possibilities of being needed.

In this respect I believe any acceptable SDRM should begin with:

First and foremost by eliminating all incentives that can help governments contract too much debt… like banks being allowed to hold much less capital when lending to sovereigns than when lending to citizens.

And then by defining clearly what, when compared to ordinary credit to the public sector, should be deemed as odious credit. For instance, credit not awarded in a transparent way, or awarded when it was clear that the resulting debt might not be sustainable, and was therefore of speculative nature, should not receive the same treatment in a SDRM, as public credit awarded transparently and when there was no doubt about the sovereigns capacity to serve it.

Anne Krueger holds “If you get to a stage where a country’s debt is so large that it cannot grow, then you need to rethink”… and that to me, as an ordinary citizen, is best done by thinking and rethinking about how it landed itself in such a mess.

PS. The article ends quoting Krueger with “And there will be a next crisis, though where it comes from is likely going to take everyone by surprise”. If only she could convince our bank regulators of that. They still believe that the unexpected problems, for which banks need to hold capital, should be based on the expected problems derived from credit risk.

@PerKurowski