Bondholder Proposals: Decline and Defer

KEY OUTCOME:

The Sri Lankan government must turn down the Bondholders’ April Proposal and defer conclusive negotiations to the forthcoming government, duly elected by the people.  The government’s proposal also falls short of meeting the needs of the people or providing a sustainable solution to the debt crisis. 

OVERVIEW: ²  

• The bondholder proposal remains tethered to the dollar instead of being anchored to Sri Lanka’s actual repayment capabilities. 
• This connection disregards the country’s unique economic circumstances and jeopardises its ability to manage debt sustainably without at least a 60% haircut. ³
• A sustainable solution to the debt crisis must be rooted in addressing the pressing needs of the populace, safeguarding against the reoccurrence of similar crises. 
• The proposed terms exhibit a troubling asymmetry in payoffs, disproportionately favouring bondholders at the expense of various stakeholders. This lop-sidedness not only undermines fairness but also exacerbates the already precarious financial situation for Sri Lanka.
• The IMF’s Governance Diagnostic Assessment has glaringly highlighted corruption, governance deficiencies, and mismanagement within the country. Given these circumstances, pressuring the current administration to rush negotiations before elections would be imprudent.

KEY REASONS TO DEFER AND DECLINE:

TETHERED TO THE DOLLAR

• Not linked to Sri Lanka’s external repayment capacity.
• Disconnected from $ export proceeds, capital inflows and reserves.
• An inflated exchange rate raises $ GDP but makes external repayments harder
• Works against the needed trade surpluses
• Bonds that are not in LKR rupees are risky to Sri Lanka.

MANAGE DEBT SUSTAINABLY

• Structural flaw in the IMF market access debt sustainability framework did not set an independent target for external debt nor did it propose ‘non-debt creating’ inflows to restore debt sustainability.
• External debt is rising because of Sri Lankan loans from the IMF to build reserves and because of loans from Multilateral Development Banks for financing budget.
• State contingent instruments are used in a way that increases the risk of future default.
• If GDP > $90 billion in ‘25 to ’27 interest payments would end up higher than on old bonds.
• The proposal falls well short of a 60% haircut from external creditors IMF Program originally envisaged. ³

DOES NOT MEET NEEDS OF THE PEOPLE:

• 24% of the Sri Lankan population live in poverty (World Bank 2023).
• Only 0.6% of GDP spent on social safety net.
• 4.5% of GDP (33% of government revenue) on foreign debt servicing.
• 4% interest rate on debt arrears at times of austerity.
• Under 28% haircut from Bondholders (just 7% if GDP grows 5.3% until 2028) 
• Austerity and conditionalities are increasing people’s hardships.
• Further financialisation of sovereign debt crisis damaging people’s well-being.
• Macro-linked bonds and Governance Bonds simply exploit IMF’s Debt Sustainability Analysis, amplifying flaws in its financing programme.
• The proposed new bonds are not directly tied to directly improving people’s well-being transparently or measurably.

ASYMMETRY:

• The envisioned restructuring unfairly prioritises the interests of Sri Lanka’s bondholders, neglecting the welfare of its citizens, pension fund beneficiaries and bilateral lenders.  
• More upside benefits for bondholders than downside protection for Sri Lanka.
• Less debt reduction than meets the eye at the end of the interest capitalisation period. 
• No improvement in debt payment capacity but playoffs on the IMF’s flawed fiscal-only debt metric. 
• Bondholders want almost all the increase in foreign exchange debt service capacity over other creditors.
• Interest rate rises to 8.2% for bondholders when GDP reaches $ 96 billion.
• Interest rate 2% for bi-laterals but up to 9.75% for bondholders (after 2033).
• Maturity extension to 2042 for bilateral but up to 2038 for bondholders.
• Upfront fee of 1.8% for bondholders for restructuring debt.
• Overall Net Present Value levels higher for Bondholders (no equivalence).
• 9.75% Interest rate for Bondholders when GDP grows over 5.3%.
• Local pension funds are bearing a larger burden than bondholders.
  • No interest rate increases for pension funds even when GDP grows)
  • Interest rate cut from 14.2% to 9.7% during the Domestic Debt Optimisation (DDO) process for pensions.
  • Equivalent to 3% interest rate for pension funds (with inflation 5% and tax 14% )

CORRUPTION, GOVERNANCE DEFICIENCIES AND MISMANAGEMENT:

• The Sri Lankan government has failed to meet all the conditions of the IMF Governance Diagnostic Assessment.
• The administrative shortcomings still exist and there is inadequate transparency on Sri Lanka’s clear red lines or clarity on who is directing the paid consultants, in this instance Lazard and Clifford Chance, in the restructuring negotiations. 
• Bondholders, who knowingly lent to governments with a track record of poor governance, should bear a commensurate share of the losses, considering they charged a risk premium for the loans.  
• There must be a decisive shift away from rewarding reckless lending practices and disregarding odious debt burdens particularly as there is inadequate transparency on whether local politicians or politically connected persons benefited from the ISBs deals.
• Other countries have obtained inadequate but better deals.  For instance, Argentina bondholders received over 60% haircut vs 28% for Sri Lanka.  Greece’s bondholder’s haircut was nearly 50% of GDP; and Zambia’s debt repayment as per percentage of GDP was 14% vs Sri Lanka’s peak, which is 29%.