“At Novosibirsk Transit Prison in 1945 they greeted the prisoners with a roll call based on cases. ‘So and so! Article 58-1a, 25 years.’ The chief of the convoy was curious: ‘What did you get that for?’ ‘For nothing at all.’ ‘You are lying. The sentence for nothing at all is 10 years.’”
The Gulag Archipelago, 1968
Western bond investors have had nothing at all to do with creating Ukraine’s current problems, so it seems only reasonable that their money will be locked up for just a few more years, rather than forever. If they are lucky, it might not even be 10 years; perhaps five or seven extra years will be handed down. This is all part of the rescue plan that is being submitted to the board of the International Monetary Fund.
I am not, of course, referring to all foreign creditors with claims supposedly enforceable under English or other European law codes. Russia has $3bn in well-documented, securitised loans to Ukraine that mature in December. Those may even be paid early, if the Russians want to use Ukraine’s now-excessive debt to gross domestic product ratio to force an acceleration of their claim.
The good news about the Russian position on the Ukraine bailout is that the Russians will not stand in the way of the IMF putting up tens of billions in new financing. Nor are they likely to try to act as “holdouts” among Ukraine’s forex-denominated bondholders. No, in the words of Anders Aslund, an economist and adviser to the Ukrainian government: “Russia has taken the attitude that it’s nice that you finance us.” Thoughtfully, President Putin has already pointed to the use of the Ukrainian payment at par: it will be part of the Russian government’s own national economic stimulus programme.
There is, though, an apparent split between what the IMF and western governments believe can be squeezed out of the claims of the current bondholders, and what the bondholders themselves are willing, or even able, to offer. This should not be surprising; on one side are macroeconomists, politicians and diplomats, on the other are portfolio managers and lawyers.
The differences in culture and language between the two camps could be worked out over time, but there is not a lot of time. The IMF plan to refinance Ukraine, supposedly completed Friday, needs to be submitted to the fund’s board for at least two weeks of consideration. The board is expected to meet to consider the plan later this month, then there another couple of weeks are required to secure the agreed resources.
While the US bilateral contribution, which is now intended to be $3bn, but which could go as high as $5bn, is expected to go through Congress and the White House with rare bipartisan agreement, those politicians and their European counterparts want to see the private sector hit up as well.
As Douglas Rediker, a former US representative to the IMF, says: “The IMF can lend as long as the programme is sustainable and there is no financing gap. For the gap [between the country’s requirements and official sector funding], you need financing assurances.”
Those “assurances” should come to about $8bn out of Ukraine’s total international private bonded debt of about $17bn. Call it a 50 per cent haircut. Easy to say. Harder to do.
Officialdom’s consensus is that this sort of quick, brutal treatment will be much easier in Ukraine’s case than it was, for, say, Argentina.
The problem is that the official sector economists and policy people would seem to be overestimating just how concentrated the Ukrainian bondholdings really are, and how difficult it will be to avoid creating a minority of 25 per cent that could block a deal under the now-standard collective action clauses. Yes, it is well publicised that Franklin Templeton has a huge, as in 40 per cent, position in the 2017 $2.6bn bond maturity. But according to some Street calculations, the five largest holders of the $500m in 2015 bonds account for less than a third of the issue. Maybe a handful of large asset managers can be leaned on, but many of the smaller holders will want persuasion, and better terms than a diktat from the IMF.
Given that Ukraine is down to (maybe) a bit under $6.5 bn in reserves, and will need something on the order of $40bn in external money to get through the next couple of years, speed, rather than hardline litigation, is of the essence.
One approach that might attract a consensus among bondholders for a quick exchange would be a reprofiling, or maturity extension, that would amount, in present value terms, to a 65-75 per cent of par value haircut, but that would allow for interest in the first three years or so to “PIK”, that is, be paid in kind with more paper. This would relieve the pressure on cash flow for the early years, which will be the most difficult.
Ukraine’s formal negotiations with the bondholders are only beginning, at the end of the talks with IMF staff. The country, and its western official lenders, do not have much time to get their negotiating position, and mushy announcement promises, in order. A fast deal will have to be a consensual deal.
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