Establishing a Market for Securitized LDC Debt: Feasibility and Viability

Abstract

In principle, there is no compelling reason for any nation to pay its debts. National sovereignty precludes a creditor nation from attaching assets within the debtor nation’s borders and a poor nation usually has few assets outside of its boundaries. In practice, nations do pay their debts. Our paper explores the developing literature on the subject and concludes that debtor nations pay debts because of a combination of loss of future borrowing power and the penalty of loss of trade with other countries. This, of course, effectively limits a debtor nation’s creditors to its trading partners. In addition, the penalty, when imposed, does not have the effect of raising capital for debt payment. Recently, the G8 have proposed debt forgiveness for the poorest of the developing countries. While this may be a good first step in helping these countries, it does not address the issue of their continuing need for outside capital. This paper proposes the creation of a special purpose entity (SPE) under the auspices of the International Monetary Fund (IMF) that would guarantee bond issuances by developing nations, package them in relatively small denominations of $50,000 - $100,000 US, and auction them to the public. Should a nation fail to pay its debt the SPE may raise funds through a punitive tariff on all exports from the developing country, administered by all nations that are members of the IMF. Data used in this paper were drawn from two well known sources, United States Government SPEs and the most recent World Bank Gross Domestic Product reports on all developing countries, to illustrate the feasibility and viability of the proposed Sovereign Borrowing entity (SBE). Examination of this data appears to indicate that debt restructuring by sovereign nations may actually harm the countries’ GDP while a tariff may be better tolerated in harsh economic times.

Keywords: sovereign debt, bankruptcy, default, debt restructuring, IMF, IBRD

JEL Classification: F18, F34