Lee C. Buchheit & G. Mitu Gulati (from Cleary Gottlieb Steen & Hamilton (New York) and Duke University Law School, respectively) have written a thorough analysis of Venezuela’s impending day of financial reckoning, concluding that a debt restructuring of some sort is inevitable, as the social costs of continuing debt service while curtailing imports are becoming unbearable.
The authors’ outlook is not very optimistic:
Napoleon’s invasion of Russia in 1812 was a large undertaking.
Restructuring Venezuela’s public sector debt will be a very large undertaking.
Venezuela is on track to be the biggest and messiest sovereign debt restructuring since Argentina’s ~$100 billion default in 2001. It will also be the first case study of what implications the just recently ended 15 year long Argentinian holdout saga will have for future sovereign debt restructrurings – a protracted horror story that Venezuela will seek to avoid at all costs.
In size a Venezuelan restructruring is likely to rival Argentina, even if the precise numbers are hard to come by:
In aggregate, the claims almost certainly exceed $100 billion. Approximately $60 billion of this is bond indebtedness of the Republic of Venezuela and PDVSA (roughly $35 billion owed by the Republic and $25 billion by PDVSA).8 In addition, there are obligations to unpaid suppliers, involuntary owners (like the airlines) of trapped Bolivar deposits, and holders of arbitration awards against the Republic.9 Finally, significant amounts are owed by PDVSA to China and Russia under what have been dubbed oil-for-loans deals
So why couldn’t Venezuela just stop paying the foreign “neo-imperialist” creditors one may ask? The answer it would seem, is that apart from the Bolivarian-Utopian rhetoric, even the Maduro regime is constrained by economic realities:
- The Maduro regime needs to keep oil revenues flowing in
- Approximately 75% of Venezuela’s oil revenue is reported to come from the US – making the country extremely vulnerable to threat of US sanctions
- Most of Venezuela’s/PDVSA’s debts are governed by New York law.
Ergo, the Chavistas will be forced to play by the Imperialists’ rules, or they will financially suffocate themselves. As the authors state:
The current administration’s policy of full debt service appears to be driven by a fear that a default, particularly a default by PDVSA, might entitle creditors to seize Venezuelan oil shipments or intercept payments from buyers of that oil. The prime directive in a restructuring of PDVSA’s external (New York lawgoverned) bonds will therefore be to ensure that any holdout creditors will not be in a position to interfere with PDVSA’s ability to sell oil and receive the cash proceeds from those sales.
Buchheit and Gulati see three key questions:
- Will the restructuring cover both debts of the Republic of
Venezuela and PDVSA, or only one of them?
- Will the transaction call for principal haircuts, or only a
milder “reprofiling” of maturities?
- Will the holders of non-debt claims (such as ICSID
arbitration award holders) be invited to participate?
On top the Argentinian precedent is causing headaches on how to mitigate a holdout drama:
Venezuela will not be able to view the prospect of holdout creditors with the same equanimity that Argentina showed in 2005 at the time of that country’s bond restructuring. The mischief that litigating holdout creditors can cause in Venezuela is considerably greater than Argentina ever faced. The trick will be in finding ways to discourage prospective holdouts from holding out and to defang the legal threat posed by those who persist in declining an offer to restructure.
Complicating the picture is the fact that while most Venezuelan Republic bonds contain Collective Action Clauses (CAC), the PDVSA bonds do not. Still, contrary to consensus, the authors believe that restructuring PDVSA bonds may be easier, and less prone to holdout behavior than Republic bonds.
Crucial to what extent and mix of principal haircuts/maturity extensions/coupon reductions will be required, is the shape and form of the economic adjustment programme the authorities will/or be forced to implement.
A country’s debt capacity is dependent on its economic policies. With better policies a country can carry more debt. But what will be the correct assumptions in the Venezuelan exercise?
It will be difficult at the outset of this restructuring to know what level of public debt Venezuela can reasonably be expected to carry. If the assessment were made right now, the answer would be deeply pessimistic. But “right now” is, one hopes, the nadir of the country’s economic fortunes. It does not make sense to run a debt sustainability analysis with the past two decades of economic mismanagement as the baseline. The question ought to be what level of debt can the country carry assuming a rigorous economic adjustment program and renewed support from the international community.
But how realistic is it that the Maduro regime suddenly will change its ways. Not very. The authors thus quite reasonably conclude that a home-grown economic adjustment programme wil not be credible. That basically leaves only one option: an IMF led adjustment programme, despite Caracas’ acrimonious relationship with the Fund.
It is noteworthy that the authors state that: “As politically unpopular as it may be,
we believe that the next (emphasis mine) administration will need to seek IMF assistance,” which implies that a debt restructuring must/will be accompanied or preceded by a change of government. The important question that leaves on the table is of course when and how the Maduro government will end and what will replace it.
The only thing that is safe to say is that the Venezuelan debt story will not be over any time soon.