Restructuring Government Debt Under Local Law: The Greek Experience and Implications for Investor Protection

In contrast to corporations or private individuals, States in financial distress are confronted with a unique legal predicament. In the absence of a bankruptcy procedure, sovereign borrowers must find ways of convincing or, put more bluntly, cajoling their creditors into giving debt relief. The (legal) design of any sovereign debt restructuring is thus informed by two paramount goals: (i) re-establishing debt sustainability; and (ii) achieving the highest possible level of (voluntary) creditor participation. The debt crisis in Greece was no exception. After teetering on the verge of insolvency for two years, Greece implemented the biggest sovereign debt restructuring in history, swapping private bonds with a face value of roughly €205 billion. The technique applied by the Greek government to facilitate this gigantic debt restructuring was both simple and ingenious.

As proposed in a seminal paper by Buchheit and Gulati (2010), the Greek government exploited the fact that the bulk of Greek debt (roughly 86% of privately-held securities) was issued under Greek law. Thus, instead of outright repudiating its debts like, for instance, Argentina, the Greek Parliament retroactively inserted collective action clauses (‘CACs’) into Greek bonds by virtue of legislation. CACs – which are standard in most emerging-market bond issuances – enable a (super-)majority of investors to approve a restructuring deal against a minority of uncooperative hold-outs, thereby substantially increasing the overall participation threshold. However, the Greek ‘Retrofit’ was highly contentious. Thousands of disgruntled bondholders were ‘crammed down’ by big institutional investors, and filed suits in courts across different jurisdictions demanding compensation for the losses suffered.

In my recent paper, ‘Restructuring Government Debt Under Local Law: The Greek Experience and Implications for Investor Protection’, I shed light on these legal challenges. The first stage of the paper provides an unprecedented comparative legal analysis in this respect, inter alia, reviewing litigation in Austrian, German and Greek courts, investment arbitration before the International Centre for the Settlement of Investment Disputes (‘ICSID’) and actions in the European Court of Human Rights (‘ECtHR’). Five years down the road, the Greek PSI of 2012 and its legal design have essentially been vindicated by the courts, leaving bondholders empty-handed.

Austrian and German courts have dismissed bondholder claims on sovereign immunity and jurisdictional grounds. The courts have held that in the absence of explicit choice of forum clauses, the Brussels I Regulation confers jurisdiction only on the debtor state’s courts, hence Greek courts. While the Greek judiciary reviewed the alleged expropriation of bondholders on substantive legal grounds, the country’s highest court, the Council of State, concluded that the CAC Retrofit was an adequate measure to avert an imminent insolvency. The responsible tribunal at the ICISD, too, shrugged off investors’ allegations that Greece violated international investment law, noting that the applicable (Slovakia-Greece) bilateral investment treaty did not explicitly protect investments in Greek government debt securities.

However, and most importantly, the ECtHR, which holds the monopoly of interpreting the European Convention of Human Rights (‘ECHR’), stated in its seminal decision Mamatas and Others v. Greece that, ‘the forcible participation of the applicants in the PSI [(Private Sector Involvement)] programme did not affect the proportionality of the interference.’ Notwithstanding the Greek government’s interference with the bondholders’ property rights through the retroactive insertion of CACs, the Greek debt management operations pursued a legitimate public interest aim, ie avoiding a chaotic default. The inclusion of CACs was thus not only necessary, but also proportionate to achieve this aim, for it resulted in a reduction rather than an extinguishment of the bondholders’ claims.

The second stage of the paper discusses the potential implications these legal precedents may have for future debt restructuring or redenomination operations in European countries. Rising populism in major Eurozone economies has sparked investors’ fears that states may restructure or redenominate their outstanding debts – the bulk of which, as was the case in Greece, are governed by the issuer’s domestic laws. By mapping three potential debt restructuring scenarios with the findings in Mamatas and Others v. Greece, the paper seeks to delineate the legal boundaries within which Eurozone countries (which have all ratified the ECHR) may cut their public debt. I argue that a Greek-style Retrofit remains a legally feasible option to restructure domestic law bonds, provided that:

1. the bonds’ market value has significantly deteriorated;
2. the measure is necessary to forestall imminent default; and
3. the haircut does not place an excessive burden on the individual investor.

Crucially, the ECtHR’s emphasis on the requirement of imminent financial peril to justify an interference with bondholders’ rights is likely to bar politically motivated debt restructurings or redenomination measures if they are not, at the same time, economically warranted.

Sebastian Grund is a PhD Candidate at the University of Vienna.