BREAKING THE IMPASSE: A TWO-PRONGED APPROACH FOR RESOLVING SOVEREIGN DEBT HOLDOUT DISPUTES

Transcription

1 BREAKING THE IMPASSE: A TWO-PRONGED APPROACH FOR RESOLVING SOVEREIGN DEBT HOLDOUT DISPUTES Alexander Shapos* ABSTRACT Sovereign debt holdout disputes implicate billions of dollars. For nearly a decade, one such dispute has led to a de facto embargo on Argentina as well as an inability for investment funds to enforce multibillion-dollar judgments. Thus, it is significantly in the interests of both future sovereign bond issuers and future creditors to preemptively avoid unproductive impasses. But with no existing formal bankruptcy regime, sovereigns are left to litigate, arbitrate, or negotiate their debt disputes. This Note proposes that litigation is an inappropriate remedy to resolve such disputes and instead, it proposes a two-pronged approach for preventing and resolving disputes. The first prong proposes that sovereigns consider including mandatory arbitration clauses in primary issues of indebtedness. The second prong proposes negotiation strategies to induce greater participation in debt restructurings. These negotiation strategies include omitting RUFO Clauses from exchange bonds and issuing a new type of exchange bond a convertible sovereign bond. I. INTRODUCTION While sovereign borrowing is nothing new, 1 our story begins in the 1970s when commercial banks began lending to sovereigns in emerging markets 2 in Latin America. 3 In the 1980s, various economic factors prevented several Latin American nations from servicing their loan obligations to commercial banks in the United * Senior Articles Editor, Cardozo Journal of Conflict Resolution; B.Sc., 2011, University of Arizona; J.D. Candidate, 2016, Benjamin N. Cardozo School of Law. The author thanks Professor David Carlson, the Journal s staff, and the author s family for their support and guidance. 1 John Muse-Fisher, Comment, Starving the Vultures: NML Capital v. Republic of Argentina and Solutions to the Problem of Distress-Debt Funds, 102 CALIF. L. REV. 1671, 1679 (2014). 2 Emerging market refers to developing economies. Emerging Market Bonds, PIMCO (Mar. 2012), 3 Philip J. Power, Sovereign Debt: The Rise of the Secondary Market and its Implications for Future Restructurings, 64 FORDHAM L. REV. 2701, 2707 (1996). 243

2 244 CARDOZO J. OF CONFLICT RESOLUTION [Vol. 17:243 States. 4 Mexico defaulted first, followed by Bolivia, Argentina, Venezuela, and Brazil. 5 To remedy the problem, the United States adopted the Baker Plan. 6 The Baker Plan rescheduled payments and encouraged banks to provide bridge loans. 7 The Baker Plan failed because it created a constant flow of restructurings and bridge loans, but it did not cure sovereigns increasing debt burdens. 8 As a result, banks began trading swaps and the secondary market was born. 9 The secondary market continued to grow as corporations wanted to invest in emerging markets. 10 For example, corporations purchased sovereigns obligations through debt-equity swaps so they could obtain local currency to invest locally. 11 Fueled by secondary market demand and a need to ameliorate the ongoing debt crisis, the United States subsequently implemented the Brady Plan, proposed by Secretary of Treasury Nicholas Brady. The Brady Plan allowed commercial banks to securitize the loans into tradable bonds for the secondary markets. 12 The Brady Plan helped the emerging market sovereigns by enabling the banks to use the proceeds from the sales to retire the loans. 13 Opening the door to secondary markets changed the landscape for sovereign debt. For instance, if a secondary market is liquid, it reduces transaction costs, reduces risk to primary lenders, and provides price signals to sovereigns regarding their monetary 4 Pierre-Hugues Verdier, Credit Derivatives and the Sovereign Debt Restructuring Process 4 5 (Apr. 27, 2004) (unpublished LL.M. paper, Harvard Law School), Power, supra note 3, at Power, supra note 3, at Id. at The Baker Plan was proposed by U.S. Secretary of Treasury James Baker. Id. 7 Id. at A bridge loan is a short-term loan that enables a debtor to service current obligations. INVESTOPEDIA (last visited Nov. 25, 2014), bridgeloan.asp. 8 Power, supra note 3, at Id. at A swap occurs when one bank consolidates its loans into a bundle and sells it to another bank. Id. 10 Id. 11 Id. A debt-equity swap occurs when an investor purchases the sovereign s remaining loan obligations in exchange for domestic currency. The domestic currency enables the investor to invest locally. In addition to debt-equity swaps, some sovereigns engaged in debt-nature swaps. See Daniel H. Cole, Debt-Equity Conversions, Debt-for-Nature Swaps, and the Continuing World Debt Crisis, 30 COLUM. J. TRANSNAT L L. 57, 73 (1992). These swaps work similarly except the debt purchaser is a conservationist society, and the sovereign in turn agrees to reserve nature for conservation. Id. 12 Verdier, supra note 4, at 5 6; see Ross P. Buckley, The Facilitation of the Brady Plan: Emerging Markets Debt Trading from 1989 to 1993, 21 FORDHAM INT L L.J. 1802, 1804 (1998). 13 Verdier, supra note 4, at 5 6; see Buckley, supra note 12, at 1804.

3 2015] SOVEREIGN DEBT HOLDOUT DISPUTES 245 policies. 14 Consequently, emerging market debt became its own asset class. For example, globalization and financial liberalization in the 1990s increased the ability of foreigners to invest in secondary emerging debt markets. 15 This increase resulted in a shift from Brady Bonds in the 1980s to Yankees and Eurobonds in the 1990s, and it now includes various credit derivatives. 16 Notably, at of the end of 2014, the emerging market debt trading volume was US$ trillion. 17 The shift from loans to bonds resulted in various legal implications. Currently, foreign entities hold and foreign laws govern most sovereign bonds. 18 Usually, sovereigns issue bonds under New York or English law 19 because these laws are well developed and provide greater predictability in enforcement. 20 Under New York law, bonds are contracts. 21 Importantly, New York law provides that sovereign issuers may not amend payment terms of the instruments without the consent of each affected bondholder. 22 Accordingly, to restructure their debts, sovereign issuers under New York law cannot require creditors participate in restructur- 14 See Zsófia Árvai & Geoffrey Heenan, A Framework For Developing Secondary Markets for Government Securities 6 9 (Int l Monetary Fund Working Paper No. 174, 2008), See Anna Gelpern, Domestic Bonds, Credit Derivatives, and the Next Transformation of Sovereign Debt, 83 CHI.-KENT L. REV. 147, (2008); Katrina Lamb, Investing in Emerging Debt, INVESTOPEDIA (last visited Nov. 22, 2014), emerging-market-debt.asp. 16 PIMCO, supra note 2. See Gelpern, supra note 15 at 152. A Yankee bond is [a] bond denominated in U.S. dollars that is publicly issued in the U.S. by foreign banks and corporations. Yankee Bond, INVESTOPEDIA (last visited Jan. 19, 2015), terms/y/yankeebond.asp. A Eurobond is [a] bond issued in a currency other than the currency of the country or market in which it is issued. Eurobond, INVESTOPEDIA (last visited Jan. 19, 2015), 17 Jonathan Murno, EMTA Survey: 2014 Annual Emerging Markets Debt Trading at US$5.922 Trillion, TRADE ASSOCIATION FOR THE EMERGING MARKETS (Mar. 13, 2015), emta.org/workarea/downloadasset.aspx?id= Lee C. Buchheit & G. Mitu Gulati, Exit Consents in Sovereign Bond Exchanges, 48 UCLA L. REV. 59, 59 (2000). 19 Gelpern, supra note 15, at See id. at 158; see also Christopher C. Wheeler & Amir Attaran, Declawing the Vulture Funds: Rehabilitation of a Comity Defense in Sovereign Debt Litigation, 39 STAN. J. INT L L. 253, 259 (2003) (noting that most sovereign bonds issued in the United States are issued under New York Law). By 1996, more than seventy percent of these bonds were issued in United States Currency. See PIMCO, supra note 2. Today, however, most countries allow their currencies to float to buffer economic shocks. Id. 21 NML Capital, Ltd. v. Republic of Argentina, 699 F.3d 246, 257 (2d Cir. 2012), cert. denied, 134 S. Ct. 201 (2013); New York Life Ins. & Trust Co. v. Baker, 165 N.Y. 484, 492 (1905). 22 Buchheit & Gulati, supra note 18, at 59. The sovereigns amend payment terms such as the amount due and the date in which it s due.

4 246 CARDOZO J. OF CONFLICT RESOLUTION [Vol. 17:243 ings rather, they must ask. 23 Debt restructuring is an agreement between creditors and debtors to make repayment more feasible. 24 In a sovereign debt restructuring, private bondholders [are] asked to reduce or to reschedule their claims against a financially distressed sovereign that has sought official sector assistance. 25 One type of restructuring involves extending the maturities on bonds. 26 Another involves exchanging old bonds for cheaper, new bonds. 27 In either instance, a holdout problem can arise. Creditors may refuse to participate or hold out in a restructuring. 28 Creditors choose to hold out to obtain the original contract terms, which would result in more favorable payments. For example, a distressed sovereign debtor chooses to restructure. Then, some risk adverse bondholders sell their holdings to avoid risk of nonpayment or of receiving too small of a payment from the restructuring. When the bondholders sell, they must do so below face value to attract buyers. Seizing opportunity, certain sophisticated entities pejoratively known vulture funds have emerged to invest in distressed sovereign debt and to hold out in restructurings. 29 These funds purchase the bonds at a significant discount from the face value, and attempt use litigation to collect the full face value. 30 This Note does not attempt to advocate against holdouts, but acknowledges some of the policies against them. For instance, holdouts create a classic collective action problem. 31 This is because all creditors would receive larger payments if creditors unanimously chose to participate in restructuring. 32 Therefore, if a holdout succeeds, it receives a windfall to the detriment of the other bondholders. 33 In addition, a single holdout incentivizes others to defect. 34 While a sovereign might be able to afford to pay 23 Id. 24 What is Debt Restructuring?, BLACK S LAW DICTIONARY FREE ONLINE DICTIONARY (2d ed.), 25 Buchheit & Gulati, supra note 18, at Id. 27 Id. 28 See id. 29 See Wheeler & Attaran, supra note 20, at 254; see also What is Distressed Asset?, BLACK S LAW DICTIONARY FREE ONLINE DICTIONARY, (defining distressed assets as a security that features a sharply reduced value as a result of actual or potential losses created by an excess of credit risk, market risk, or liquidity risk). 30 Wheeler & Attaran, supra note 20, at Id. 32 Id. 33 Id. 34 Id.

5 2015] SOVEREIGN DEBT HOLDOUT DISPUTES 247 several holdouts, mass defections could pose a serious problem for the sovereign to service any of its debt. On the other hand, distressed debt investors provide liquidity in the secondary market, 35 and thus fulfill a necessary role. In addition, one could argue that parties should be held to their contractual obligations. In any event, holdout disputes delay productive use of capital when speedy resolution is imperative. This Note proposes a two-pronged approach for reducing the risk of a holdout dispute, and in the event of a holdout dispute, a more efficient mechanism for resolution. 36 Part II presents the background of holdout litigation over sovereign default using Argentina as an example. It uses Argentine litigation as an example because it is the most recent attempt at holdout dispute resolution over bonds issued under New York law. Part III argues holdout disputes are likely to continue. It contends that litigation only leads to an unproductive impasse despite the inclusion of Collective Action Clauses ( CACs ) in new issues of indebtedness. Then, it discusses the prospects of a sovereign bankruptcy regime, concluding that such a regime is unlikely to be established. Without success from litigation and without a formal sovereign bankruptcy regime, the Note then explores the prospects of negotiation. It describes the effects of the Rights Upon Future Offers ( RUFO ) clause a clause contained in exchange bonds issued by Argentina, which may have incentivized Argentina not to participate in settlement agreements with holdouts. Finally, the Part III investigates arbitration as a dispute resolution mechanism. To prevent future impasses, Part IV advocates that sovereigns consider including mandatory arbitration clauses in new issues of indebtedness. It also examines negotiating new terms to include in exchange bonds to increase creditor participation in restructurings. Specifically, it argues that parties omit RUFO clauses in exchange bond contracts, and it proposes sovereigns consider issuing convertible bonds as exchange bonds. 35 See Jill E. Fish & Caroline M. Gentile, Vultures or Vanguards?: The Role of Litigation in Sovereign Debt Restructuring, 53 EMORY L.J. 1043, 1047 (2004). 36 For simplicity, this Note generally assumes holdouts are not hedged. A hedged bondholder maintains an interest in credit default swaps ( CDS ). CDSs are derivative insurance contracts that pay CDS holders if a credit event occurs. Jon Hartley, Argentina s Default: Lessons Learned, What Happens Next, FORBES (Aug. 4, 2014), ley/2014/08/04/argentinas-default-lessons-learned-and-what-happens-next/3/. The International Swaps & Derivatives Association determined that the parties inability to reach a deal the impasse constituted a credit event. Id. Accordingly, an impasse could benefit hedged bondholders. See Yesterday Was Not Argentina s Day, BLOOMBERG VIEW (July 31, 2014),

6 248 CARDOZO J. OF CONFLICT RESOLUTION [Vol. 17:243 II. BACKGROUND A. The Problem With Litigation The problem with litigation is twofold. First, holdouts will obtain judgments, but will be unable enforce them due to the Foreign Sovereign Immunities Act. Second, sovereigns will be unable to restructure their debts. 37 The first part of this section provides the background of the Argentine holdout litigation. The Argentine holdout litigation serves as an excellent example because it illustrates the most recent New York law, and what each party can expect through contemporary litigation. The next section describes the Second Circuit s ratable payment interpretation of the pari passu clause a common clause found in sovereign bond contracts and how this interpretation makes it certain that holdouts will obtain judgments against sovereigns for their defaults. 1. Holdouts Can Obtain Judgments for Nonpayment i. Background on the Argentine Litigation Argentina began issuing the sovereign bonds in dispute under New York Law in Notably, these bonds were unsecured and unsubordinated, 39 meaning that the bonds were not backed by collateral and bondholders could expect to be paid equally with or before other creditors. In 2001, Argentina defaulted on the bonds, a default greater than $80 billion. 40 Since 2001, Argentina passed a moratorium preventing payments on both principal and interest on the bonds, and has annually renewed the moratorium. 41 The default and moratorium resulted in a wave of creditor lawsuits. 42 Subsequently, to reduce its liabilities, Argentina engaged in two restructurings, which led to more litigation. The first restruc- 37 See infra Section II.A.1.ii. 38 See NML Capital, Ltd. v. Republic of Argentina (Argentina I), 699 F.3d 246, 251 (2d Cir. 2012), cert denied, 134 S. Ct. 201 (2013). The 2012 Second Circuit decision is commonly known as Argentina I. The case was remanded to the Southern District of New York to clarify a payment formula for an injunction. Judge Thomas P. Greisa issued such order and both parties appealed. See NML Capital, Ltd. v. Republic of Argentina, 727 F.3d 230 (2d Cir. 2013), cert. denied, 134 S. Ct (2014). 39 See Argentina I, 699 F.3d at See id. 41 Id. 42 See, e.g., Lightwater Corp., Ltd. v. Republic of Argentina, No. 02-CV-3804 (TPG), 2003 WL (S.D.N.Y. Apr. 14, 2003); NML Capital, Ltd. v. Republic of Argentina, 2005 WL (S.D.N.Y. Mar. 31, 2005).

7 2015] SOVEREIGN DEBT HOLDOUT DISPUTES 249 turing began in 2005, and the second began in In the 2005 restructuring, even though Argentina offered to exchange the old bonds for new bonds at a low price of twenty-five to twenty-nine cents on the dollar, it attempted to induce creditor participation by stating in its prospectus that it had no intention of resuming payment on the old bonds. 44 In addition, it provided an incentive to potential exchange bondholders by including within the new bonds a RUFO clause, 45 which is discussed in detail in Part III. Argentina s plan worked to the extent that seventy-six percent of bondholders participated. 46 Further, Argentina promulgated a measure, called a Lock Law, which prevented Argentina from engaging in private settlements with creditors, and required Argentina to remove the bond listing from markets. 47 Argentina s actions resulted in further lawsuits for violations of the pari passu clause, which is described below. 48 To initiate the 2010 restructuring, which had substantially similar terms, Argentina temporarily suspended the Lock Law. 49 With an eye on preventing future holdout litigation on the exchange bonds, Argentina included within the exchange bond contracts a Collective Action Clause ( CAC ). 50 The CAC permit[s] Argentina to amend the terms of the bonds and to bind dissenting bondholders if a sufficient number of bondholders [2/3 to 3/4 of weighted votes] agree. 51 CACs are discussed in greater detail in Part III. ii. The Ratable Payment Interpretation of the Pari Passu Clause The holdouts ( NML ) sued the Republic of Argentina ( Argentina ) alleging breach of the pari passu clause, or Equal Treat- 43 Argentina I, 699 F.3d at See id. at The Republic of Argentina, Dec. 27, 2004, Bond Prospectus for Par Bonds Due Dec. 2038, Discount Bonds Due Dec. 2033, Quasi-Par Bonds Due Dec. 2045, GDP-Linked Securities That Expire in Dec. 2035, at S-18, 302/y04567e424b5.htm#tocpage. 46 See Argentina I, 699 F.3d at Id. 48 Id. at See id. at Id. at Argentina I, 699 F.3d at 253 (brackets added by author). In 2012 Greek restructuring, the original English Law bonds contained CACs with similar terms. See Jeromin Zettelmeyer, Christoph Trebesch & G. Mitu Gulati, Managing Hold-outs: The Case of the 2012 Greek Exchange, in SOVEREIGN DEBT MANAGEMENT (Rosa Lastra & Lee C. Buchheit eds., 2014).

8 250 CARDOZO J. OF CONFLICT RESOLUTION [Vol. 17:243 ment Provision of the bond contracts. 52 Until this suit ( Argentina I ), there was a dearth of United States or New York law providing a predictable interpretation of the pari passu clause in sovereign bond contracts. Interpretations of the pari passu clause which, in a well-established corporate law doctrine, prevents the legal subordination of debt have previously been the subject of scholarly controversy and conjecture in the context of sovereign debt. 53 Some scholars have characterized this commonly used clause as boilerplate. 54 As noted earlier, a substantial number of sovereign bonds are issued under New York State law. 55 But, most case law that interprets boilerplates in New York bond contracts is federal. 56 And, at the time of Argentina s default, there were no New York State or Federal cases interpreting the pari passu clause. 57 Generally, however, there are two radically different interpretations of pari passu. 58 First, under the classical interpretation, pari passu bonds rank equally with other subordinated debt. 59 The classical interpretation does not prohibit debtors from discriminating against unsecured creditors. 60 For Argentina, this would have meant that Argentina could choose to pay exchange bondholders without ratably paying holdouts. Second, under the ratable payment interpretation adopted by the Second Circuit in Argentina I, a debtor cannot lower the rank of its payments to any creditor. 61 Therefore, Argentina cannot pay exchange bondholders without also ratably paying old bondholders Argentina I, 699 F.3d at NML Capital, a vulture fund, was named the lead plaintiff in the case. The court consolidated the various actions naming NML as the lead plaintiff. NML brought additional lawsuits seeking discovery of third-party bank records to find attachable Argentine assets. Republic of Argentina v. NML Capital, Ltd (Argentina II), 134 S. Ct. 2250, 2251 (2014). 53 See Romain Zamour, Note, NML v. Argentina and the Ratable Payment Interpretation of the Pari Passu Clause, 38 YALE J. INT L L. ONLINE 55, 60 (2013). 54 See id. at 62 63; Georges Affaki, Revisiting the Pari Passu Clause, in SOVEREIGN DEBT MANAGEMENT, supra note 51, at Gelpern, supra note 15, at G. Mitu Gulati & Kenneth N. Lee, Sovereign Piracy, 56 BUS. LAW 635, 649 (2001). 57 Id. at Georges Affaki, Revisiting the Pari Passu Clause, in SOVEREIGN DEBT MANAGEMENT, supra note 51, at 39, Id. at Id. 61 See Argentina I, 699 F.3d at See Zamour, supra note 53, at 60.

9 2015] SOVEREIGN DEBT HOLDOUT DISPUTES 251 Some have argued the ratable payment interpretation on policy grounds is disastrous for future sovereign restructurings. 63 For instance, it is unlikely that holdouts bargained for the power conferred by the ratable payment interpretation. 64 This power incentivizes a lack of participation in restructurings, 65 which provides holdouts with bargaining leverage. Further, in an amicus curiae brief, the United States proclaimed that the Second Circuit s decision destabilizes the landscape of sovereign debt restructuring. 66 Additionally, others have argued that the interpretation of the clause might prohibit sovereign debtors from making necessary payments to lenders of last resort, such as the International Monetary Fund. 67 On the other hand, one might argue as a matter policy the necessity to uphold contractual expectations. 68 In any event, it is beyond the scope of this Note to discuss further the policy arguments concerning the ratable payment interpretation. At the time of this writing, the ratable payment interpretation remains good law within the Second Circuit. 69 Therefore, when issuing new pari passu bonds under New York law, sovereigns should expect a ratable payment interpretation in the event of a dispute. In Argentina I, the District Court held that Argentina breached the bond contract in two ways: (1) by paying exchange bondholders without paying the holdouts; and (2) when it enacted [the Lock Law] and [the Lock Law Suspension]. 70 As a result, the District Court awarded NML contractual damages and enjoined Argentina from paying exchange bondholders without ratably paying the holdouts. 71 The Second Circuit affirmed the injunction, and the Supreme Court denied certiorari. 72 Consequently, Argentina owes NML approximately $2.5 billion. 73 Thus, sovereigns including this common clause in their bond contracts run this risk of losing judgments in future holdout disputes. But, why would a sovereign continue to include the clause at all? To omit the clause 63 See id. at Gulati & Lee, supra note 56, at See Zamour, supra note 53, at Brief for the United States of America as Amicus Curiae in Support of The Republic of Argentina s Petition for Panel Rehearing and Rehearing En Banc at 3, NML Capital, Ltd. v. Republic of Argentina, cv(L) (2d Cir. Dec. 28, 2012), 2012 WL at *4. 67 See Affaki, supra note 58, at 39, See, e.g., Argentina I, 699 F.3d at See id. at Id. at Id. 72 Id. 73 Argentina II, 134 S. Ct. at 2253.

10 252 CARDOZO J. OF CONFLICT RESOLUTION [Vol. 17:243 might subordinate a series. Without a formal bankruptcy regime, the pari passu clause ensures parity among creditors meaning it discourages discriminatory treatment. 74 In addition, it might increase risk to creditors thereby increasing borrowing costs to issuers, and it also might reduce secondary market liquidity. 2. The Foreign Sovereign Immunities Act: Why Sovereign Debt Holdout Litigation Will Remain Unresolvable Holdouts will not be able to enforce their judgments in the United States because of the Foreign Sovereign Immunities Act ( FSIA ). Globally, sovereigns have long enjoyed immunity in the context of borrowing. 75 In the United States and in England, sovereigns enjoyed absolute immunity until the mid-twentieth century. 76 Under the doctrine of absolute immunity, courts could deny jurisdiction over a sovereign even if the sovereign had previously waived immunity. 77 The landscape in the United States changed in 1952 when the U.S. State Department altered its policy through the Tate Letter and limited the scope of sovereign immunity from absolute immunity to a restrictive immunity policy. 78 The restrictive immunity policy enabled creditors in the United States to take action against sovereigns commercial, but not public acts, and it also allowed sovereigns to waive their immunity. 79 In 1976, the United States codified the restrictive immunity policy with the enactment of the FSIA. 80 The FSIA removed the State Department from immunity determinations and placed that responsibility on the courts. 81 In litigation, sovereigns enjoy two types of immunity under the FSIA. 82 First, the FSIA provides that sovereigns are immune from 74 See Lee C. Buchheit, The Search for Intercreditor Parity, 8 L. & BUS. REV. AM. 73, 74 (2002). But cf. IMF, Strengthening the Contractual Framework to Address Collective Action Problems in Sovereign Debt Restructuring, Policy Report (Oct. 2014), al/np/pp/eng/2014/ pdf (proposing that sovereigns modify the clause to prevent a ratable payment interpretation). 75 See W. Mark C. Weidemaier, Sovereign Immunity and Sovereign Debt, 2014 U. ILL. L. REV. 67, 68 (2014). 76 Id. at Id. 78 Id. at Id. 80 See 28 U.S.C. 1605, 1610; Weidemaier, supra note 75, at Weidemaier, supra note 75, at 78 79; see 28 U.S.C It is important to note that the FSIA only applies within the United States. Creditors, therefore, may be able to enforce their judgments abroad. See Weidemaier, supra note 75, at 106.

11 2015] SOVEREIGN DEBT HOLDOUT DISPUTES 253 suit unless, among other factors, they waive immunity or the activity at issue is based upon a commercial activity carried on in the United States. 83 Second, with some exceptions, the FSIA immunizes from attachment sovereign assets. 84 Creditors, however, can still reach sovereign assets in the United States that are used for commercial activity upon which the claim is based, or any sovereign asset if the sovereign waives immunity from attachment. 85 In addition, the President may unilaterally waive sovereign immunity in the interest of national security. 86 Practically, the narrow exceptions to immunity under the FSIA do not equip bondholders with much to enforce their judgments against sovereigns. For example, sovereign assets used for commercial purposes in the United States are quickly spent. 87 Consequently, the FSIA leaves creditors at the wills of the sovereign debtors to waive their immunities. Distressed sovereigns, however, lack significant incentives to do so. As a result, sovereigns can use the futility of creditor enforcement as leverage to incentivize creditors to participate in restructurings. 88 Illustratively, U.S. sovereign bond funds note this risk in their prospectuses. For example, one such fund s prospectus states [t]he Fund invests in securities issued by or guaranteed by sovereign governments, which may be unable or unwilling to repay principal or interest when due. 89 After Argentina I, the holdouts remained unable to attach assets to satisfy their judgment. 90 In considering how to provide the holdouts with relief, and whether to affirm the District Court s injunctions, which are discussed below, the Second Circuit said, monetary damages are an ineffective remedy... [because] Argentina will simply refuse to pay any judgments. 91 The Second Cir- 83 See 28 U.S.C. 1605(a). 84 Id. at 1609, See id. at 1610(a)(2), (a)(1). 86 See id. at 1610(B)(3). 87 See Weidemaier, supra note 75, at When a party seeks to attach sovereign assets to satisfy its litigation judgment, the assets must be used for commercial purposes upon which the claim is based. 28 U.S.C. 1610(A)(2). 88 See Weidemaier, supra note 75, at ishares Sovereign Screened Global Bond Fund, inc. Form N-1A, UNITED STATES SECURI- TIES AND EXCHANGE COMMISSION (last visited Nov. 28, 2014), r/data/ / /d307517dn1a.htm, (emphasis added). 90 Argentina says no exchange bondholders have agreed to debt swap, FOX NEWS LATINO (Nov. 6, 2014), 91 See Argentina I, 699 F.3d 246, 262 (2d Cir. 2012).

12 254 CARDOZO J. OF CONFLICT RESOLUTION [Vol. 17:243 cuit went on to say that because Argentina would refuse to pay, ordering payment of monetary damages would not provide relief to NML. 92 Accordingly, the Second Circuit affirmed the District Court s order enjoining Argentina from paying holders of the Exchange Bonds without ratably paying holders of the old bonds. 93 Injunctions against sovereigns, however, have been the subject of contention. For example, some argue that injunctions impair comity. 94 This is because [i]t is rather presumptuous for a national court of one sovereign to attempt to dictate the behavior of another. 95 Conversely, some have noted that courts tend to hold back if an injunction would create a foreign affairs policy problem. 96 Another issue with injunctions is that they pose a risk for courts. For example, if a party fails to comply with an injunction without consequences, a court may lose its credibility. These risks call into question whether courts should even enter injunctions against foreign sovereigns. 97 The Southern District and Second Circuit, however, did not appear very concerned in this regard. Significantly, the courts did not stop with the first injunction. The District Court had little faith that Argentina would comply with the injunction and so it also enjoined third parties from aiding and abetting Argentina in any violation of the Order. 98 The injunction on third parties effectively imposes the risk of contempt sanctions on trustees, securities clearing houses, and payment systems around the world. 99 Put plainly, the District Court hoped to incentivize third parties to coerce Argentina s compliance an embargo of sorts. 100 The way the injunction works is by restricting Argentina s ability to fulfill other obligations. For instance, it prevents Argentina from using clearinghouses and other entities to process payments to the Exchange Bondholders. 101 Combined, both injunctions force Argentina to conduct transactions inef- 92 See id. 93 Id. at 265. Please note that the panel remanded the case to determine precisely how the formula will operate. 94 See W. Mark C. Weidemaier & Anna Gelpern, Injunctions in Sovereign Debt Litigation, 31 YALE J. ON REG. 189, 200 (2014). 95 See id. 96 See id. at See id. at Argentina I, 699 F.3d at See NML Capital, Ltd., 727 F.3d 230, 239 (2d Cir. 2013); Weidemaier & Gelpern, supra note 94, at See Weidemaier & Gelpern, supra note 94, at Id. at 198.

13 2015] SOVEREIGN DEBT HOLDOUT DISPUTES 255 ficiently, if at all. 102 In theory, this de facto embargo forces the sovereign to enter into a cost-benefit analysis of complying with the injunction if the cost of noncompliance exceeds the cost of compliance, then the sovereign will pay. 103 In practice, however, the rationale so far does not hold water. After more than a decade of litigation, NML has not succeeded in satisfying its judgment to any significant extent. More so, NML has gone to great lengths to attempt to secure assets. One example of the theory s failure is evidenced by NML s attempt in Ghanaian courts to secure an Argentine naval vessel, the ARA Libertad, which temporarily resulted in a nominal payout. 104 In addition, NML continued the treasure hunt by bringing another action in the Southern District of New York to attempt to attach assets held in the Federal Reserve Bank of New York by Argentina s Central Bank. 105 In the latter, the Second Circuit adopted a test that requires a plaintiff to rebut a presumption of immunity by showing that central bank property in the United States is held [for the bank s] own account. 106 NML failed to rebut the presumption. 107 With no success from these efforts, NML brought an action seeking third-party discovery of Argentina s extraterritorial assets ( Argentina II ). 108 Principally, NML wanted from banks that deal with Argentina documents that would enable it to identify Argentine assets that it could potentially attach. 109 Argentina challenged the subpoena under the FSIA, but the District Court held for NML. 110 The Second Circuit and the Supreme Court affirmed. 111 The Supreme Court distinguished FSIA asset immunity from Federal 102 See id. at Id. 104 Augustino Fontevecchia, The Real Story Of How A Hedge Fund Detained A Vessel In Ghana And Even Went For Argentina s Air Force One, FORBES (Oct. 5, 2012), The U.N. later ordered that NML return ARA Libertad to Argentina because it was a military vessel and immune from attachment. See Enthusiastic Welcome for Seized Ship, BBC NEWS (Jan. 10, 2013), NML Captial, Ltd. v. Banco Central de la Republica Argentina, 652 F.3d 172, 174 (2d Cir. 2011), cert. denied, 133 S. Ct. 23 (2012). 106 Id. at Id. at NML Capital, Ltd. v. Republic of Argentina, No. 03-CV-8845 (TPG), 2011 WL at *1 (S.D.N.Y. Sept. 2, 2011). 109 See Argentina II, 134 S. Ct. at NML Capital, Ltd., 2011 WL at * See EM Ltd. v. Republic of Argentina, 695 F.3d 201, 210 (2d Cir. 2012); Argentina II, 134 S. Ct. at 2258.

14 256 CARDOZO J. OF CONFLICT RESOLUTION [Vol. 17:243 Rule of Civil Procedure 69(a)(2), which permits discovery of thirdparty information relating to extraterritorial assets. 112 The decision evoked concern by some over the foreign policy implications. 113 But, will the decision help NML recover its judgment? NML may discover third-party documents relating to Argentina s extraterritorial assets to search for attachable assets, 114 but that does not mean NML will actually find success in attaching any. Accordingly, the Argentine litigation demonstrates the ineffectiveness of litigation as a forum for sovereign debt holdout dispute resolution. NML indicates that even an aggressive and persistent holdout will go through extraordinary efforts with little to show. With a judgment in hand, NML has resulted to scouring the far reaches of the Earth in search of clues that might lead to potential attachable assets to enforce its judgment. 115 Similarly, Argentina demonstrates that a recalcitrant sovereign can successfully avoid payment, but at the cost of economic viability. 116 For example, in early 2015, Argentina experienced high inflation, a recession, and decreased prices for its leading commodity. 117 With litigation out as a viable option for future sovereign issuers and creditors, other forums might prove more effective. III. DISCUSSION A. Collective Action Clauses Are an Unlikely Absolute Solution Even though the Second Circuit optimistically expressed the effectiveness of CACs at preventing holdout litigation, 118 CACs will likely not obviate completely the holdout litigation problem. 112 Argentina II, 134 S. Ct. at See, e.g., Case Comment, Foreign Sovereign Immunities Act of 1976 Postjudgment Discovery Republic of Argentina v. NML Capital, Ltd., 128 HARV. L. REV. 381 (2014) (discussing the formalistic approach taken by the Roberts Court, and its rejection of considering foreign affairs when interpreting the FSIA). 114 Argentina II, 134 S. Ct. at See id. at As of this writing, S&P rated Argentina s foreign currency selective default. Sovereigns Rating List, STANDARD & POOR S RATING SERVICE (last visited Feb. 3, 2015), dardandpoors.com/ratings/sovereigns/ratings-list/en/us/?subsectorcode=39&sectorid= &subSectorId= Mac Margolis, New Year Won t End Argentina Bond Mess, BLOOMBERGVIEW (Jan. 5, 2015), Argentina I, 699 F.3d at 253.

15 2015] SOVEREIGN DEBT HOLDOUT DISPUTES 257 As discussed above, if a quorum of bondholders is met, and a supermajority of those bondholders vote in favor of a restructuring, then the supermajority vote will bind all bondholders to participate in the restructuring, which prevents the possibility of a holdout dispute. 119 Several situations, however, render CACs ineffective. For example, many existing bond series do not contain CACs, so there is still the potential for holdout litigation over those series. 120 Additionally, CACs are not fully effective because they do not apply to other common sovereign debt instruments where there are potentials for holdout litigation. 121 In the context of new issues of indebtedness, certain situations may fail to trigger the CAC and therefore create an opportunity for holdout litigation. For example, economic factors might incentivize bondholders not to participate in restructuring, and thus the restructuring would fail to attract the requisite quorum of a supermajority of creditors. 122 The economic argument is two-fold. First, the current, ratable payment interpretation of the pari passu clause demonstrates that successful holdout litigation is possible. Therefore, if rational bondholders believe the reward of holding out is higher than the risk of loss through participation, they will choose to hold out. 123 Notably, holders of seventy-six percent of the bonds participated in Argentina s 2005 restructuring. 124 A supermajority consists of only roughly two thirds to three quarters of bondholders. 125 Had the original bonds contained CACs, bondholders participating in the restructuring would have barely constituted a supermajority. With the ratable payment interpretation on the books, it s a logical assumption that participation rates might drop below an amount required to create a quorum or a supermajority vote in favor of participation, thus rendering the CAC ineffective. Second, negative financial news would cause bondholders to divest their interests, and increasingly so with speculation of de- 119 Id. 120 See Lee Buccheit & Mitu Gulati, Sovereign Bonds and the Collective Will, 51 EMORY L.J. 1317, 1344 (2002) (describing the ability for creditors to gain a blocking position); Anna Gelpern, Sovereign Restructuring After NML v. Argentina: CACs Don t Make Pari Passu Go Away, CREDIT SLIPS (May 3, 2012, 10:38 AM), See Muse-Fisher, supra note 1 at 1703; Gelpern, supra note Muse-Fisher, supra note 1, at Id. 124 See Argentina I, 699 F.3d at Id. at 253.

16 258 CARDOZO J. OF CONFLICT RESOLUTION [Vol. 17:243 fault or a restructuring on the horizon. If hedge funds offer a price more attractive than the projected exchange bond prices, they might incentivize enough distressed bondholders to sell their interests to them and therefore prevent a quorum or supermajority vote. 126 Of course, the funds would undergo a substantial risk taking on such a large interest in distressed debt. But as discussed throughout this Note, NML has demonstrated a lack of risk of aversion in pursuing decade-long litigation. In addition to the economic argument, CACs can be ineffective because they may only apply to a single bond series. 127 Restructurings may involve several bond series, and sovereigns will seek to restructure all. 128 To resolve the limited applicability of CACs across different series, sovereigns began including aggregation clauses. 129 These clauses use an aggregate vote across all series. For example, if there are ten separate series, and majorities in the first nine vote in favor of an amendment, then the tenth series is bound. 130 To block, a creditor would have to obtain a blocking position in a sufficient number of the series, which might prove to be challenging. But several problems remain with aggregation clauses, they are uncommon in issues before A sovereign attempting to restructure a current series may not be able to aggregate a vote. In addition, a creditor coordination problem exists in that creditors in a sufficient number of series would still have to coordinate to vote in favor of an amendment. 132 B. A Sovereign Statutory Bankruptcy Regime Currently, no statutory bankruptcy regime exists for sovereigns. 133 In 2001, the International Monetary Fund ( IMF ) began 126 Muse-Fisher, supra note 1, at Buccheit & Gulati, supra note 120, at See Jesse Kaplan, Note, Collective Action and the Competence of Courts: Lessons from NML v. Argentina, 20 STAN. J.L. BUS. & FIN. 1, 27 (2014). 129 See, e.g., Anna Gelpern, How collective action is changing sovereign debt, INT L FIN. L. REV. at 20 (2003), (discussing Uruguay s use of aggregation clauses). 130 Id. 131 See Kaplan, supra note 128, at Id. For a detailed discussion of the incomplete protection aggregation clauses provide, see id. at Rodigo Olivares-Caminal, Statutory Sovereign Debt Resolution Mechanisms, in SOVER- EIGN DEBT MANAGEMENT, supra note 51, at 333.

17 2015] SOVEREIGN DEBT HOLDOUT DISPUTES 259 considering such a regime. 134 Principally, the IMF, through a statutory regime, sought to deter disruptive litigation, protect creditor interests, encourage private lending, and create restructuring agreements that would bind all creditors. 135 A formal regime such as this expedites the restructuring process and cuts costs for both creditors and debtors. 136 Since 2001, the IMF has gone through three specific proposals, and the current proposal intends to effect its purpose by: (i) imposing a legal stay on creditors during a restructuring; (ii) financing reorganization; (iii) restructuring debt; and (iv) restraining holdouts. 137 More specifically, the IMF intends to stay decisions of a supermajority vote of creditors, 138 which operates similarly to a CAC. In addition, it intends to accord a preferred creditor status to new lenders. 139 At first, the latter proposal may seem objectionable. But, the policy is similar to policies favoring lenders of last resort, such as the IMF, which provide emergency financing. 140 The IMF does not seek to profit from its lending, and obtaining a priority creditor status enables it to continue to perform its necessary role. 141 In the IMF s statutory context, the rule would provide a private alternative. 142 The long history of sovereign borrowing and the failure to promulgate a formal bankruptcy regime should suggest something about the feasibility of such a regime. For instance, the regime seeks to bind all creditors through a newly created, dispute resolution forum. 143 Notably, in 2014, more than fifty sovereigns had outstanding international government debt securities. 144 Coordinating a treaty among more than fifty countries that would enable a dispute resolution forum to adjudicate universally over creditors would be a daunting task. 145 In addition to the arduous task of 134 Id. 135 Id. 136 See id. at Id. at Rodigo Olivares-Caminal, Statutory Sovereign Debt Resolution Mechanisms, in SOVER- EIGN DEBT MANAGEMENT, supra note 51, at Id. at Id. at Id. 142 Id. 143 Rodigo Olivares-Caminal, Statutory Sovereign Debt Resolution Mechanisms, in SOVER- EIGN DEBT MANAGEMENT, supra note 51, at See Debt Securities Statistics, BANK FOR INTERNATIONAL SETTLEMENTS (Dec. 2014), Rodigo Olivares-Caminal, Statutory Sovereign Debt Resolution Mechanisms, in SOVER- EIGN DEBT MANAGEMENT, supra note 51, at 333, 340.

18 260 CARDOZO J. OF CONFLICT RESOLUTION [Vol. 17:243 universal coordination, to implement its regime, the IMF would need to amend its Articles. 146 This too requires a quorum of eighty-five percent with a two-thirds majority in favor. 147 The United States alone possesses veto power, holding 16.75% of the votes. 148 With no global bankruptcy process and with the costly impasse caused by litigation, a more permanent forum is needed. Shifting negotiation power may ameliorate the problem. C. The RUFO Clause In the Summer of 2014, Argentina and the holdouts met with a mediator. 149 A spokesman for NML told the Wall Street Journal, Argentina refused to negotiate any aspect of the dispute. 150 Argentina, however, blamed the failure to reach an agreement on the mediator, calling him incompetent. 151 Blame aside, the parties have adhered to their causes for more than a decade. It seems shallow to accept that Argentina didn t want to settle a billion dollar debt because it chose pride over pragmatism. The same can be said for NML in not accepting a haircut. Perhaps Argentina did not want to set a precedent of settling and open the litigation floodgates to potential future creditors. Although with its current credit rating, concern over future creditors seems quixotic. 152 The crux of the impasse in negotiations may, in theory, be due to the Rights Upon Future Interest clause ( RUFO clause ). 153 When Argentina issued its exchange bonds in the United States, it included within them a RUFO clause. 154 The RUFO clause provides in part: 146 Id. 147 Id. 148 Id. at Ken Parks & Taos Turner, Argentina Debt Dispute Mediator Sets Friday Meeting as Talks Stall, WALL ST. J. (Jul. 24, 2014), Id. 151 Argentina Blames US Mediator for Debt Default, BBC NEWS (Jul. 31, 2014), See Sovereigns Rating List, STANDARD & POOR S RATING SERVICE (last visited Feb. 3, 2015), &sectorid= &subsectorid= BBC NEWS, supra note The Republic of Argentina, Dec. 27, 2004, Bond Prospectus for Par Bonds Due Dec. 2038, Discount Bonds Due Dec. 2033, Quasi-Par Bonds Due Dec. 2045, GDP-Linked Securities That

19 2015] SOVEREIGN DEBT HOLDOUT DISPUTES 261 [u]nder the terms... if following the expiration of the Offer until December 31, , Argentina voluntarily makes an offer to purchase or exchange or solicits consents to amend any Eligible Securities not tendered or accepted pursuant to the Offer, Argentina has agreed that it will take all steps necessary, including making any required filings, so that each holder... will have the right, for a period of at least 30 days following the announcement of such offer, to exchange any of such holder s [bonds] for (as applicable):... securities having terms substantially the same as those resulting from such amendment process More simply, the RUFO clause requires Argentina to pay exchange bondholders what it would pay holdouts if Argentina had paid the holdouts before December 31, In real dollars, and according to Argentina s President, if Argentina had paid the holdouts, it would have cost Argentina $15 billion half of its dollar reserves. 157 Consequently, Argentina had a large incentive not to trigger the clause, which may explain its steadfast refusal to settle with NML. 158 Of course, Argentina could have negotiated with exchange bondholders to have the clause waived. 159 But with a large number of bondholders, 160 such negotiations would create a creditor coordination problem. Because the RUFO clause has expired, 161 NML may have gained a better negotiating position. For example, Argentina can no longer argue that it faces the problem of a $50 billion payout. 162 In addition, by paying NML, Argentina could gain access to foreign capital, improve its credit rating, and improve its reputation. 163 Expire in Dec. 2035, at S-18, 02/y04567e424b5.htm#tocpage (hereinafter Exchange Bond Prospectus ). 155 Id. at S Linette Lopez, Here s How Argentina Could Go Down In Flames Even If It Does Pay Off The Hedge Funds, BUS. INSIDER (Jul. 9, 2014), Id. 158 See id. 159 Id. 160 There are approximately 600,00 retail investors in Argentine bonds. See Udibar S. Das, Michael G. Papaioannou, & Christoph Trebesch, Sovereign Debt Restructurings : Literature Survey, Data, and Stylized Facts 21 (Int l Monetary Fund Working Paper No. 12/203), Mac Margolis, New Year Won t End Argentina Bond Mess, BLOOMBERGVIEW (Jan. 5, 2015), Lopez, supra note See Margolis, supra note 161.