The political element of the Greek debt crisis might be riddled with ambiguity, but the legal tools at Europe’s disposal are relatively clear.
Here are the legal mechanisms available.
Bilateral law change
Some restructuring lawyers believe a bilateral law change could force haircuts onto recalcitrant creditors overnight.
According to one lawyer, who declined to be named, around 90% of Greece’s sovereign bonds are governed by Greek law, and the majority of the remaining 10% governed by English law.
The two countries could change their respective laws very swiftly to restructure the outstanding debt, as long as it doesn’t violate any bilateral treaties.
“This happens in restructurings all the time. There’s not a western country which hasn’t changed its bank resolution laws,” said the lawyer.
This would leave only the bonds denominated under Swiss law, the lawyer said, but they are a fraction of the original amount.
Of course while this is legally feasible, it must be practical if it is to work.
A European banker said that any deal has to be sustainable for the European banks, given they hold the bulk of the Greek debt.
“Until the banks are solid enough to absorb the shocks, you couldn’t do it,” they said.
Another tool available is the exit consent. This allows a 50% majority of bondholders to change the non-financial terms of the bond to effectively make them worthless for the minority holdouts, forcing them to swap into re-profiled Greek bonds on better terms for the sovereign.
According to one restructuring lawyer, a country could carve out the old bonds’ interest payments from the sovereign immunity waiver, delist the old bonds and remove cross-default and cross-acceleration provisions to ensure the old bonds are tendered.
“When you introduce the clout of sovereign immunity, it makes it difficult for bondholders to litigate,” said the lawyer.
Uruguay and Ecuador have used exit consents to re-profile their bonds. According to one lawyer, 97% of the Ecuador bondholders voted to take up the new bonds.
“If there is a core at 50% then you’re really jamming the majority to come into line,” the lawyer added.
Collective action clauses
The European Stability Mechanism (ESM), announced in November 2010, is designed to act in many ways as a European version of the International Monetary Fund.
The ESM will have the power to lend to struggling countries based on a stringent programme of economic and fiscal adjustment, and on a rigorous debt sustainability analysis. If the country is insolvent, it can negotiate a restructuring plan with creditors.
To help achieve this plan, all sovereign bonds will contain collective action clauses (CACs), which allow all debt securities issued by a country to be considered together in negotiations.
In a restructuring scenario, a qualified majority of bondholders could vote to change the terms of payment – for example forcing a standstill, extension of maturity, an interest rate cut or a haircut, thereby forcing the minority holdouts to the same agreement.
The problem is that sovereign CACs and private sector involvement in the ESM will only be attached to bonds issued from in mid-2013, which isn’t much use for the crisis confronting Europe right now.
International sovereign debt restructuring mechanism
An international Sovereign Debt Restructuring Mechanism (SDRM) has been under discussion for years.
While countries signed up to the United Nations Commission on International Trade Law (Uncitral) can recognise restructurings occurring in other countries, there is still no equivalent for sovereign insolvencies.
While there is no practical template as yet, restructuring lawyers suggest other alternatives which, like Uncitral, don’t necessarily require recognition by every country but can still be effective.
For example, it would be easy for a treaty organisation to recognise the Permanent Court of Arbitration in The Hague and have it supervise restructurings, according to one lawyer.