Sovereign Liquidity Crises: the Strategic Case for a Payments Standstill

Is sovereign debt so different from corporate debt that there is no need for bankruptcy procedures to handle potential defaults? The basic tools of finance seem to confirm that, without water-tight sovereign immunity, creditors face a Prisoner’s Dilemma: litiginous creditors may be tempted to grab what sovereign assets they can in a ‘race of the vultures’. Recent case history also suggests that there may be gains to ‘learning by suing’. To check this by a standstill on payments would doubtless run some risk of debtor’s moral hazard, as the Institute for International Finance have warned in their report on crisis resolution. But not to have an orderly procedure may mean that the IMF is de facto forced to bail out distressed members, leading to the risk of investors’ moral hazard, where investors lend without monitoring (secure in the belief that the international agencies will have to intervene). The strategic case for making legal a standstill on payments is to rescue the authorities from this ‘time consistent’ trap.