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Puerto Rico shows that New York’s sov debt bill needs a rethink

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The one size fits all approach taken in Albany is destined to fail: it is no surprise it is facing opposition from all angles

The New York State Assembly passed a number of bills on Saturday, June 10. These included provisions to protect employee freedoms in the workplace, a move to recognise Diwali as a holiday in the school system and efforts to protect families and doctors of those receiving gender affirming care in the state.

What did not pass, however, were three widely debated bills on the governance of sovereign debt issued under New York law.

As GlobalCapital wrote last week, the three proposed laws — as drafted — could disrupt the very sector they are looking to rebalance: emerging market sovereign debt. In short, the bills look to fix existing challenges that sovereigns face when seeking to restructure debt, including efforts by some holdout creditors to skirt the consensual resolution of a sovereign debt crisis. The first of the three bills would essentially oblige so-called “vulture” funds and private lenders to participate in debt relief for developing countries.

Though they did not pass, the bills were not rejected. They were simply kicked down the road until the next legislative session in January 2024 and are now essentially on hold. Vast amounts of EM sovereign debt are governed by NY state, so it is vital that the renewed efforts are given due respect when the Assembly reconvenes next year.

However, it is clear that — in current form — they are unlikely to pass, let alone work, and should be reviewed. Rather than a solution in search of a problem, this is a problem that needs a new solution.

Essentially, the debate has centered on Wall Street versus NGOs, charities, religious groups and certain prominent economists — including Nobel prize winning Joseph Stiglitz and former Argentinian finance minister Sergio Guzman, one of the economist's closest protégés.

It isn’t hard to see why either side thinks the way it does. Wall Street doesn’t want sovereign issuers to leave New York, which investors suggested would be a likely result if the law was passed. Organisations on the other side are keen to protect governments in the developing world from being exploited. Both arguments have merit.

Convincing either side to change their mind is likely to be a Sisyphean task. Instead of digging in and continuing to push the boulder up the hill, both sides should use the afforded time to come up with a solution that manages to update the system while protecting the interests of both sovereigns and investors.

Caminos diferentes

Sovereign debt expert Lee Buchheit said that, while the bills as they stood were perhaps not the best solution to the problem, some form of legislative change would be helpful in this endeavour. “What kind of intervention will help deal with the problem of unsustainable existing debts?” he asked, stressing that it is important to do this “with the least trauma to the ability of EM countries to raise new financing”.

Rethinking decade-old rules is by no means an easy task. To clarify how the proposed bills fail, the legislators involved should start by looking back at its origin: Puerto Rico. Multiple sources have told GlobalCapital that a general unhappiness about the debt situation in the US territory was the inspiration for the legislation.

Democratic Assembly member Jessica González-Rojas was one of the co-sponsors of Assembly Bill A5290, which would prevent investors from purchasing debt with the intention of pursuing litigation against the issuer to force repayment.

“As a daughter of the Puerto Rican diaspora,” González-Rojas told a local newspaper at the time, “I know well how vulture funds harm the economies of countries and territories like the island of Puerto Rico.”

She compared the plight of the island and its severe debt woes, which are undeniably difficult, to situations seen in Argentina, Peru, or Venezuela. “The United States can no longer be allowed to place the foot of imperialism on the necks of other countries as New York stands idly,” she continued.

The issue with this is that Puerto Rico is very much not a country, it is a US territory. Legally this has significant bearing. Anomalies in its bankruptcy laws have proved problematic over the years and significant work was done to enact PROMESA, the law that allowed Puerto Rico to restructure its debts in 2016, as an alternative to the mainland’s Chapter 11 rule. The very existence of PROMESA essentially means that the proposed rules — which remember were inspired by Puerto Rico — would be superseded by the island’s new bankruptcy law.

In addition, one source suggested that as much of 95%, perhaps even more, of Puerto Rico’s debt is governed by local, municipal law and not New York law, as is claimed. So, the new laws wouldn’t even apply if they did pass.

Despite this, the legislators took the idea and ran with it, morphing it into a more general sovereign debt rule in an effort to ‘do good’. But, as GlobalCapital wrote last week, despite best intentions the bills are more likely to cause damage. The problems in Puerto Rico would not be solved, and the other sovereign issuers would incur significant cost. It’s a bad situation for everyone involved.

The Assembly has pledged to take up where they left off with the rules in January. But those pushing the agenda should go back to the drawing board: if Puerto Rico needs a solution, tailor make one that takes its unique set of circumstances into account. If the ways of sovereign debt restructurings are the problem, again, think of a solution that does good without pushing investors out of the market or raising costs. By all means try both, just don’t try and do it all at once.

What the best solution should be is not for GlobalCapital to decide. But the approach taken over the last few months in Albany certainly is not going to work.