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Sovereign work-outs: a new idea

Argentina's de facto default on $130 billion in face value of debt - investors who've seen the price of their bonds more than halve to 35 cents on the dollar in four months are in no doubt that this is a default-like loss, if not yet a legal default - and the tortuous progress of its supposedly voluntary and orderly debt restructuring, which shows no sign of being either, have drawn renewed and urgent calls for a better approach to sovereign debt work-outs.

There are three possibilities: large scale bail-outs by the G7 and the IMF, which markets now realize are no longer likely; some kind of sovereign bankruptcy court, though what court might claim the legal right or enforcement mechanisms to attach and dispose of sovereign assets within a country's own borders, no-one knows; or... something else.

So last month's simulation hosted in New York by Carnegie Mellon University of a new proposal by Adam Lerrick and Allan Meltzer, both of Meltzer commission fame, for an official floor of support during a sovereign debt default and restructuring, is worthy of serious consideration.

The heart of the Lerrick-Meltzer proposal is that official sector funds should not be used to compensate lenders for their bad credit decisions, but should be used to protect them from loss arising from market failure during a work-out.

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