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Corporate Governance Lessons for the Sovereign Debt Crisis: Sovereign Equity

Corporate Governance Lessons for the Sovereign Debt Crisis: Sovereign Equity 1756842 (accessed July 18, 2012). See Joseph Cotterill, Irish GNP Warrants, FTW, Fin. Times (Apr. 6, 2012). http://ftalphaville.ft.com/blog/2011/04/06/538126/irish-gnp-warrants-ftw/ (accessed July 18, 2012) Stephany Griffith-Jones & Krishnan Sharma, GDP-Indexed Bonds: Making it Happen (DESA Working Paper No. 21, 2006). http://www.un.org/esa/desa/papers/2006/ wp21_2006.pdf (accessed July 18, 2012) Masouros, Pavlos E.`Editorial'. European Company Law 9, no. 5 (2012): 243­244. © 2012 Kluwer Law International BV, The Netherlands enfranchised.5 The taxpayer is the ultimate risk-bearer, because ­ even in the presence of investors in sovereign equity securities ­ it is out of her money that any fiscal imbalances will be fixed, so the taxpayer remains the only one who, from the viewpoint of agency theory, should be enfranchised. After all, even in the corporate world we know that many jurisdictions allow corporations to issue non-voting shares, so if governance rights are not attached to sovereign equity securities the latter will still, in theory, qualify as equity. It can be claimed that States are not corporations to be eligible to issue equity and that there are various issues that should be addressed before we embark on this security design exercise, for example, how the valuation of these instruments is to be made, what classes of investors will want to put their money in sovereign equity, etc. However, we need to be reminded that the seed for sovereign equity has already been sown. There are already GDP-warrants attached to sovereign bonds that were issued within the framework of sovereign debt restructurings. In the framework of the recent Greek PSI, Greece offered inter alia to bondholders GDP-linked notes, whose design carries the counter-cyclical features discussed above. If, for a reference year, the Greek GDP growth rate exceeds the projection for the growth rate of that year, then Greece will pay a percentage of the difference between the actual growth and the projected growth rate to the noteholder (subject to a cap). Argentina attached a similar GDP-warrant as a sweetener on the bonds, with which it replaced its old bonds in the Argentine 2005 restructuring. Because of Argentina's rapid growth, these warrants ­ after being detached from the underlying bond-trade at a premium in the capital markets. Other nations, such as Bosnia-Herzegovina and Bulgaria, have also issued GDP-warrants attached to their bonds; Singapore has issued to its citizens plain vanilla sovereign shares.6 Therefore, the investor community gradually becomes acquainted with financial instruments linked to the GDP growth rate of a nation. Some investors already participate in a nascent market of economic derivatives, which are financial instruments that allow traders to take positions directly on the outcome of macroeconomic data release;7 so valuation issues for sovereign equity might not be so difficult to address. In Europe, the ECB or the ESM could take on the role of purchasing sovereign equity securities from Member States on the condition that with the proceeds governments will reduce their debt until it reaches 60% of their GDP. The purchase of sovereign equity by EU institutions does not seem to run the risk of running against the no-bailout clause, so it might eventually be a way round the current legal restrictions blocking the recovery. Thus, the Eurozone states will have the opportunity to reduce their debt to sustainable levels without compromising their growth prospects. 5 Frank Easterbrook & Daniel Fischel, The Economic Structure of Corporate Law 67 ­ 70, 91 (1996). 6 See Ken Miyajima, How to Evaluate GDP-Linked Warrants: Price and Repayment Capacity (IMF Working Paper/06/85). http://www.imf.org/external/pubs/ft/wp/2006/wp0685.pdf ( accessed July 18 2012) 7 See Blaise Gadanecz et al., Economic Derivatives, BIS Q. Rev. 69 (2007). OCTOBER 2012, VOLUME 9, ISSUE 5 EUROPEAN COMPANY LAW http://www.deepdyve.com/assets/images/DeepDyve-Logo-lg.png European Company Law Kluwer Law International

Corporate Governance Lessons for the Sovereign Debt Crisis: Sovereign Equity

Masouros
European Company Law , Volume 9 (5) – Jan 1, 2012
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Abstract

1756842 (accessed July 18, 2012). See Joseph Cotterill, Irish GNP Warrants, FTW, Fin. Times (Apr. 6, 2012). http://ftalphaville.ft.com/blog/2011/04/06/538126/irish-gnp-warrants-ftw/ (accessed July 18, 2012) Stephany Griffith-Jones & Krishnan Sharma, GDP-Indexed Bonds: Making it Happen (DESA Working Paper No. 21, 2006). http://www.un.org/esa/desa/papers/2006/ wp21_2006.pdf (accessed July 18, 2012) Masouros, Pavlos E.`Editorial'. European Company Law 9, no. 5 (2012): 243­244. © 2012 Kluwer Law International BV, The Netherlands enfranchised.5 The taxpayer is the ultimate risk-bearer, because ­ even in the presence of investors in sovereign equity securities ­ it is out of her money that any fiscal imbalances will be fixed, so the taxpayer remains the only one who, from the viewpoint of agency theory, should be enfranchised. After all, even in the corporate world we know that many jurisdictions allow corporations to issue non-voting shares, so if governance rights are not attached to sovereign equity securities the latter will still, in theory, qualify as equity. It can be claimed that States are not corporations to be eligible to issue equity and that there are various issues that should be addressed before we embark on this security design exercise, for example, how the valuation of these instruments is to be made, what classes of investors will want to put their money in sovereign equity, etc. However, we need to be reminded that the seed for sovereign equity has already been sown. There are already GDP-warrants attached to sovereign bonds that were issued within the framework of sovereign debt restructurings. In the framework of the recent Greek PSI, Greece offered inter alia to bondholders GDP-linked notes, whose design carries the counter-cyclical features discussed above. If, for a reference year, the Greek GDP growth rate exceeds the projection for the growth rate of that year, then Greece will pay a percentage of the difference between the actual growth and the projected growth rate to the noteholder (subject to a cap). Argentina attached a similar GDP-warrant as a sweetener on the bonds, with which it replaced its old bonds in the Argentine 2005 restructuring. Because of Argentina's rapid growth, these warrants ­ after being detached from the underlying bond-trade at a premium in the capital markets. Other nations, such as Bosnia-Herzegovina and Bulgaria, have also issued GDP-warrants attached to their bonds; Singapore has issued to its citizens plain vanilla sovereign shares.6 Therefore, the investor community gradually becomes acquainted with financial instruments linked to the GDP growth rate of a nation. Some investors already participate in a nascent market of economic derivatives, which are financial instruments that allow traders to take positions directly on the outcome of macroeconomic data release;7 so valuation issues for sovereign equity might not be so difficult to address. In Europe, the ECB or the ESM could take on the role of purchasing sovereign equity securities from Member States on the condition that with the proceeds governments will reduce their debt until it reaches 60% of their GDP. The purchase of sovereign equity by EU institutions does not seem to run the risk of running against the no-bailout clause, so it might eventually be a way round the current legal restrictions blocking the recovery. Thus, the Eurozone states will have the opportunity to reduce their debt to sustainable levels without compromising their growth prospects. 5 Frank Easterbrook & Daniel Fischel, The Economic Structure of Corporate Law 67 ­ 70, 91 (1996). 6 See Ken Miyajima, How to Evaluate GDP-Linked Warrants: Price and Repayment Capacity (IMF Working Paper/06/85). http://www.imf.org/external/pubs/ft/wp/2006/wp0685.pdf ( accessed July 18 2012) 7 See Blaise Gadanecz et al., Economic Derivatives, BIS Q. Rev. 69 (2007). OCTOBER 2012, VOLUME 9, ISSUE 5 EUROPEAN COMPANY LAW

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European Company Law – Kluwer Law International

Published: Jan 1, 2012

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