Methodological Issues in Evaluating Debt-Reducing Deals

Abstract

A menu-based debt-reducing deal is a concerted agreement between a debtor and its creditors on a set of financial options the creditor banks can freely choose from. The novelty and complexity of the menu-based debt reduction deals make it difficult to see the economic principles that underlay them. This paper explains and analyzes the main elements of a menu —buybacks, debt exchanges and new money, and how they interact in determing the aggregate choice of banks. We also discuss the important effects of the source of funding the debt reduction. The paper emphasizes that the provision of new money in a menu is best seen as a concession by non-exiting creditors in exchange for the value increase of their existing debt on account of the debt reduction. The set of best possible combinations of debt reduction and new liquidity the country can bargain for with its commercial creditors in a Brady deal is identified. We also indicate how a country can best choose between these possible combinations.