Posse vulturtatus

A US court ruled against Argentina’s bond policies last week, showing that international tribunals aren’t the only judicial bodies complicating life for developing country governments.

As the LA Times reports:

The long-anticipated ruling, handed down by the U.S. 2nd Circuit Court of Appeals in New York, said that Argentina must pay a group of holdout investors in full if it wishes to continue making bond payments to holders of other bonds it has issued.

That payment would exceed $1.3 billion, including principal and back interest. However, the court also placed a stay on the ruling to allow the U.S. Supreme Court time to decide whether it will hear an appeal on a related matter.

The dispute between the South American nation and a group of investors led by hedge funds Elliott Management and Aurelius Capital Management, has drawn wide attention in the world of international finance. Supporters of Argentina’s side, including the International Monetary Fund, worry that the ruling could make it harder for poor counties to restructure unsustainable debt loads. Many investors, meanwhile, believed that a win for Argentina would have undermined confidence in U.S. capital markets.

The decision, which upholds a District Court judge’s decision from last November, “confirms that Argentina is not above the law,” said Theodore B. Olson, lead attorney for the holdout investors.

The fight was triggered by Argentina’s record default on nearly $100 billion in bonds in late 2001. Although the country was able to exchange the vast majority of that debt with investors at a discount, a small group — representing about 7% of the total value — refused the swap.

Those holdout investors have since taken Argentina to court in various jurisdictions, demanding face value on their original bonds. Some have attempted creative measures to recover value, at one point convincing a judge in Ghana to temporarily seize an Argentine warship at port in a bid at extracting a ransom.

(For more on the Ghana story and naval ship fun, see here.)

This isn’t the only time Argentina has been hammered by US courts and so-called vulture funds in recent days. A few days earlier, the Second Circuit ruled against Argentina in a case brought by Blue Ridge Investments LLC, a subsidiary of Bank of America. That company had bought up the claim on a nearly decade old $133 million investment treaty award from CMS Gas Transmission Company, a US investor in Argentina’s privatized utility sector.

These cases highlight the growing role that a small group of US judges play in legal matters of importance to developing countries. The Second Circuit judges hearing the NML appeal were Rosemary Pooler, Reena Raggi, and Barrington Parker (who wrote the decision). The original decision being appealed was decided by Judge Thomas Griesa. In the Blue Ridge case, Judge Parker joined Jose Cabranes, in hearing an appeal from a decision made by Paul Gardephe. (Cabranes made news recently by being appointed to the so-called “spy court” by US Supreme Court Chief Justice John Roberts.)

Some of the reasoning in these cases suggest that US judges are not necessarily more sensitive to regulatory needs of developing nations than their counterparts in the investment treaty world – who get a lot of heat for their supposed unaccountability and corporate bias. Indeed, the tag-teaming courts are proving to be something of an “complementary directorate” influencing global economic affairs far beyond US borders.

Take the Blue Ridge case. Under traditional practice, Argentina (and all national governments) would have immunity from enforcement actions in US courts. These principles are codified in part by the Foreign Sovereign Immunities Act. However, the ICSID Convention of 1965 (thought up by a bankers group a few years earlier) set up principles to chip away at that traditional practice – in the name of greater investment flows. Sure enough, Judges Gardephe, Cabranes and Parker determined that “Argentina waived its sovereign immunity by becoming a party to the ICSID Convention.”

And while Argentina took issue with the award being transferred from CMS to Blue Ridge, the US judges noted that this type of transfer is allowed under New York law, and not prohibited by the ICSID Convention. “Because an ICSID Convention award is entitled to “the same full faith and credit” as a final judgment of a state court,” they determined, “district courts in this Circuit have, at times, relied on the procedures of the New York Civil Practice Law and Rules to determine whether an ICSID award is enforceable.”

US law and international law working together to compel a result for a developing country. Powerful stuff!

The role of US law is even more front and center in the NML case, which did not arise out of an investment treaty award (although similar issues are being debated in investment arbitration).

In that case, Argentina argued that it would set a bad precedent for developing countries if hold-out creditors could get more than creditors that had bargained for reductions in debt burdens. The US judges disagreed, formalistically stating:

We believe that it is equitable for one creditor to receive what it bargained for, and is therefore entitled to, even if other creditors, when receiving what they bargained for, do not receive the same thing. The reason is obvious: the first creditor is differently situated from other creditors in terms of what is currently due to it under its contract.[…]

our decision affirms a proposition essential to the integrity of the capital markets: borrowers and lenders may, under New York law, negotiate mutually agreeable terms for their transactions, but they will be held to those terms.

Unsurprisingly, Argentine politicians have bristled at Griesa’s original decision, and pledged not to pay any money to so-called vulture funds. Rather than triggering any deference, this caused the US judges to double down: any US financial entities that help Argentina pay the owners of the renegotiated debt (so long as the country didn’t pay the hold out creditors) will be subject to US penalties. When Argentina’s financial providers squealed over this, the US judges noted that these banks also have to comply with banking sanctions regimes with Iran, Cuba and Sudan.

This may be the most telling passage in these recent decisions. US judges are analogizing what their treatment of Argentina to congressionally mandated policy on rogue states. While one can agree or disagree with the judges or with Argentina, it is striking that our intellectual framework for dealing with foreign states that experienced financial crises that harmed US investors is informed by our approach to states that supposedly threaten core national security and human rights interests. Debtors watch out!

The US courts were not unaware of the systemic implications of their decision for developing countries, but appeared to ignore these:

the consequences predicted by Argentina have in common is that they are speculative, hyperbolic, and almost entirely of the Republic’s own making[…]

our role is not to craft a resolution that will solve all the problems that might arise in hypothetical future litigation involving other bonds and other nations. The particular language of the FAA’s pari passu clause dictated a certain result in this case, but going forward, sovereigns and lenders are free to devise various mechanisms to avoid holdout litigation if that is what they wish to do.

In other words, the courts invite private parties and nations to try again – differently and better. But as I noted earlier this week, should courts be playing hardball when political economy affairs are jammed and static? Will all developing countries be well positioned to craft better bond clauses that deter hold out creditors – especially when US courts are showing the profitability of the old model? Time will tell.

In any case, these disputes show that innocuous sounding clauses in bond contracts and investment treaties that privilege US law have real consequences – both for how developing nations relate to investors and branches of foreign governments.

Read the full NML decision here. The Blue Ridge decision can be found here.

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