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Spice island offers case study in debt traps

Published:Wednesday | November 26, 2014 | 12:00 AMBy Elaine Moore

Investors are likely to lose a significant sum on Grenada's restructured loan.

The small Caribbean island of Grenada offers a salutary lesson on the dangers of loading up with debt for governments tempted by easy money.

Since defaulting on close to US$200m of international bonds in 2013, Grenada has been trying to negotiate a restructuring deal with its creditors. Now, according to sources close to the discussions, a deal may be approaching after meetings between the government and its creditors in Washington last month.

But Grenada's debt woes go far beyond the hundreds of millions it owes in US dollar bonds. To understand the full extent of the Spice Isle's debt problems you need to go further into the country's finances.

The US$193m that Grenada defaulted on last year was the product of an earlier brush with bankruptcy in 2005 following a devastating hurricane, which led the country to push back the date of debt repayments to 2025 in a "light restructuring".

On top of this external debt, borrowed in US dollars, Grenada also stopped servicing XC$184m (US$68m) in local currency debt, borrowed in Eastern Caribbean dollars.

The government also has outstanding debts with numerous creditors, including the Paris Club, that were restructured in 2006, and is locked in a legal battle with the Taiwanese government-owned Export-Import Bank of the Republic of China, which is pursuing the government of Grenada through New York courts for a payout on four loans provided in the 1990s.

The Taiwanese bank case has been linked to Argentina's lengthy fight with its creditors, which led the country into default this year, because Ex-Im Bank is using the same pari passu "equal treatment" clause that hedge funds employed successfully to argue for payment from Argentina.

Ex-Im did not take part in Grenada's 2005 debt restructuring and wants to stop the country paying out to bondholders who accepted the restructuring unless it also pays them. Muddying the water is the fact that Grenada was squeezed in a diplomatic fight between China and Taiwan and the loans were made at a time when Grenada recognised Taiwan, before it re-established diplomatic ties with China.

In 2007, the bank won a judgment in New York allowing it to collect Grenadian assets, although a district court later blocked the move.

According to a letter filed in a New York federal court in September, both sides are now considering a possible settlement, and the island's creditors are watching the proposed deal closely, aware that it will have an impact on the possible settlements they receive.

Amid all this, Grenada has been unable to borrow money on international markets and the country's finances are in a desperate state. The island nation of 110,000 people relies on nutmeg and tourism to fuel its economy, but both industries have suffered following hurricanes and the 2008 global financial crisis and unemployment is high.

According to Prime Minister Keith Mitchell, the country has borrowed so much it had to spend more on servicing its debts than on anything else last year, and this summer it arranged a three-year deal with the International Monetary Fund, World Bank and Caribbean Development Bank for further support.

At the end of October, credit rating agency S&P confirmed its "selective default" rating on Grenada, saying the proposed debt restructuring could still take considerable time, possibly another 18 months.

It then immediately withdrew its rating at Grenada's request.

Following S&P's announce-ment, the government came in for criticism from opposition political parties for not resolving the situation more quickly. According to the National Democratic Congress, no information has been shared with the public about the status of the legal proceedings with Ex-Im Bank or the negotiations with international creditors.

BroadSpan Capital, which is advising a committee of bondholders that hold three-quarters of the state's bonds, such as Franklin Templeton and T Rowe Price, has also chided the government for cancelling meetings and not negotiating on the debt restructuring.

Critically indebted countries want to move fast with restructuring deals to stop the issue from festering in domestic politics, although there are exceptions. Argentina's 2001 debt default did not turn into a restructure until 2005.

As negotiations continue, the price on Grenada's defaulted 2025 bond is trading at about 33 cents on the dollar, indicating investors expect to lose a significant sum when a resolution is reached.

Governments across the Caribbean have struggled with huge debts and significant budget deficits in the past decade. St Kitts and Nevis, Antigua and Barbuda and Jamaica have all restructured their debts. One sovereign debt lawyer says countries encouraged by global banks to borrow money on international markets would do well to study the islands as a case study in debt traps.

(c) The Financial Times Limited 2014