Legal Air Cover

Abstract

ABSTRACT The economic harm being caused by the novel coronavirus may soon result in multiple sovereign debtors moving into default territory, but the existing playbook for dealing with multi-sovereign emerging market debt crises is blank. Currently, the only way to deal with a debt crisis is to carry out protracted country-by-country and contract-by-contract negotiated workouts. Expert groups are attempting to design a mechanism to run multiple sovereign debt workouts simultaneously but any design will take time to configure and get international buy-in. This article sets forth some options to provide temporary legal protection to debtor countries while they are diverting resources to respond to the Covid-19 pandemic. This is the notion of ‘legal air cover’. The options we propose involve ex-post state intervention in debt contracts and come with risks, but we show that in the case of Greece, where such an intervention was necessary in 2012, there were no negative spillovers on periphery eurozone debt markets associated with the Greek ex-post modification of contract terms.