A long history of predatory practices by vulture funds against developing countries
Vulture funds have a long history of predatory practices against many developing countries, including heavily indebted poor countries, mostly in Africa.
By Kinda Mohamadieh
The world’s attention had turned to the practices of ‘vulture funds’ after the United States’ Supreme Court affirmed a lower court opinion in the case NML Capital v. Argentina, which forbids Argentina from making payments on its restructured debt.
Argentina had defaulted in 2001 and went through two rounds of negotiations to restructure its debt, both in 2005 and 2010. In June 2014, the US Court ordered Argentina to pay the ‘vulture funds’ that held-out and did not accept the terms of the debt swaps. The ‘vulture funds’ held out with the aim of achieving what amounts to 1600% of return on their original investment. The concerned funds had purchased the Argentinian bonds in 2008 at USD 48 million and the Court ruling ordered Argentina to pay them USD 832 million.
Nobel laureate Joseph Stiglitz notes that this was “the first time in history that a country was willing and able to pay its creditors, but was blocked by a judge from doing so”.
While this case brought the term ‘vulture funds’ into the public sphere, the predatory practices of these entities did not start with Argentina.
According to the former United Nations independent expert on the effects of foreign debt and other related financial obligations of States on the full enjoyment of all human rights, the term ‘vulture funds’ “is used to describe private commercial entities that acquire, either by purchase, assignments or some other form of transaction, defaulted or distressed debts, and sometimes actual court judgments, with the aim of achieving higher returns”.
The African Development Bank considers ‘vulture funds’ as “entities that purchase distressed debt on the secondary market, where it trades significantly below its face value, and then seek to recover the full amount, often through litigation”.
Basically, vulture funds are hedge funds whose modus operandi focuses on three main steps including: (1) purchasing distressed debt on the secondary market at deep discounts far less than its face value, (2) refusing to participate in restructuring agreements with the indebted state, and (3) pursuing full value of the debt often at face value plus interest, arrears and penalties, including through litigation, seizure of assets, or penalties.
Many developing countries have been exposed to the predatory practices of vulture funds, especially African and Latin American countries.
The African Development Bank documents that at least twenty heavily indebted poor countries (HIPCs) have been threatened with or have been subjected to legal actions by commercial creditors and vulture funds since 1999. These countries include Sierra Leone, Cote d’Ivoire, Burkina Faso, as well as Angola, Cameroon, Congo, Democratic Republic of the Congo, Ethiopia, Liberia, Madagascar, Mozambique, Niger, Sao Tome and Principe, Tanzania, and Uganda.
In one case against Zambia, a vulture fund, having bought a debt for USD3 million, sued Zambia for USD55 million and was awarded USD15.5 million.
Other countries that have been targeted by ‘vulture funds’ include Nicaragua and Peru.
Peru was targeted by NML Capital in the year 2000, the same vulture fund that recently raised the case against Argentina in the United States’ courts. The former United Nations independent expert on foreign debt and human rights documented that NML Capital won a case against Peru in the year 2000, recovering many times what the fund paid for the country’s distressed debt. According to media reports, the fund spent almost four years in the courts to win a ruling that forced Peru to settle for almost USD56 million on distressed debt, which the fund had initially bought for USD11.8 million.
It is worth noting that European civil society groups documented that vulture funds threatened to sue the Greek government. According to a report released in 2014,creditors that decided to hold out and did not accept the debt restructuring deal proposed by the Greek government retained roughly 4.6 billion Euros of Greek bonds. They were ready to fight for their share. Afraid of legal battle and without an elected government, Greece paid off the vulture funds.
The African Development Bank documents that up till the year 2007, 25 judgments in favor of vulture funds had yielded nearly USD1 billion. Out of this amount 72% of the judgments have been against Members of the African Development Bank. The reported number of outstanding cases against debtor countries has doubled since 2004.
According to the World Bank and the International Monetary Fund (IMF), 54 court cases were instituted against 12 HIPCs between 1998 and 2008. The IMF estimates that in some cases claims by vulture funds constitute as much as 12 to 13% of a country’s gross domestic product. The World Bank estimates that nearly one-third of countries that are eligible for debt-relief and other poverty alleviation programs are the targets of the nearly twenty-six vulture funds.
In 2013, a paper published by the United States Institute for Peace noted that “there are an estimated twenty-two vulture funds waiting for payouts amounting to $1.3 billion, thereby draining crucial resources and undermining prospects for economic development”.
Mr. Cephas Lumina, while serving as the UN independent expert on foreign debt and human rights between 2008 and 2014, documented the attempts of several national jurisdictions to adopt legislation that aim to prevent vulture funds from pursuing excessive claims against heavily indebted countries before their national courts. These cases include the Channel Island of Jersey and the United Kingdom, and Belgium.
It is worth noting that a similar bill entitled “Stop the Vulture Funds Act (H.R. 2932)” was introduced in the US Congress in the year 2009. The bill primarily aims at preventing vulture funds from making excessive profit at the expense of poor countries.
Concerned about the extent of the threat posed by such predatory practices of vulture funds and its systemic implications, several international authorities and multilateral institutions have pointed out their concern about the matter.
The United Nations expert on foreign debt and human rights, Cephas Lumina, warned that vulture funds are able to “paralyze debt relief for heavily indebted countries”.
The African Development Bankwarned that“by precluding debt relief and costing millions in legal expenses, these vulture funds undermine the development of the most vulnerable RMCs [member countries of the Bank]”.
In June 2014, the Heads of State and Government of the Group of 77 and China, in their statement issued on the occasion of the summit entitled “For a New World Order for Living Well”, held in Santa Cruz de la Sierra, Plurinational State of Bolivia, reiterated the importance of not allowing vulture funds to paralyse the debt restructuring efforts of developing countries, and stressed that these funds should not supersede the State’s right to protect its people under international law.
The IMFhadcautioned that upholding the decision against Argentina would harm future sovereign debt restructuring attempts. In 2013, the IMF stated that the Court of Appeals decision “if upheld would likely give holdout creditors greater leverage and make the debt restructuring process more complicated”.
In 2012, the United States presented an amicus curiae brief to the US Court of Appeals for the Second Circuit in support of Argentina’s petition in the case against NML Capital. The United States argued that the interpretation by the panel of the ‘Pari Passu’ clause, upon which the decision to forbid Argentina from making payments on its restructured debt until it paid the ‘vulture funds’ is based, is incorrect and adverse to the United States’ policy interest and may harm its foreign relations. The ‘Pari Passu’ clause is included in the contractual terms of most sovereign bonds. Traditionally, the clause has been understood to have a narrow meaning, addressing only the issue of legal priority, and preventing the debtor from legally subordinating the bonds in question to other debt. Within this approach, the settled understanding of this clause is that selective repayment of the debt does not violate the ‘Pari Passu’ clause, even if it is the result of sovereign policy. In the case NML v. Argentina, courts in the United States adopted a wider interpretation of this clause. In its amicus curiae brief, the United States stated that such interpretation “runs counter to the longstanding U.S. efforts to promote orderly restructuring of sovereign debt”.
Back in 2007, the G-8 Finance Ministershadexpressed concern about actions of some litigating creditors against HIPCs, and agreed to work together to identify measures to tackle this problem based on the work of the Paris Club. In the same year, the G-7 Debt Experts had invited the IMF and the World Bank to a meeting chaired by the Secretary General of the Paris Club to discuss the impact of vulture funds on debt relief and measures that could be employed to minimize the adverse effects on economic development of HIPCs.
A recent statement by more than 100 civil society organizations from around the world (June 2014) stressed that “the actions of vulture funds represent one of many expressions of the injustice inherent in the global financial system”. They called for “urgent collective action to: achieve by all States, and particularly the United States and other jurisdictions where similar claims have been filed, enact laws that restrict the predatory activities of creditor funds; ensure that debtor States implement procedural safeguards that limit foreign jurisdictions’ ability to impact the full enjoyment of human rights; and create an international mechanism that is neutral and independent, designed to resolve disputes concerning the restructuring of sovereign debt, based on the obligation of States to respect, protect, and enforce human rights, both in their territories and extraterritorially”.
In September 2014, a resolution on the activities of ‘vulture funds’ and the effects of foreign debt and other related international financial obligations of States on the full enjoyment of all human rights, particularly economic, social and cultural rights was presented by Argentina and adopted at the 27th session of the UN Human Rights Council, which took place in Geneva.
It is worth noting as well that the 26th session of the Human Rights Council in June 2014 had adopted, through a vote, a resolution entitled “Elaboration of an international legally binding instrument on Transnational Corporations and other Business Enterprises with respect to Human Rights” (A/HRC/26/L.22). This resolution sets in place a process of negotiations towards an international legally binding instrument on transnational corporations and their liability in the area of human rights.
Kinda Mohamadieh is a Researcher at the South Centre.
