The Dictionary of Debt (II): CDS, Credit Rating Agencies, Debt Audit Commission, Debt Negotiations / Restructuring of Debt

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Credit Default Swaps (CDS):

Insurance contracts which cover the buyer (e.g. a bank that buys a bond) against the occurrence that the bond issuer (e.g. a country) defaults; they are a ‘fruit’ of the 1990s. A bank which purchases government bonds may insure its bond purchases with another bank, which undertakes to pay the insurance money if the government defaults, or is unable to repay the bonds when they expire, or finance its interest payments. Obviously, the more precarious and fragile the economic situation of a country, the higher the insurance price demanded by the bank that sells the insurance. In reality, with the use of CDS, big banks and hedge funds make massive profits by betting on default and then pushing entire countries to their demise.

The value of insuring Greek bonds recently exploded due to various factors, including the apparent lack of credibility of the country, the abuse of the renowned Greek statistics, whose quality was however well known to the EU authorities, and the threat of default. This allowed the holders of Greek CDS, who had bought them cheap, to profit massively. The problem with CDS is, at its base, very simple: It is forbidden to take out fire insurance on your neighbour’s house and then receive the insurance money if this house catches fire, since in this case you would have every incentive to have it burned down. But current law allows for holders of CDS (that is, insurance contracts) who do not have any legitimate basis for insurance, since they do not own the goods covered by that insurance (i.e. Greek bonds)! These are called naked contracts. In 2010 the profits of Deutsche Bank from CDS trading surpassed 10 billion. Three giant banking groups (Deutsche Bank, Goldman Sachs, and J.P. Morgan) control 75% of the global CDS market.

Credit Rating Agencies:

Private specialist organisations, whose clients are mainly banks and private institutions. The global market is dominated by three market giants, Moody’s, S&P, and Fitch. Evaluating at regular intervals the credit worthiness of large companies, banks, public companies etc., they calculate how likely the latter are to repay debts. So lenders know what risk they are taking when lending money, and they can naturally demand corresponding interest rates. The most secure borrowers receive a rating of “AAA”, whereas the ones receiving “BBB” are less credible, etc.

The downgrading of Greece’s credit worthiness, sparking the relentless attack which the country faces, exploded its cost of borrowing. After the breakout of the financial crisis, the rating agencies found themselves criticised internationally for partiality. The same agencies had previously extolled the country’s successful path towards the euro. These three shops provide not only rating services, but also consultancy, paid by the same banks that issue the titles. Thus, they gain twice from their services. There is a massive conflict of interest when the institution being rated is the one paying for the rating!

Debt Audit Commission:

A tool that can assist mobilisations against debt. It can take a variety of forms: official and parliamentary (e.g. Ecuador), or through citizens’ initiatives (e.g. Brazil, Uruguay, Greece, Ireland, Portugal), or both (e.g. Philippines). The findings of a citizens’ debt audit commission may not be binding, but they may help build a broad platform for the movement for debt cancellation, and they can offer arguments and provide data to the social movements
struggling against debt. Such commissions employ internationally accepted legal definitions regarding illegal, odious, illegitimate and unsustainable debts, which can lead to the debt’s cancellation. The Greek Debt Audit Campaign aims at social control of the economy and production.

Debt Negotiations / Restructuring of Debt:

Debt restructuring takes place when borrowers officially announce that they cannot repay their creditors under the originally agreed terms. It involves negotiations in which these terms are changed, usually before the borrower announces default (or a credit event, as it is called officially by credit rating agencies and other bodies). From 1970 onwards more than 40 countries have renegotiated their debt repayments. The previous Greek public debt restructuring occurred in March 2011 and involved a loan from the EU. It included extending loan maturity by extending the repayment date from 4.5 years to 7.5 years. Already in 2010 the Greek government had hired foreign intermediaries, such as the firm Lazard, who specialise in renegotiations and debt restructuring. The current ‘voluntary’ restructuring of the Greek debt held by the private sector (see PSI) is, in absolute terms, the largest in history.

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