Debt Conversion Programs are no panacea for a country's debt or
development problems. They should be viewed as useful but limited
vehicle for debt reduction and for the attraction of new
investments. However, in certain circumstances, they can make a
substantial contribution both by encouraging foreign capital
inflows at a time when it is scarce and in alleviating the debt
service burden. Some countries have used these programs as an
incentive for capital flight reversal.
The underlying concept is simple. Sovereign external debt is
exchanged for local currency and the respective amount of debt is
canceled. The debt titles are repurchased with the provision
(restriction) that the proceeds in local currency are used to
purchase domestic assets, equities or other investments, which are
specifically designated by the country's program. In practice, each
country formulates its own program, with its own regulations and
procedures.
Debt conversions cover a wide range of applications. They impose
some costs on the economy and have implications depending on
whether they are applied primarily for debt reduction or investment
promotion purposes. The extent to which debt equity swaps will
actually occur depends on the attractiveness of the availability
and quality of assets in which to invest. Privatization can improve
on all these conditions, since many government assets are large
companies with many attractive features. In the case of Bulgaria
the swaps could be used as part of the privatization efforts. When
a debt-equity swap is used to finance purchase of all or part of a
state enterprise, there is no need for local currency funding. In
this kind of transactions, the government would give up assets in
return for canceled debt. The mere process of privatization
improves the business climate by opening up the local markets and
offering opportunities for growth and expansion to the private
sector. Privatization will almost certainly lead to the conversion
of higher proportions of the external debt into equity, thus
promoting "market" solutions to the debt problem.
Any country considering such a program must weigh very carefully
the costs and benefits that it can expect. The government policy
orientation and its long-term economic strategy are crucial for its
success or failure. Sometimes the establishment of such program can
become a very political issue.
Debt-for-equity swaps or debt conversions (debt-for-nature,
debt-for-social programs, etc.) are very specific programs. In the
case of Bulgaria, they can have favorable impact on the
privatization process as part of the overall market-oriented
adjustment strategy.
Although the legal framework for privatization is in place for
some time, no substantial results have been achieved so far. One
major obstacle to foreign participation was the external debt
overhang. The regularization of the relations with the commercial
banks provided a favorable background for the design and
preparation of a debt conversion program, focusing on ownership
restructuring through debt-equity swaps.
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