IMF lawyers treating Ukraine’s USD 3 bln debt as official, Russians claim

The IMF’s legal department has recognized the USD 3 bln Ukrainian Eurobond (UKRAIN) due on Dec. 20, held by a Russian state fund, as “official debt” that cannot be determined to be commercial debt, the Russian newspaper RBC reported on Nov. 23, citing “a federal official who is close to the discussions on the issue.” Russia’s Deputy Finance Minister Sergei Storchak confirmed this as “fact” to RBC. In response, an IMF spokesman said “it’s not the legal department, but the IMF board of directors that should define the status of this debt,” reported RBC, adding that the board has yet to decide.

The definition of this debt is important for the prospects of IMF’s lending to Ukraine. Under the current IMF policy of lending into arrears, it cannot lend to Ukraine if it has overdue official debt. Recall, as the Russian side pointed out a couple of times, the IMF is ready to change its policy to allow Ukraine to default on its debt to Russia, even in case it’s recognized as “official.” Russian officials criticized such an intention of the IMF, claiming there is “no need to create such a precedent” to the benefit of a single borrower.

Earlier this month, the Fitch ratings agency commented that non-payment of the debt “would not constitute a default under Fitch’s sovereign ratings criteria.”

Alexander Paraschiy: Even after such a report, it’s still not clear whether the alleged determination of “official status” of the USD 3 bln Eurobond has the official backing of the IMF’s legal department, or if it is just the personal conclusion reached by some of the IMF’s lawyers.

We admit that this bond has signs of being both commercial and official debt. As commercial debt, it was issued in the form of exchange-listed Eurobonds and there was no inter-governmental agreement that can identify it as such officially. On the contrary, the Russian side has stated that this bond was fully purchased by an entity controlled by the Russian Finance Ministry and its interest rate was below-market as of the date of the issue, in late December 2013 (the latter statement is doubtful, as a bond with a similar maturity, due on Oct. 13, 2015, was trading then at 5.1% YTM).

The IMF board will have a hard choice in determining the status of the bond, which it implicitly recognized as non-official in March 2015 by allowing it to be included in Ukraine’s debt restructuring. By recognizing this debt as official, which cannot be aligned with commercial debt, the IMF board would be admitting that the debt was wrongly included into the perimeter of Ukraine’s debt operation. On the other hand, this debt, indeed, does not match perfectly the definition of “commercial debt.” To save face and allow for continued negotiations on the debt restructuring, we believe the IMF could adopt some non-standard solution, e.g. recognizing this debt as “quasi-official” or “quasi-commercial.” Such solution will enable the Fund to only slightly alter its “lending into arrears” policy to the benefit of Ukraine, we believe. Ultimately, we expect the IMF’s decision will enable Ukraine to delay repayment of the bond to the Russian fund and continue its extended funds facility program with the IMF.