How creditor fragmentation, non-Paris Club dominance, and the G20 Common Framework are redefining default resolution in developing economies

The economic architecture around sovereign debt restructuring in emerging and developing economies (EMDEs) is undergoing a fundamental transformation. For four decades, the rules governing default resolution operated within a relatively coherent framework. Paris Club official creditors and London Club commercial lenders negotiated with sovereign borrowers in tandem with the IMF to determine the size of a debt haircut and the terms of arrears. The introduction of the G20 Common Framework in 2020 has changed the dynamics of the sovereign lending relationship.

Default resolution in EMDEs is becoming a protracted multilateral negotiation as diverse creditors compete to protect their interests. For perspective, here’s a summary of the key changes impacting sovereign default resolution in EMDEs:

The Fragmentation of the Creditor Landscape

Modern emerging market sovereign debt restructuring is complicated by the proliferation of different creditor classes.

First, official bilateral lending is no longer dominated by Western democracies. China has become the biggest emerging market creditor due to the scale of its sovereign lending programs. The PRC’s state-owned banks provide tens of billions of dollars in loans to EMDE governments annually through its bilateral financing programs. Chinese state-owned creditors do not always operate by the same standards as their Paris Club counterparts – for example, they can require disclosure of confidential information, employ lending instruments unavailable to other official creditors, and utilize different accounting methods.

Second, private market lending has gained prominence in the EMDE debt landscape. Over the last decade, EMDE sovereign borrowers tapped into the international bond market to raise funds. In a default scenario, a sovereign borrower with multiple outstanding Eurobonds would need to reach an agreement with dozens of different bondholders who could be scattered across institutional and retail investors, hedge funds, sovereign wealth funds, and private equity firms. Moreover, there is a risk of holdout investors blocking any restructuring attempts.

Finally, the traditional dominance of multilateral financial institutions (MFIs) as preferred creditors comes with challenges. While the “preferred creditor” status helps them provide uninterrupted financing to EMDE borrowers, they are often reluctant to bear losses in the case of a default, despite Paris Club and private market creditors accepting significant haircuts.

Mechanics and Structural Challenges of the G20 Common Framework

The G20 and the Paris Club created the Common Framework to facilitate sovereign debt restructuring in EMDEs. The Common Framework is the minimum standard for official Paris Club creditors, non-Paris Club official bilateral creditors, and private market creditors who wish to participate in any sovereign default resolution proceeding. It requires all creditors to apply the principle of comparability of treatment to ensure that no single creditor bears a disproportionately high share of the burden in the defaulted payment.

Despite being a useful theoretical guide, the Common Framework’s practical implementation has been hindered by several severe delays and complications:

  • Official and private market creditors have drastically different approaches to debt restructuring. Western official creditors and private market bondholders believe that a sovereign default resolution should involve a significant NPV (net present value) haircut to the defaulted bond principal. By contrast, Chinese state-owned banks prefer to restructure sovereign debt without reducing the principal value. The disagreement between Western and Chinese official creditors on this score complicates private market debt restructuring since private bondholders usually follow the example set by official creditors.
  • There are information asymmetries between different types of creditors. To establish the baseline for restructuring, the involved sovereign borrower and creditors need to have a clear understanding of the total amount of debt owed. In practice, the negotiations between borrowers and creditors are often stalled due to disagreements over undisclosed contingent liabilities, the true value of non-collateralized resource-backed loans, and other accounting disputes. For example, the early default resolution proceedings for Zambia, Chad, Ethiopia, Ghana, and other EMDE sovereign borrowers generated years of standoffs between creditors and borrowers.
  • The Common Framework’s creditor treatment process creates inter-creditor tensions. The standard procedure for sovereign debt restructuring under the Common Framework stipulates that a distressed sovereign borrower must first negotiate an IMF-supported macroeconomic program, a debt treatment memorandum with the Paris Club Official Creditor Committee (OCC), and a private market creditors’ agreement providing “at least as favorable terms” as the one reached with the OCC. In practice, private market creditors often oppose the OCC’s restructuring terms, while official creditors refuse to finalize any private market agreement before private bondholders commit to a similar set of terms. This creditor sequencing dilemma has caused severe sovereign default resolution delays in several EMDE debt cases.

Macro-Economic Impact of Default Restructuring Delays

The sovereign default resolution process has severe macroeconomic consequences for the borrowing country. If a sovereign borrower experiences prolonged uncertainty over its external debt liabilities, the economic impact will be negative for that country. For example, a sovereign default causes a country’s credit rating to be downgraded to the lowest category, restricting its access to external financing and causing trade finance to be cut off. The local currency will depreciate significantly against foreign currencies, resulting in inflationary pressures. Private investment will dry up due to fears of capital flight and reduced returns on investments. Finally, the government will be forced to impose austerity measures and cut public expenditures to avoid a balance of payments crisis.

Sovereign default can also trigger a sovereign-bank loop that threatens a country’s financial system. Sovereign debt restructuring can cause severe disruptions to a country’s domestic banking system if the government’s domestic debt dominates the banks’ balance sheets. If an EMDE government attempts to restructure both its domestic and external debt to fund budget expenditures, the country’s solvent banks can suffer losses due to the devaluation of government bonds on their balance sheets. The bank’s capitalization will shrink, causing the banks to limit or cease domestic credit issuance, while the central bank will likely print money to cover the shortfalls and fuel currency devaluation.

Innovations in Sovereign Debt Restructuring Architecture

The sovereign default resolution process needs to be optimized to reduce the negative economic impact that it has on EMDE countries. Several international initiatives have been launched recently to improve the sovereign debt restructuring framework and reduce the macroeconomic damage triggered by sovereign defaults. One useful innovation is the incorporation of State-Contingent Debt Instruments (SCDI) and climate clauses into sovereign bond contracts by private market creditors.

When a natural disaster, pandemic, or other systemic shock impairs a borrowing country’s capacity to repay its sovereign bonds, the bonds’ terms can provide for temporary deferrals of coupon and principal repayments. Another innovation allows certain EMDE sovereign borrowers to partially repay their external debt with proceeds from nature-positive projects in exchange for reductions in the size of their external debt liabilities. Such nature-positive initiatives include climate-specific bonds, marine protection initiatives, peatland restoration, or rainforests protection projects.

Bond contracts are also adopting enhanced collective action clauses allowing for single-limb aggregation of all bondholders’ voting power. This structural change to sovereign bond contracts makes it possible for a majority of creditors to bind all other creditors in a distressed bond restructuring scenario, thus preventing holdouts. With these improvements to the sovereign debt restructuring architecture, EMDE governments and creditors can minimize the negative economic consequences of sovereign defaults.

Looking Ahead

The future of sovereign debt restructuring in EMDEs will be defined by the ability of international financial institutions to develop a practical template based on the early Common Framework experiments. As the EMDE sovereign bonds market matures, a large number of bond maturities will need to be restructured in the coming years.

Sources & Citations

  • "Global Debt Monitor: Evaluating Sovereign Restructurings Under the Common Framework," International Monetary Fund (IMF) (July 2026).
  • "The Post-Restructuring Recovery in Zambia: Lessons for Creditor Coordination," World Bank Development Report (May 2026).
  • "Emerging Market Sovereign Debt Spreads and Restructuring Dynamics," J.P. Morgan Global Emerging Markets Research (August 2026).
  • "State-Contingent Debt Instruments and Resilience in Low-Income Countries," Center for Global Development (February 2026).