Following its 2022
default, Sri Lanka achieved a landmark debt restructuring in 2024, exchanging
USD 12.55 billion in bonds with 98% creditor participation. This paper examines
the groundbreaking contractual innovations that enabled this success.
The restructuring introduced two pioneering State Contingent Debt Instruments
(SCDI): Macro-Linked Bonds tied to GDP performance, and Governance-Linked Bonds
(GLBs). Unlike traditional instruments, these embed contingency mechanisms
directly within bond structures, allowing upside and downside adjustments based
on economic and governance performance.
A key innovation lies
in GLBs’ comprehensive information disclosure covenants, mandating regular debt
reports, economic reviews, and investor calls. These transparency requirements
create enforceable governance mechanisms while aligning incentives between
issuer and bondholders – successful achievement of targets reduces borrowing
costs and improves secondary market valuations.
Sri Lanka’s approach
addresses longstanding transparency and governance challenges in sovereign debt
markets while providing a replicable framework for future restructurings. The
exchange’s success, demonstrates how innovative contractual design can restore
debt sustainability while promoting governance improvements.