Brady bonds

Brady bonds are debt instruments issued by governments and private lenders in developing countries as a means of restructuring their debt. Named after Nicholas Brady, sec­retary of the Treasury during the George H. W. Bush admin­istration, these BONDS were first issued by the Mexican government as part of a plan to repackage loans made to Mexico during the 1980s. Many governments in develop­ing countries had borrowed billions of dollars but were not able to pay back the loans. Poor INVESTMENT, management, and corruption led governments into situations where they owed significant amounts to foreign lenders and had few productive ASSETS to use or tax to pay off the loans. Just the interest due on the loans represented a significant portion of most government’s budgets. Known as “debt overhang,” these payments prevented governments from making new investments in education, INFRASTRUCTURE, and resource development needed to generate ECONOMIC DEVELOPMENT.

Under Nicholas Brady, a pool of funds from the United States, WORLD BANK, and INTERNATIONAL MONETARY FUND (IMF) was used to guarantee new bonds issued by the developing country government. The new bonds offered to lenders reduced the amount of debt owed and stretched payments over a longer period of time. This lowered the payments of the debtor country, allowing its government greater financial resources to be used in economic devel­opment plans. An alternative procedure provided no debt reduction but lower INTEREST RATES on the new debt than that paid for the old debt in return for guarantees of pay­ment of the principal with the proceeds from long-term bonds provided by the United States and other developed countries. To lenders who faced DEFAULT by the borrowing country, the new debt plans, backed by the funds coordi­nated by Nicholas Brady, were better than default and more secure than direct loans to the borrowing government.

Brady plan restructurings were used in many deveop­ing countries in the late 1980s and early 1990s. As world ECONOMIC CONDITIONS improved, some countries, particu­larly Mexico, paid off their Brady bonds. On the other hand, in 1999 Ecuador became the first government to default on its bonds.

Once issued, Brady bonds became part of international financial debt instruments. A few MUTUAL FUNDS special­ized in purchasing Brady bonds of various countries at deep discounts, hoping to profit from the eventual payoff of these high-risk bonds. These investors recognize the biggest concern associated with these bonds is political risk. The Brady plan was an outgrowth of an earlier strat­egy proposed by then-Secretary of Treasury James Baker, which emphasized economic reforms as a condition for new lending to developing countries.