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Another Argentina Default?

Will Argentina default on its debt for the second time in a decade? Three experts share their insight.

Inter-American Dialogue

Since Argentine President Cristina Fernandez took office in December, Argentine bonds have fallen 19 percent, increasing speculation that the country could default on its debt for the second time in a decade. Do you think Argentina will default? What must Argentina do to minimize the risk of default?

Miguel Kiguel, Executive Director of EconViews and a former Undersecretary of Finance and Chief Advisor to the Minister of Economy in Argentina: In recent weeks investors have become more concerned about the possibility of a new Argentine default. One critical question is whether these concerns reflect a deterioration in the economic fundamentals, e.g. in the ability to pay, or if instead they are related to a perception that there is less willingness to pay. The financial requirements for this year are only $3.5 billion, a figure that the government can easily raise in the local market. Perhaps the concerns reflect the roughly $10 billion that the government needs for 2009. However, our estimates indicate that it can raise around $5 billion from domestic institutional investors and in a worse-case scenario there is room under current legislation to obtain around $2.5 billion in temporary advances from the Central Bank. Of course, one can get worried about 2010, but to be honest the problem is not the capacity to pay but the perceived willingness to pay. Using almost any measure of creditworthiness, Argentina should be able to meet its financial obligations in coming years. The risks appear in extreme scenarios where Argentina has no access whatsoever to the financial markets for a prolonged period. While the risk of default is not nil, the economic fundamentals are still in good shape, and the spreads appear to have overreacted. They are primarily driven by an intense negative mood that was generated by the manipulation of the official inflation rate and by the stubborn position that the government has taken in the negotiations with farmers. While the rigid attitude could prevail for some time, and hence the spreads could remain high during that period, we expect that the political system will eventually work and that the country will again access international financial markets. It's the politics this time, and the problem is that investors understand the evolution of economic crises much better than political ones.

Claudio Loser, Senior Fellow at the Inter-American Dialogue and former Head of the Western Hemisphere Department at the International Monetary Fund: Argentina's debt has been growing steadily since the country's authorities reached a deal with bondholders in 2005. At present, the debt of the public sector is at about the same level as before the 2001 default, at some $150 billion. Seen from that perspective, there may be serious questions about the sustainability of external indebtedness. However, circumstances are considerably different than they were seven years ago, even as there are serious problems of economic management in other areas. First and foremost, Argentina was able to restructure debt equivalent to about one-third of the total stock outstanding at very favorable terms, specifically a 40-year maturity and low interest rates. In addition, the country has reduced its debt obligations with international financial institutions, like the IMF and the World Bank, and has replaced them with expensive but long-term loans from Venezuela, and also with domestic issuances, that tend to be more stable. Furthermore, Argentina is still recording a trade surplus, reasonably strong (although weakening) public finances, and high levels of international reserves, while the debt burden as a proportion of GDP has been declining and is now at a level equivalent to 50 percent of GDP, well below the 150 percent observed in 2002. Under these conditions it is unlikely that the government considers itself in a situation close to default. Nonetheless, if conditions deteriorate the authorities may be tempted, against good judgment, to move in the direction of a default, although not in the near future.

Vladimir Werning, Vice President at JP Morgan Chase & Co. : The market is braced for a 35 percent probability of a default on hard currency debt considering the 620 basis point (bp) spread over swaps on five-year Argentine CDS contracts. And bonds are trading even cheaper: five-year dollar debt is priced at a spread of 950 bp above US Treasuries, and inflation-linked peso debt trades at a real spread of 1230 bp above US TIPs. While Argentina has ample capacity to pay its debt, market prices are reflecting investor doubts over its willingness to do so for good reasons. The market doubts arise because authorities have 1) hit a budget constraint but eluded the opportunities to reconcile differences over tax policy with farmers; 2) systematically postponed a conventional policy response to high and rising inflation; 3) discarded the use of reliable macro statistics in a way that suggests disinterest in confronting economic reality that entails political and financial costs; 4) repeatedly sacrificed economy ministers that offered ideas that moderately deviated from the policy status quo; and 5) increasingly regulated and segmented goods and financial markets with a mind to controlling the price discovery mechanism, to mention a few issues. The market is also concerned that authorities do not realize that their reliance on market financing is greater than acknowledged: for instance, in 2008 given $5.7 billion of amortizations to private creditors and $3 billion of issuance in the market alongside $6.5 billion of interest indexation and capitalization, Argentine risk held by investors is rising by about $4 billion on a net basis. While local pension fund capacity to fully absorb Treasury debt issuance in 2008 is comforting, higher issuance requirements in 2009 raise market concerns. Of course, with $50 billion in Central Bank reserves, a $12 billion trade surplus, and 3.8 percent of GDP primary surplus, Argentina has a lot of insurance it can tap in order to survive outside the market for a long period of time. Yet this is of limited comfort to investors who require that the credits they invest in not only have contingent strategies during times of financial stress but also an inclination and a strategy to come back to the market to secure minimum financing over a reasonable timeframe—which is what Argentina currently lacks.

Republished with permission from the Inter-American Dialogue's daily Latin America Advisor newsletter. 


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