Ever since they have sat around a fire, or in
comfortable candle-lit theaters, humans have enjoyed good comedies. A recurring target of laughter has been he
who indulged in hyperbole; Plautus’ Miles Gloriosus, the Commedia dell’ Arte’s
Matamoros and Theophile Gautier’s Capitaine Fracasse, one character for
the ages.
For some reason, I was reminded of this
transcendental “hero” when I read Argentina’s economy minister declare
yesterday: “We are not going to sign any
agreement that compromises the future of the Argentine people”[1].
Was the minister was referring to a demand made at
gun point by a world power to grab the country’s oil and gas deposits or to blockade
its grain exports lest it can set its own prices? No, the minister was referring to his refusal
to pay some $1.5billion of sovereign debt and interest thereon to investors[2]
who refused to accept the “restructuring” terms imposed in 2004 by the
Argentine government!
Well, restructuring is perhaps misleading... Before 2004, when countries were unable to repay
their debts as originally agreed, they negotiated; that was in the interest of
all parties. The Brady bonds which were
issued in 1990-1994 to restructure the debts of most Latin American sovereign
debts[3]
included an estimated forgiveness or “haircut” of 30% to 40%[4]. In 1998, Russia broke with tradition by
insisting on a haircut of about 55%; there again, the eventual loss was much
lower.
Argentina decided to go for a 75% haircut! In my mind, that was tantamount to reneging
on its obligations. Why did they get
away with it? For two reasons: 1)
Argentina’s was an isolated country default at the time rather than part of a
wider regional or global meltdown, so that institutional creditors had more
capacity to take losses, and 2) unlike in the 1980s and 1990s, Argentina’s
debts were mostly in the form of bonds which were widely held - including
famously by Italian pensioners - and traded; the creditors were thus in a weaker
bargaining position.
Being traded at very low prices, some of these bonds
were acquired by vulture funds which bet that, since under New York law, one
party to a contract cannot amend it unilaterally, they stood a good chance to
get paid. It has taken them a decade,
but they seem close to their goal.
Ironically, there has been much hand-wringing by
states, money-center banks and even the IMF of all people, that the legal travails
of Argentina are bad for the global financial system because they show that
orderly restructurings are not feasible.
“Experts” have suggested including cram-down clauses[5]
in the borrowing contracts; local “experts” have suggested that sovereign
debtors borrow under their own laws so that they could amend them to suit their
debt service ability (or willingness).
It is true that the investor base of emerging
markets bonds is much broader than it was thirty years ago, making it more
difficult to obtain unanimity in case contracts need to be amended. But
the application of New York law and the absence of cram-down clauses have also permitted emerging countries to borrow at very low rates. If a debtor in difficulty proposes a
rescheduling that matches its future capacity to pay, chances are that there
should not be much room for arbitrage; and if some creditors opt out, they
should represent a small enough percentage to be bought out.
A financial system allowing sovereign debtors to
legally renege on their obligations by taking refuge behind their own laws or
generous cram-down clauses cannot work: not for institutional traders (who couldn’t
count on always finding willing buyers with whom to close their positions), not
for investors (who would face too many unknowns to make long term commitments)
nor for borrowers (who would have to pay much higher interest rates).
Finally, let us put Argentina’s cries (or bravado)
in perspective: because of its defaults
of 1983 and 2001, I don’t believe that Argentina has repaid any sovereign 10
year loan or bond issued between 1974 and now according to its original terms.
So the Argentine debt saga will go on for a while at
least. Over the last decade, its economy
has continued to deteriorate, not just because the country couldn’t access
international financial markets, but because its government practiced policies,
from price fixing to expropriation and debt renegation, which discouraged
investment from locals and foreigners alike and distorted the country’s economy
and finances.
Nothing to brag about.
[1] As reported by the Financial Times on
7/31/14.
[2] Mostly Elliott Management Corp. after they
had bought them from previous creditors.
[3] Non Latin American countries also issued
Brady bonds.
[4] Estimated because it depended on the level
of future US Treasury yields and Libor rates as the Bradies were priced off
them. In reality, as US interest rates
dropped continuously in the 1990s and 2000s, the eventual loss to
creditors (if they had held on to the
paper) was much less.
[5] Such clauses would permit the debtor to
force new repayment terms on its creditors provided they had been accepted by a
minimum proportion of them (15% to 25%).
