Argentina’s Debt Restructuring Deal – A Silver Lining for a Stricken Economy
“May we never again enter this labyrinth [of indebtedness], please”.
Those were the words of President Alberto Fernández when Argentina closely avoided another major financial crisis as 99% of its creditors overwhelmingly backed a new debt restructuring deal. This $65bn agreement has defused fears of another messy default for Argentina – a welcomed relief for the country which has been in deep recession since 2018. The restructuring deal allows the Latin American country to escape a tenth sovereign debt default since its independence and terminate a long run of mismanaged external debt repayments. Argentina has defaulted on its sovereign debt three times in the past twenty years. [1]
Despite the coronavirus pandemic, which has only aggravated the poor economic conditions the country finds itself in, the government takes a step in the right direction following nine months of rocky negotiations with its creditors. Negotiations were led by large investment companies BlackRock, Ashmore Group and Fidelity Investments, which stood to represent the interests of creditor groups and attain favourable terms. Amongst the creditors represented included the Argentina Creditor Committee, Argentina’s Exchange Bondholder Group and the Ad Hoc Group of Argentine Bondholders – three groups the Argentine government owes more than half of its overseas debt. [2]
Both sides of the restructuring attained a compromise only a few hours before the deal deadline in early August. The main question now is whether Argentina can capitalise on a few years of much-needed debt relief, and perhaps reignite its economy as inflation has recently hit 45%, the Argentine peso has lost more than half of its value, and gross domestic product is expected to decline for a third consecutive year. [3]
But first, let’s delve into the chain of events – dating back to the 1950s – that have imposed such a considerable debt burden for Latin America’s third largest economy.
Perón to Macri – Argentina Suffers From Poor Policymaking
Argentina’s restructuring dilemmas in the past 15 years originate mainly from an economic depression the country faced at the turn of the 21st century. Unsound policymaking and political corruption throughout the past decades are to blame for such a prominent economic downfall.
From 1946 to 1955, Argentina suffered from strong protectionist measures and aggressive money printing under the leadership of populist figure Juan Domingo Perón. Perón’s controversial approach to economic policy gave rise to hyperinflation, shrinking incomes, and record-low purchasing power – from which the economy languished for four decades. Political and economic uncertainty persisted up until pragmatic ‘Peronist’ Carlos Menem came to power in 1989 and introduced neo-liberal economic policymaking – consisting of free trade agreements and the introduction of a currency board to tame hyperinflation issues. Through the implementation of free-market reforms Menem, and his economy minister Domingo Cavallo, strengthened the economic landscape and provided support to Argentines devastated by the lack of financial opportunities in previous decades. Subsequently, investor confidence rose, enabling a large influx of capital from abroad. Modernised means of production enabled an annual economic growth rate of 6.1% between 1991 and 1997, the highest in Latin America during that period.
This period of prosperity was overturned when external shocks led to an unparalleled decline in economic activity and output. Ever so reliant on exporting commodities, collapsing commodity prices and increasingly competitive exports from neighbouring country Brazil drove Argentina into another severe recession. Brazil effectively attracted foreign investment after devaluating its currency, the real. This was particularly difficult for Argentina as export-led economies of scale were eradicated quickly, taking its toll on prominent industries, as well as the well-being and growth of the economy.
Public debt accumulated under Menem’s leadership, as a result of excessively loose fiscal policy. Even so, at the detriment of the population, the Argentine government still engaged in printing government bonds as a remedy for a deep fiscal deficit in the late 1990s – in addition to rising debt obligations the government was entitled to with various creditors including the International Monetary Fund (IMF). Furthermore, the government was operating under an outdated, and broadly inefficient, fiscal spending framework and tax system. Tax revenue in GDP terms was low, and evasion was common. President Menem seldom focused on initiating much-needed reform in areas such as infrastructure, labour laws, or social provision and would rather allocate funds towards political endeavours.
In 1999, it was far too late for newly elected President de la Rúa to reverse the wrongdoings of his predecessor. Entering the early 2000s, de la Rúa was forced to limit public spending in the midst of a recession – but even so, his government was incredibly ineffective. Political corruption was flagrant, and despite the limited options presented to the Argentine government, policy execution was poor. [4]
In the midst of the Argentine economic depression, the country defaulted on $93bn of external debt in 2001 and attempted to restructure the terms of the unpaid debt in 2005. Around 76% of defaulted bonds were exchanged in 2005. A second debt exchange reopened in 2010, 5 years later, at which the Argentine government managed to exchange 93% of defaulted bonds in 2001. Creditors which agreed to the restructuring of their bonds settled for repayments of 30% of face value and deferred debt payments. All is well – until the 7% of ‘holdout’ bondholders, comprising mainly of hedge funds and vulture funds, find a loophole in the restructuring process which prohibits the Argentine government to give preferential treatment amongst all of its creditors (pari passu clause). Additionally, a rights upon future offers clause entailed that if any later settlement offered better terms, all existing settlements would be reimbursed using the improved terms.
In short, Argentina either had to pay all of its bondholders at full face value, or none at all. Unable to do the former, the Argentine government defaulted on the debt it had attempted to restructure for all these years. At stake was equally Argentina’s unfettered access to international capital markets, which the country lost subsequent to its legal disputes with holdout bondholders.
Mauricio Macri, elected in 2015 (yes, another president contributing to this crisis), attempted a return to international capital markets by proposing a lawsuit settlement to some holdout bondholders. Thinking this would signify a long-awaited end to Argentina’s restructuring issues, $1bn of defaulted sovereign bonds remained unpaid. As the economy gradually weakened, Macri announced in mid-2017, that Argentina would borrow $57bn from the IMF, adding extra pressure to the country’s debt burden. [5]
As of now, Argentina has a debt pile of $323bn. The $65bn deal merely represents a portion of debt obligations towards private creditors, on foreign-law bonds specifically, and not multilateral or public-sector institutions. The restructuring includes a fraction of the country’s public debt, which has risen in nominal and GDP terms over the years. [6]
The Deal in Itself – What Terms Were Agreed Upon?
“Logic prevailed at the end of the day”, says Robert Koenigsberger, who has worked with Argentine authorities as an independent creditor on the restructuring deal. Private creditors and the Argentine government managed to reach a deal enabling $38bn of debt relief over the next ten years – a significant achievement for the country looking to strengthen its economy.
Maturities on the bonds were extended and interest rate payments were lowered from 7% to 3%. The new bonds offered are worth approximately 55 cents on the dollar (55% of face value at which creditors bought the securities), higher than an initial offer by the government of 38 cents on the dollar. The government is also willing to pay earlier than originally proposed. As such, interest will be paid back in advance, every January and July as opposed to March and September. Creditors will be able to switch their old bonds for new ones consisting of the agreed terms.
Argentina insisted on including new legal terms upon the securities to avoid the complications it faced in previous debt exchanges, notably the pari passu clause detonated by the 7% of holdout bondholders. Known as collective action clauses, they enable a “supermajority of creditors to force others to agree to a debt restructuring”. [7]
A LONG ROAD TO RECOVERY – WHAT IS ARGENTINA PLANNING TO DO NEXT?
The Argentine government is now proceeding to restructure an additional $70bn of debt it owes to multilateral institutions such as the IMF. The IMF rarely takes haircuts on debt negotiations, yet the Argentine government is looking to perhaps extend the repayment date. The government will equally tackle provincial debt as part of smaller regional restructurings. [8]
Above all, Argentina is attempting to navigate through an unprecedented economic turmoil and as current President Fernandez has made his job slightly more bearable, his efforts will be directed towards combating the virus.