A crash course in default
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A crash course in default

Default on Ecuador's Brady bonds could set the pattern for other bigger Brady debtors to follow. The IMF and other multilaterals appear to be egging them on. But is this the new pragmatic model for bailing in private creditors and avoiding moral hazard, or is it the first blast of a nuclear winter in emerging markets? By Michael Peterson.

The first default on an international sovereign bond since the 1930s took place on September 28. That date was the last chance for Ecuador to meet a $44.5 million coupon payment on one of its Brady bonds. This event, which passed without much comment from world leaders, has greater significance for the relationship between the rich world and emerging markets than Ecuador's small size would suggest. It marks the start of a new approach by the governments of the developed world and the IMF to countries that get into trouble with their balance of payments. And it teaches investors, bankers and other borrowers their first lessons in how sovereign Eurobond default will work in practice.

Few doubt that the IMF gave Ecuador a nod and a wink to default on its bond debt. The timing was the give-away. On August 25, Ecuador's president, Jamil Mahuad, announced that his country would not meet the coupon payment due on two of its Brady bonds. It would invoke a grace period that gave it 30 days to come up with the money or an alternative solution. Then, on August 31, the IMF said it had reached preliminary agreement on a loan for Ecuador.

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