In June, this column predicted that default was inevitable, whoever won the coming presidential election. The foreign currency debt dynamics that had led to the IMF’s $56 billion rescue package had become a mortal weakness. That rising debt meant that the IMF was to be the life support for an economy that would never be able to recover sufficient strength to return to the international capital markets. (Luckily for Christine Lagarde, her departure means that she will avoid mopping up after the fund’s largest ever bet collapses.)
However, while the poor showing by President Mauricio Macri in the primaries in mid August doesn’t change the inevitable default, it does impact its nature and timing. The fact that Macri performed so badly all but guarantees that the country’s next president will be Alberto Fernandez – quite possibly to be confirmed with a victory on October 27.
Among bankers, and particularly investors, the focus is now on recovery rates as the basis of market value of Argentine bonds. Most of the debt is now trading between 40 cents to 50 cents on the dollar – in line with some predictions of recovery values.
However, there is much unknown, and unknowable, that impacts on these calculations. Many bankers and investors point to the fact that Fernandez will have Cristina Kirchner as vice-president as reason to be fearful, with her historical antagonism towards the IMF cited as a likely cause of friction in coming negotiations.
In truth, Kirchner’s presence probably won’t matter much. The room for manoeuvre by the next government will be small, and it will be in the next administration’s interests – both economically and politically – to seek to restructure the outstanding debt as quickly as possible.
By blaming the Macri government for running up these debts on the back of “an unsustainable reform programme” the government will be able to minimize the economic damage and the political fallout for default. Speed will aid both motivations.
Some suggest Kirchner might push Fernandez to refuse to recognize these debts. It’s possible, of course, but any rational approach would suggest that (even) Kirchner would have by now learned the cost of isolation from global financial systems.
The IMF itself has a tricky choice to make: it should really refuse to write the cheque for $7.6 billion due in September, as its own rules prevent it from supporting a sovereign whose debt is unsustainable and when the sovereign has little prospect of regaining market access. If Argentina – whose foreign currency debt-to-GDP is approaching 100% as its currency collapses – doesn’t fit these two definitions, then such qualifiers are surely meaningless.
However, the fund may decide to delay acting until after the election. It would be advantageous to Macri’s slim chances not to be plunged into debt restructuring during the election campaign and the fund could cite precedent with its decision in Ukraine in 2014 to delay acting until after elections.
The default, then, could be delayed until next year. Even if the IMF refused to make the September disbursement the government could pay for its light amortization payments in the coming months through central bank reserves. This scenario, however, requires an IMF official being brave or foolish enough to authorize a $7.6 billion payment that will pretty obviously never be fully repaid.
If the country staggers on through the end of this year – likely lurching into ever-deepening recession as the central bank keeps monetary and fiscal policies tight to support the currency and meet fiscal targets – a messier restructuring would inevitably come, as more than $8 billion of dollar repayments become due in the second quarter of 2020.
In that scenario, the peso would come under renewed pressure and the debt dynamics would deteriorate again as investors worried about evaporating FX reserves – pushing debt-to-GDP up towards 150%. This would make recovery rates materially worse for holders of Argentine paper, at around 30% or possibly lower.
So the good news is that it will be in all parties’ interests to negotiate a quick default agreement: the new government, holders of Argentine debt and the IMF.
But the longer-term costs of this ninth default will linger nonetheless. The spectacular failure of Macri’s government will teach Argentines all the wrong lessons about economic and financial policies. And it will likely (finally) teach investors the right lessons of the risks of investing in Argentina, whoever is in charge. Even in a world of abundant, cheap capital, it is hard to imagine any meaningful demand for future Argentine sovereign issuance.
The irony is that the next government will inherit a very public economic crisis from the previous government, arguably the one Macri inherited and managed to postpone for almost all his own administration. The double irony is that the administration containing vice-president Kirchner won’t be blamed for the whirlwind she absolutely sowed.
So, are Cristina Kirchner and Christine Lagarde linked by fortune? Sometimes it feels like baseball player Lefty Gomez’s quote “I’d rather be lucky than good” plays a bigger role in the world than it should.