Argentina: Once 5th largest economy in the world —now a case study in what “not to do…”
(CUSA) – National instability is the rule not the exception in a once flourishing nation that succumbed to tyranny and corruption instead of building a culture of prosperity.
The resulting debacle and failure is painfully evident. Our business Contributing Editor Dennis Lohouse has the back story of Argentina’s current woes. —Ed.
by DENNIS LOHOUSE—
When is a defaulted bond, not a faulted bond? Actually, when Argentina makes an interest payment and a New York judge holds the money, it is a technical default. This is no big surprise to most in the finance business, because Argentina has defaulted 8 times in the last 200 years.
The country has been racked by political volatility including six coups beginning with the first, which came in 1930. It is difficult to think long term when inflation is high and the government is uncertain!
Argentina is a case study in what not to do. A century ago it was the 5th largest economy in the world. Once thought of as the United States of South American, its free market economy was they envy of the Southern Hemisphere.
Decades of incompetent and corrupt management, political turmoil, and experimentation redistributionist policy and asset confiscation led the country into a downward spiral of inflation and default.
According to the International Monetary Fund (IMF), it’s once formidable economy has fallen to 22nd place in the world as measured by purchasing parity adjusted GDP. One cannot read the story of Argentina without asking what lessons can be learned by American business and government leaders.
The crux of this most recent “failure to pay” has it origins in another default back in 2001. Once the Argentines realized that were doing a poor job managing their monetary system, they decided to peg the peso to the US dollar thereby adopting the policies of the Greenspan Federal Reserve.
Of course this approach makes local monetary adjustment very difficult. Case in point, when the European and Brazilian currencies weakened significantly in the 1990’s, Argentine exports, as well as imports, became very expensive. The mix of higher prices and weak economic growth fueled the decline that lead to the 2001 default.
The story picks up recently as a New York judge ruled that if Argentina pays its current bondholders, it must also pay the remaining defaulted bondholders who did not participate in the settlement offered them in 2001.
In other words, bondholders were offered 35 cents on a dollar for their defaulted bonds and 93% took the offer preferring something to nothing. The remaining 7% decided to go it on their own, hoping to get more than the 35% offered.
They are still hoping that they might actually get full value. Should Argentina pay this, it would trigger other and more onerous claims. Therefore, a payment was made, destined only for current bondholders, which was held up by the New York Court.
Since the money never made its way to the bondholders, Argentina is technically in default. Payments on insurance contracts have been triggered as a result of this default causing some bondholders to be made whole on their bonds, and insurers to be facing significant losses.
This is a messy business for the Argentines and for the sovereign bond market. It is also a morality play for those who believe in central planning particularly involving import policy. The tendency to protect local markets, rising tariffs and closed markets can deepen internal economic woes just as it did during the 1930 in the United States.
In Argentina, as a commodity-driven economy and food producer/exporter, government policy had the effect of raising food prices to the locals by shipping produce overseas.
A government cannot hope to bring about long-term prosperity by sheltering its markets, especially when the government itself cannot be trusted. Capital flows stop when investments are subject to confiscation and obligations are not respected.
According to the Economist (Feb 2014) there are four types of countries: developed, developing, Argentina and Japan. The latter two stand out as countries that seem out of sync with the world.
Certainly Argentina has spent the last 100 years taking down its political and economic structures to such an extent that it may not be appropriate to consider it a “developmental” opportunity.
For this to occur the people themselves would have to change as would the institutions that control regulation, international business, the courts, and of course that small matter of default must be settled so that the country can move ahead.