Order Code RL32637
CRS Report for Congress
Received through the CRS Web
Argentina’s Sovereign Debt Restructuring
October 19, 2004
J. F. Hornbeck
Specialist in International Trade and Finance
Foreign Affairs, Defense, and Trade Division
Congressional Research Service ˜ The Library of Congress
Argentina’s Sovereign Debt Restructuring
Summary
In December 2001, after four years of deepening recession and mounting social
unrest, Argentina’s government collapsed and ceased all debt payments. Argentina
has failed to pay before, but this time it registered the largest sovereign default in
history. Argentina must restructure over $100 billion owed to domestic and foreign
bondholders, including $10 billion held by U.S. investors. A final offer made in June
2004 amounted to a 75% reduction in the net present value of this debt, and although
an improved offer is expected by year-end, it is still the largest proposed write-down
in the history of sovereign restructurings, which foreign bondholders have rejected.
Regardless of how Argentina’s debt is finally resolved, it will likely represent
an unprecedented loss for bondholders. This will have widespread repercussions not
only for creditors, but for Argentina’s long-term financial sustainability, developing
country debt markets, guidelines for future sovereign debt restructurings, and the
International Monetary Fund (IMF). All of these issues have been the subject of
congressional hearings focused on evaluating the causes and ongoing repercussions
of Argentina’s financial crisis.
Argentina must settle with foreign bondholders if it is to return to the sovereign
debt market, which will be necessary for financing investment in long-term growth.
Argentina has made a reasoned case that its debt is simply too big to repay;
nonetheless, the default is not only unprecedented for its low recovery rate, but also
for the process that has stretched (creditors would say flaunted) the guidelines of
sovereign debt negotiations. This applies to both informal negotiation guidelines
understood to be in play by bondholders, and a more formal understanding as
embodied in the IMF’s policy of lending into private arrears.
Argentina’s experience raises important questions in at least three major policy
areas: country decisions to default on debt, codes of conduct for emerging market
debt restructurings; and the role of the IMF in helping resolve financial crises.
Although other countries may look to Argentina as a model for reneging on sovereign
debt, the cost of Argentina’s financial collapse in long-term social and economic
terms has been devastating. For investment firms and other holders of emerging
market debt, there is no denying that the huge loss taken on a default like Argentina’s
is a highly negative precedent.
The fact that debt workouts are being completed, even if not always smoothly
or in a timely fashion, may suggest that the “market system with IMF assistance”
approach is still preferable to taking another shot at reinventing the international
financial architecture, including creating some type of sovereign bankruptcy option.
But should the Argentine case fail to be resolved to the mutual satisfaction of all
parties, it could reinvigorate interest in a systematic and internationally recognized
debt restructuring system, because as Argentina has shown, once insolvency occurs
and debt becomes far too large to manage, there may be little incentive for countries
to work with the existing unenforceable system in finding a quick and consensual
solution. This report will be updated periodically.
Contents
A Summary of Argentina’s Sovereign Debt . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1
Recovering Defaulted Sovereign Debt . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4
Argentina’s Debt Restructuring Strategy . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6
The Dubai Proposal . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7
The “Final” Buenos Aires Offer . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 9
IMF Program “Suspension” . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11
Concluding the Restructuring Agreement . . . . . . . . . . . . . . . . . . . . . . . . . . 11
Outlook and Implications . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 12
Argentina . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 13
The IMF . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 14
U.S. Policy . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 14
Emerging Markets and Debt Restructurings . . . . . . . . . . . . . . . . . . . . . . . . 15
List of Figures
Figure 1. Global Distribution of Argentine Debt to Be Restructured . . . . . . . . . . 3
List of Tables
Table 1. Argentina’s Sovereign Debt . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2
Table 2. Argentina: Selected Economic Indicators . . . . . . . . . . . . . . . . . . . . . . . . 4
Argentina’s Sovereign Debt Restructuring
In December 2001, after four years of deepening recession and mounting social
unrest, Argentina’s government collapsed and ceased all debt payments.1 Argentina
has failed to pay before, but this time it registered the largest sovereign default in
history.2 Argentina’s total public debt grew from 63% of GDP in late 2001 to a
record-breaking and unsustainable 150% following default and devaluation in early
2002. Argentina must restructure over $100 billion owed to domestic and
international bondholders, including $10 billion of bonds held by U.S. investors.
When a country defaults, resolving its financing shortfall entails adopting
policy changes, obtaining official emergency financial assistance from the
International Monetary Fund (IMF), and undertaking debt restructuring.3 Nearly
three years after the default, the first two are in place to some degree, but Argentina
has yet to finalize a debt restructuring agreement. Regardless of how Argentina’s
debt is finally resolved, it will likely represent an unprecedented loss for bondholders.
This will have widespread repercussions not only for creditors, but for Argentina’s
long-term financial sustainability, developing country debt markets, guidelines for
future sovereign debt restructurings, and the IMF. The U.S. Congress has held
numerous hearings to evaluate the causes and ongoing repercussions of Argentina’s
financial crisis. This report analyzes Argentina’s debt situation in support of this
interest and will be updated periodically.
A Summary of Argentina’s Sovereign Debt
The Argentine government owes $195.5 billion in bonds and loans, a vast
amount by any measure. The debt portfolio can be classified into three categories
defining how the debt will be managed (see Table 1). First, performing debt, is debt
being serviced, or not in arrears. Second, non-performing debt not to be restructured
is debt that is not part of the current restructuring effort, but is not being serviced.
Third, non-performing debt to be restructured comprises the multitude of bonds
1 For more on the crisis, see CRS Report RS21072, The Financial Crisis in Argentina, and
CRS Report RL31582, The Argentine Financial Crisis: A Chronology of Events, by J. F.
Hornbeck.
2 Indeed, from 1824 to1999, Argentina’s sovereign debt was “either in default or undergoing
restructuring a quarter of the time” and it has by far the lowest Institutional Investor rating
of all major emerging market economies. Reinhart, Carmen M. Kenneth S. Rogoff, and
Miguel A. Savastano. Debt Intolerance. Brookings Papers on Economic Activity. William
C. Brainard and George L. Perry, eds. Washington, D.C. 2003. pp. 6-7.
3 Debt restructuring implies a formal change in the contractual arrangements of the debt,
such as reducing the face value of the debt and issuing new bonds with lower interest rates
and longer maturities — usually at a sizable cost to bondholders.
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subject to the current restructuring efforts. This third category can be further
disaggregated into principal and so-called past due interest (PDI), or interest that has
accrued, and is still accruing, but has not been paid. PDI in sovereign debt workouts
historically has been repaid in full, either up front, or as a new bond issue separate
from the principal due (often referred to as a PDI bond). How PDI is handled is an
important part of the debt picture for any sovereign debt default.
Table 1. Argentina’s Sovereign Debt
($ billions)
Debt Category
Amount
Percent
Performing Debt:
84.7
43.3
International Financial Institutions (IMF, World Bank)
(32.7)
BODENs*
(26.8)
Guaranteed Loans
(12.9)
Provincial Bonds
(10.0)
Other
(2.3)
Non-Performing Debt Not to Be Restructured:
6.7
3.4
Bilateral (including Paris Club)
(4.8)
Commercial (mostly banks)
(1.4)
Past Due Interest (PDI)
(0.5)
Non-Performing Debt to Be Restructured:
104.1
53.3
Principal
(81.2)
Past Due Interest (PDI) (through June 2004)
(22.9)
Total Public Debt
195.5
Data Source: Government of Argentina and Credit Suisse First Boston. *Bonos del Gobierno
Nacional — National Government Bonds.
Performing debt includes all debt owed to the international financial institutions
(IFIs); BODENs, or bonds issued to compensate banks and depositors for the peso
devaluation; guaranteed loans for sovereign debt previously restructured during the
final attempts to avoid default in 2001; and provincial debt that the federal
government assumed after the crisis. Except for the obligations owed to international
organizations, most of this debt is held by Argentines and has been fully “pesified.”
This means that the non-IFI bondholders already reduced their claims, when in 2001
their bonds were restructured, and again in 2002, when their dollar-denominated
bonds were converted to devalued pesos (pesified).4
The Argentine government has reasoned that both the IFIs, which have
continued to lend to Argentina, and those creditors who participated in the
“voluntary” restructuring and “pesification” of debt, should not be further penalized
because they have been actively engaged in helping Argentina solve its financial
problems. In fact, there seems to be little room for restructuring this debt without
reigniting a crisis. Defaulting on the IFIs is not a realistic option. Their debt is
considered “senior” to all other and is always repaid in full, except under the rarest
of circumstances. Such a default would place Argentina in a small group of countries
completely shut off from external capital. Nor has Argentina much room to
4 Credit Suisse First Boston. Emerging Markets Daily Latin America. March 7, 2003, p. 2.
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restructure most of the domestically held BODENs. Many were placed with
depositors and financial institutions, under some government pressure, so a default
or write down could jeopardize the banking system. Restructuring BODENs held by
public sector pensions would be politically unfeasible for similar reasons.5
This leaves two categories of non-performing debt that are left to take the brunt
of the debt write-down. The smaller of the two is $6.7 billion, mostly bilateral debt
owed directly to countries (Paris Club) and some commercial bank loans. This debt
is not being serviced nor currently restructured and its status is undetermined. The
important figures for understanding the debt workout are those summarized in the
third group, non-performing debt to be restructured. This involves $81.2 billion
worth of bonds at nominal or face value that Argentina has not honored since the
December 2001 default. In addition, accruing interest is estimated to be $22.9 billion
as of June 2004, which may hit $25 billion by 2005.6 Therefore, for purposes of
discussion in this report, the total value of the restructured debt to be evaluated is
$104.1 billion ($81.2 + $22.9 billion), or only 53% of total public debt.
Figure 1. Global Distribution of Argentine Debt to Be
Restructured
Countries worldwide invested in Argentina’s bonds. As seen in Figure 1,
Argentines are the most exposed, owning 47% of the total face value of debt to be
restructured (not including interest), mostly held by pension funds and banks.
Second in order are the European retail (private) investors who hold 35% of the bond
debt concentrated in Italy, Switzerland, and Germany. U.S. money manager,
5 Gallagher, Lacey. Argentina Debt Restructuring: Past or Future? Credit Suisse First
Boston. August 20, 2003. pp. 13,15, and 23.
6 Global Committee of Argentina Bondholders (GCAB). Roadshow Presentation. July
2004. This document may be found at [http://www.gcab.org].
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insurance, and institutional accounts hold 12% of the debt or $10 billion, including
funds that have purchased highly discounted debt on the secondary market. The last
6% is held by Asian and Latin American creditors. Bonds were issued in seven
foreign currencies, mostly in the U.S. dollar, Yen, Euro, Lira, and Deutsche Mark.
Recovering Defaulted Sovereign Debt
When a country becomes insolvent and defaults on its debt, a general framework
for analyzing its options points to three critical responses. First, the country must
adjust policies. This includes correcting fiscal and current account deficits, as well
as structural imbalances, which in Argentina’s case involve the banking sector, utility
regulation, and federal-provincial fiscal relations. Second, emergency IMF financing
is needed. Third, debt must be restructured to achieve longer-term financial
sustainability.7
As seen in Table 2, Argentina has dealt with the first issue in part by making
dramatic fiscal adjustments. With the return of robust economic growth, increased
taxes, and reduced expenditures, Argentina is now running a large primary budget
surplus, defined as the surplus that exists after all public expenditures have been met
except for interest on debt. This surplus is a direct measure of a country’s fiscal
capacity to service its debt, and theoretically, is available entirely for debt service.
The correction of the current account balance from deficit to surplus points to the
reversal of borrowing abroad and the generation of foreign exchange available to
repay foreign obligations and rebuild international reserves.
Table 2. Argentina: Selected Economic Indicators
1999
2000
2001
2002
2003
2004
2005
Real GDP Growth (%)
-3.4
-0.8
-4.4
-10.9
8.9
7.0
4.0
Current Account Balance
-4.2
-3.1
-1.6
13.8
9.3
7.4
4.3
(% of GDP)
Primary Budget Surplus
-0.8
0.4
-1.3
0.9
2.8
4.5
3.9
(% of GDP)
International Reserves
27.1
26.9
14.9
10.5
14.1
18.5
19.6
($ billion)
Debt (% of GDP)
47.4
50.8
62.5
150.6
146.7
140.0
130.0
Poverty Rate (%)
27.1
29.7
35.4
53.0
54.7
—
—
Per Capita GDP ($ 000)
7.8
7.7
7.2
2.7
3.3
3.8
3.7
Data Source: IMF. Second Review Under the Stand-by Arrangement and Requests for Modification
and Waiver of Performance Criteria. March 12, 2004. p. 24 and Credit Suisse First Boston. Primary
surplus is for consolidated (federal and provincial) accounts. 2005 data are projections.
7 Roubini, Nouriel and Brad Setser. Bailouts or Bail-Ins? Responding to Financial Crises
in Emerging Economies. Institute for International Economics. Washington, D.C. August
2004. p. 119.
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Since 2002, indicators point to Argentina’s strengthening capacity to repay debt,
particularly the robust growth in GDP and the primary surplus. But, ability and
willingness to service debt are two different issues. Argentina insists that not all
residual financial resources available for debt should be so used. The country’s
massive economic downturn resulted in a 50% poverty rate, with real per capita GDP
falling back to levels of 30 years ago. Social programs and domestic investment are
also deemed critical for its economic recovery and political stability. It becomes a
serious political (some would say moral) decision to decide what percentage of
public resources should be spent on social programs versus debt reduction, a decision
that also hinges on a defaulting country’s bargaining power.
Second, Argentina has an ongoing relationship with the IMF, which with the
strong support of the United States, has continued while in default to private
creditors. The IMF provides emergency financing subject to policy adjustments.
While making corrections to fiscal policies is almost unavoidable when insolvent, it
is far more difficult to make deeper structural reforms. IMF lending typically is done
with a clear understanding that such challenging reforms will be accomplished. The
IMF cannot dictate policy, but theoretically it can exert leverage by having the option
not to lend — a point of some contention in the IMF-Argentine relationship.
The IMF also has a role to play in the third major challenge, restructuring the
debt. Although it does not participate directly in debt restructuring negotiations, the
IMF can continue to lend to a country in default. Specifically, IMF policy allows
“Fund lending into sovereign arrears to external private creditors...in circumstances
in which: (i) prompt Fund support is considered essential for the successful
implementation of the member’s adjustment program; and (ii) the member is
pursuing appropriate policies and is making a good faith effort to reach a
collaborative agreement with its creditors.”8 The IMF obviously has an influential
role in encouraging negotiations to move forward through its program conditions,
and as a creditor.
When, in December 2001, Argentina halted the final attempts to avert a default,
it faced a massive restructuring problem with bondholders from throughout the
world. While it was widely understood that Argentina would not be able to repay its
debt in full, the question remains, what amount (and conditions) would satisfy both
creditors and the Argentine government?
Countries in default reach a voluntary agreement with creditors or risk costly,
prolonged, litigation and ostracization from financial markets. Litigation is the least
preferred method given that recovering sovereign assets is nearly impossible. There
are no formal rule books for how to proceed, but all parties are best served by
avoiding a protracted and confrontational negotiation. Negotiations may take the
form of formal meetings between creditor committees and government groups, less
formal consultation arrangements, or some combination. The process can be lengthy,
8 IMF Board Discusses the Good-Faith Criterion Under the Fund Policy on Lending into
Arrears to Private Creditors. Public Information Notice No. 02/107. September 24, 2002
and Fund Policy on Lending into Arrears to Private Creditors — Further Consideration of
the Good Faith Criterion. July, 30, 2002. pp. 6, 15, and 19-20.
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but historically has resulted usually in a timely agreement with a 90% or more
bondholder participation rate, although Argentina is clearly the exception. Widely
accepted basic guidelines suggest that creditors should be treated equally in terms of
taking losses, although domestic and foreign debt tend to be treated differently, and
that the government in default should make every reasonable effort to pay as much
as it can. These generalities obviously allow for a great deal of leeway in specific
debt negotiations.9
Sovereign debt workouts typically involve issuing new debt for old, under more
lenient conditions that allow a country to eventually recover its financial standing in
the international community. Recovery rates have varied, depending on the
circumstances of each case. Since 1990, for example, a sample of nine Latin
American sovereign debt restructurings indicates that the reduction in the nominal
value of the debt (referred to as “the haircut”) ranged from 0% to 45%, with an
unweighted average of between 35%-40% (considerably more generous than
Argentina’s proposed 75% reduction, see below).10
Clearly there is room for different resolutions, but the important goal to achieve
is Argentina’s long-term debt sustainability. This may be defined as an overall debt
burden being “consistent with the country’s overall capacity to make payments.”11
The concept implies that the debt payment schedule must be reduced, smoothed out,
and extended so that the country can afford payments under reasonable economic
assumptions. It is in the creditors’ interest to get a country to pay as much as possible
within this constraint. To ignore it is to risk a future default and starting over again.
Argentina’s Debt Restructuring Strategy
Argentina’s default was unprecedented in size, leading to highly complex and
contentious debt restructuring negotiations. Significantly, because only 53% of
Argentina’s debt is carrying the burden of restructuring, the write-down will have to
be huge for Argentina to achieve its debt sustainability goals. Notwithstanding
Argentina’s predicament, creditors argued that Argentina was not absolved of its
responsibility to negotiate and devise a restructuring plan that would allow Argentina
to reduce its overall debt, treat multiple creditors in a nondiscriminatory fashion, and
minimize the potential for lengthy and costly law suits. Having 152 bonds
denominated in seven currencies and governed by the laws of eight legal jurisdictions
greatly complicated the task. For example, debt falling under British and Japanese
law operates under collective-action clauses, which makes for relatively easier
resolution by allowing a majority of bondholders to make binding decisions for all.
Collective-action clauses do not apply to debt governed by U.S., German, or Italian
9 Roubini and Setser. Bailouts or Bail-Ins?, pp. 167 and 174 and GCAB, pp. 12-13.
10 Global Committee of Argentina Bondholders. Roadshow Presentation. July 2004.
11 Roubini and Setser, Bailouts or Bail-Ins?, pp. 20 and 172. The authors note that in
addition to the debt size, important factors include the coupon rate, a country’s ability to
adjust policies, and the amount of debt issued short-term and in foreign currencies.
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law. The result has been multiple class-action and individual law suits filed in the
United States and European countries.12
Argentina initially juggled its debt dilemma by putting off private bondholders
while negotiating with the IMF. In fact, bondholders did not have their first
significant meeting with Argentine authorities until March 2003, 15 months after the
crisis began. It was at that time that Argentina intimated that not all debt would be
treated equally, with foreign bondholders probably having to take the largest debt
write down. Details of Argentina’s offer to foreign bondholders, however, would not
be made available for another six months. While negotiations with creditors
remained stalled, on September 10, 2003, Argentina entered into a new controversial
three-year $12.6 billion IMF stand-by arrangement, replacing a seven-month interim
arrangement that had just expired. Following tense negotiations, the IMF, with
strong support from the United States, acquiesced to what some characterized as a
“soft” agreement with Argentina after it had failed to make a $2.9 billion payment,
making it technically in arrears with the IMF for one day.13
The IMF agreement was a necessary first step to take before formal negotiations
with private bondholders could begin because it provided the policy framework that
would guide the country’s economic recovery. Importantly, this included accepting
Argentina’s formal offer to the IMF to commit to only a 3% primary fiscal surplus
and only for 2004, although it would devote slightly less than that to actual debt
payments.14 The IMF interpreted this effectively as a “floor” on Argentina’s
commitments to debt service, but in retrospect, creditors correctly saw it as more of
long-term “ceiling” that signaled they should expect a larger write down of debt than
initially anticipated. At this point, it was less clear whether IMF lending would help
ensure that a timely and collaborative debt restructuring process could take place.
The Dubai Proposal
Shortly after the IMF program was in place, Argentina turned to bondholders,
making an initial offer on September 22, 2003 at the World Economic Forum
meeting held in Dubai, the United Arab Emirates. Although lacking in detail, it was
widely interpreted as an offer to pay 25 cents on the dollar of the principal value of
the debt, with no recognition of past due interest, an unprecedented stand. On a net
present value (NPV) basis, financial institutions estimated this to be a 90% rather
than 75% reduction in the value of the bonds.15 Argentina argued from the outset that
12 Pruitt, Angela. Argentina’s Debt Workout Is Complex. The Wall Street Journal, March
12, 2003. p. B9C.
13 Munter, Paivi. Argentina Disappoints. Financial Times, September 17, 2003. p. 51.
14 Latin American Weekly Report. September 7, 2004. p. 5. By comparison, Brazil has
operated with a 4.25% (or higher) primary surplus in recent years to deal with its large
sovereign debt.
15 The net present value (NPV) of an investment considers the time value of money at an
assumed discount rate. The present value of cash outflows (funds loaned) is compared to
the present value of cash inflows (principal and interest payments) over the life of the
(continued...)
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this was consistent with the 3% primary surplus target, a controversial position given
that strong economic growth would support a much larger surplus. By December
2003, even the IMF began to suggest that Argentina could muster a higher primary
surplus and make good on a greater portion of its defaulted debt.16
The Dubai proposal met with immediate resistence from creditor groups, their
governments, and the IMF. Initial speculation that the offer was only a bargaining
ploy soon gave way to a sense that Argentina was sincere and unlikely to change its
position. Bondholder groups immediately rejected the Dubai offer and the IMF
delayed the first quarterly IMF program review over the lack of movement on debt
negotiations. IMF reviews are required for a country to remain in good standing and
receive the next disbursement of funds. Great Britain, Italy, Japan and other
members representing 35% of IMF votes then registered their dissatisfaction
formally. In a highly unusual move, they abstained from what is typically a pro
forma vote to continue lending to a country that has met its economic targets.17
Nonetheless, Argentina had enough votes to survive the first IMF review, but
the second was also problematic because of a $3.1 billion payment due on March 9,
2004. Argentina continued to meet its macroeconomic targets as set out in the IMF
arrangement, but the IMF pressured Argentina over its lack of “good faith” effort in
debt restructuring negotiations and its failure to make headway on microeconomic
reforms, especially in utility pricing, banking regulation, and restructuring the
provincial-federal fiscal arrangement that had contributed to the crisis in the first
place. The IMF also required that Argentina negotiate a final debt agreement
acceptable to at least 80% of the bondholders by September 2004.18 Capitalizing on
the seemingly strong leverage that the IMF wielded at that point, some creditor
groups openly refused to continue discussions with the Argentine debt consultation
groups, while others won injunctions in U.S. courts to have liens placed on
Argentine-owned property in the United States. Undaunted by these actions,
Argentina countered by announcing that it would refuse to make the $3.1 billion IMF
payment unless it was assured that the IMF would approve the second review and the
related disbursement of funds needed to cover that payment.19
This action presented an unusual standoff and highlighted not only the fact that
a large debtor, like Argentina, wields its own leverage against lenders, but that the
IMF, with $15 billion invested in Argentina, had its own interests at stake in keeping
Argentina from falling into arrears. To the extent that this was a motivating factor
15 (...continued)
investment. The loss is the NPV difference between what would be paid on the initial bonds
compared to what would be received from the replacement bonds at lower yields and longer
maturities.
16 Latin American Brazil and Southern Cone Report. IMF Reprises Role of Villain in
Argentina. December 23, 2003. p. 12.
17 Dow Jones Newswires. Big Abstentions in IMF Vote Put Argentina Under Pressure.
January 29, 2004.
18 Reuters News. IMF Gives Argentina Debt Ultimatum. March 7, 2004.
19 Thomson, Adam. Argentina on the Edge. The Financial Times. March 8, 2004. p. 17.
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for IMF actions, it worked against private bondholders who had hoped that the IMF
stand-by arrangement would be an effective inducement for Argentina to improve its
debt restructuring offer. In the end, a compromise was reached in which Argentina
agreed to negotiate formally with all creditors, but it did not change its fundamental
offer with respect to the depth of the debt write down nor increasing Argentine
resources beyond the 3% primary budget surplus. The IMF was heavily criticized in
the press and by investment firms for failing to deal more strictly with Argentina,
which again became the central issue of the third review scheduled for June 2004.
The “Final” Buenos Aires Offer
Argentina began seemingly earnest negotiations with bondholder groups in
April 2004, but bondholders again contested this process. In the middle of a series
of meetings, which bondholders characterized more as presentations than
negotiations, Argentina unexpectedly canceled further talks and tabled its final offer
on June 1, 2004. A formal filing was made with the U.S. Securities and Exchange
Commission (SEC) on June 10, outlining the provisions of this agreement.
Bondholders rejected this “unilateral” offer even before it could be fully analyzed,
arguing that Argentina had failed once more to live up to its IMF-imposed
commitment to make “a good faith effort to reach a collaborative agreement.”
The Buenos Aires offer differed mainly by recognizing past due interest through
the end of June 2004, provided at least 70% of the bondholders agreed to the
arrangement. If less than 70% acquiesced, the offer would proceed in any case, but
PDI would be recognized only through December 31, 2003. Many features of the
Dubai proposal were retained so that the debt write off would still amount to 75% of
outstanding debt, but on a present value rather than nominal basis. This arrangement
would still allow President Kirchner to save face by claiming a 75% write down in
debt, while improving the offer to bondholders considerably over the Dubai proposal.
The huge loss to bondholders, however, would still be unprecedented.
Argentina presented the offer as final and anticipated issuing $43.2 billion
dollars in new bonds, assuming a minimum 70% participation rate (details will vary
with a smaller participation rate). A menu was offered of three options, with fully
capitalized PDI distributed as part of the discount and quasi-par bond offers, carrying
various interest rates. Discount and par bonds would be governed by international
law, the quasi-par bonds by Argentine law; all would have collective action clauses.20
! Discount bond ($19.9 billion) — existing bonds would be
exchanged for new U.S. dollar-denominated 30-year bonds with a
63% reduction (discount) in principal value carrying a 4.15%
coupon interest rate for the first five years, 4.88% for years 6-10, and
8.51% for the remainder, with a 20-year grace period on capital
payments (goal — debt and debt service reduction);
20 SEC. Form 18-K/A. Annual Report of the Republic of Argentina. Filed June 10, 2004
and Gallagher, Lacey. Argentina: What’s New in the 18-K. Emerging Markets Sovereign
Strategy Daily. Credit Suisse First Boston. June 15, 2004.
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! Par bond ($15 billion) — existing bonds would be exchanged for
new U.S. dollar-denominated 35-year bonds at face (par) value,
hence no reduction in principal. Coupon interest rates would be
2.08% for the first five years, 2.5% for years 6-15, 3.75% for years
16-25; 5.25% for the remainder, with a 25-year grace period on
capital payment (goal — debt service reduction), and
! Quasi-par bond ($8.3 billion) — existing bonds would be
exchanged for new peso-denominated 42-year bonds with an
undefined reduction in principal, a coupon interest rate of 5.57%
(later estimated at 3.6-4.0%), and a 32-year grace period on capital
payment (goal — reduction in debt and debt service).
In addition, GDP-linked payments were attached to all bonds. Specifically, if
in any given year real GDP growth exceeds 3% (3.9% in 2005) in constant peso
terms, 5% of all additional growth would be directed toward increased coupon
payments for all three bonds, with an additional 5% to be used for bond buy backs.
Computing the dollar valuation of this incentive is a complicated and partially
speculative effort and the plan is clearly predicated on strong and sustained growth
of the Argentine economy, which cannot be guaranteed indefinitely.21
The financial community criticized the new bond terms on a number of
technical grounds that diminished investor response. First, the 42-year bonds would
far exceed standard 30-year maturities used for sovereign restructurings. Second, the
structure of the maturities with 20-year grace periods on repayment of principal
would effectively subordinate largely foreign-owned bonds to domestically held debt
that is not being restructured and that would be paid off first. Third, PDI would not
be recognized as a separate bond issue, but as part of the discount and quasi-par bond
offerings, and so would not be clearly linked to the original debt instruments.22
The timing of the offer was also critical, coming before the June 2004 IMF
review. Argentina needed to represent itself as making good faith negotiations with
creditors in order to remain in good standing with the IMF. While the June offer was
undeniably more generous than the Dubai proposal, creditor groups, led by the
Global Committee of Argentine Bondholders (GCAB), complained that it was a
unilateral proposal presented as a final ultimatum and lobbied to have Argentina
declared in breech of IMF conditions. They also returned to the courts and responded
with a counter proposal that would shorten maturities, include a down payment, and
raise the overall recovery rate from 25% to 55-60% of the original debt value.23 This
action was based on the robust growth of the Argentine economy that the GCAB
argued should allow for higher payments on debt.
21 Ibid, p. 2.
22 Ibid.
23 The GCAB reportedly represents 75% of foreign bondholders. See
[http://www.gcab.org].
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IMF Program “Suspension”
The IMF has a policy of remaining neutral in debt negotiations, but through its
review process, effectively serves as an arbiter between Argentina and its
bondholders, whose respective assumptions regarding Argentina’s ability to repay
creditors appeared to be irreconcilable. The IMF and any leverage it had was
sidelined in August 2004, however, when Argentina announced it would “suspend”
its IMF agreement, thereby giving up temporarily access to further lending.24 It was
clear at that point that Argentina was out of compliance with the IMF arrangement,
including the commitment to enter into “good faith” negotiations with creditors.
Argentina was effectively playing off against each other the three pillars of crisis
resolution (policy adjustment, IMF financing, and debt restructuring). It reasoned
that, for the short term, it needed the time and freedom from IMF conditionality to
finish negotiations with creditors more than it needed IMF financing.
In addition, Argentina requested, and was granted on September 17, 2004, an
extension by the IMF on payments amounting to $1.1 billion of some $2.5 billion due
in the final quarter of 2004, further relieving it of IMF pressure. Argentina pledged,
nonetheless, to stay current with its other IMF payments, which should not be a
burden given its improved international reserves position.25
The delayed IMF review ignited a debate over whether it would improve or
diminish Argentina’s leverage with international creditors. Argentina has argued that
its best chances for working out a deal with bondholders lies with completing its
offer by year end 2004, at which point it could then re-engage the IMF. Creditors
have argued to the contrary, that without IMF leverage, a debt workout is unlikely.
Although the IMF reiterated a call for Argentina “to decisively address all the
outstanding structural issues of their program, and to complete a comprehensive and
sustainable debt restructuring,”26 it is far from clear that a program suspension and
debt payment extension will provide the incentives for Argentina to push through on
these commitments.
Concluding the Restructuring Agreement
Argentina announced on October 12, 2004 that it would formally “launch” its
final offer to bondholders on November 15, 2004, once it received SEC approval.
At the same time, the Argentine government also convinced five of its largest
domestic pension funds holding nearly 20% of the bonds to accept an offer, laying
the groundwork for building what it hopes to advertise as “an acceptable” 70%
24 Argentina has used this term and it can be said that both the review process and IMF
disbursements have been “suspended,” but the agreement technically is still in effect and
Argentina can restart the review process when it is ready, as has been the case with IMF
arrangements in the past.
25 These are so-called “expectation basis payments,” which may be rolled over for one year.
See IMF. IMF Executive Board Extends Argentina’s Repayment Expectations and
Argentina: Projected Payments to the IMF. On Argentina page at [http://www.imf.org].
26 Ibid.
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participation rate.27 This tactic may prove to be a risky gamble, particularly if it is
poorly received by foreign bondholders and they decide to push through on their
threat to test their legal recourse to the limit. Such an action could then take the
international financial system into a new chapter of sovereign restructurings.
Investment firms are speculating that Argentina may amend its final offer to
garner a higher participation rate. The main enhancement would be to include an
effective issue date of January 2004 on the new bonds. The year’s interest would
effectively amount to a up-front cash payment intended to increase bondholder
participation. Assuming a cash advance, GDP-linked clause, and a 70% participation
rate, one estimate places the recovery value for non-retail foreign bondholders to be
29.5% to 31.5%, higher than the earlier 25% recovery value. Investor groups
recognize the political cost of raising the offer further, but given that it still represents
a historically low recovery rate, and that Argentina’s fiscal capacity could support a
larger effort, foreign bondholders are unwilling to accept even this offer.28
Outlook and Implications
As Argentina approaches the final stages of its sovereign debt restructuring, the
results could range from a reasonably high participation rate that might be viewed as
a success, to a complete breakdown in Argentine-investor relations and even a break
with the IMF. The second case would leave all parties the worse off. Congressional
hearings for years have focused on the IMF, the financial crises of the last decade,
and more recently the dire consequences of the Argentine default to consider policy
options that might help avoid such a dire outcome. Congress has expressed concern
over effects on U.S. investors and has focused on the destabilizing effects that large
financial crises can have on the international financial system, as well as, developing
countries and their relations with the United States. A financially unstable Argentina,
for example, raises the prospect of a politically unstable South America that may
include a backlash against the United States.29 Financial crises and sovereign
defaults are also costly, not only for creditors, but for the societies that must make
amends, which can mean years of economic hardship.
27 This rate is still very low and probably not high enough to reopen the capital markets to
Argentina anytime soon.
28 Credit Suisse First Boston. Argentina: Getting Ready for the Updated Offer. Emerging
Markets Sovereign Strategy Focus. October 15, 2004. pp. 6-7.
29 Senator Evan Bayh raised the concern over anti-Americanism in hearings on February 28,
2002 as chair of the Senate Subcommittee on International Trade and Finance of the
Committee on Banking, Housing, and Urban Affairs. Antonio Estrany y Gendre, former
Undersecretary for International Economic Relations of Argentina, in a presentation at the
Center for Strategic and International Studies in Washington D.C. on October 6, 2004,
supported this concern in noting that there has been a strong correlation between the drop
in support for the United States in Argentina with its rising economic hardship since the
crisis began. Broader concerns raised here were echoed by Senator Chuck Hagel when he
chaired hearings before the Senate Subcommittee on International Trade and Finance on
March 10, 2004.
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Over the past decade, multiple financial crises in Latin America, Asia, and the
Middle East demonstrated that circumstances vary and that one solution does not fit
all cases. Many were resolved as well as could be expected, others less so.
Argentina, however, is a clear case of failure and so enormously instructive.
Argentina’s debt ballooned beyond sustainability and the IMF, with U.S. support,
continued to lend into insolvency. The subsequent debt workout became adversarial,
protracted, and undiplomatic, and Argentina, in turn, experienced an unprecedented
economic setback that will test the fabric of its social and political life for years to
come. There is also some doubt, despite the experience of the past decade, how to
formulate a better strategy if this situation were to arise again. Future congressional
hearings may find interest in some or all of the following issues spun off from this
catastrophe.30
Argentina
Argentina must settle with foreign bondholders if it is to return to the sovereign
debt market, but it appears determined to stick to its hardline approach of committing
no more than 3% of its primary budget surplus to finance a long-term debt
restructuring, resulting in a 70-75% debt write-off on a net present value basis. It
hopes to finalize such an offer by year-end 2004 and attract as many as 70% of the
bondholders, with the remainder left to fend through the court system. If all of the
domestically held debt were to be restructured, this would mean that Argentina would
only have to convince 43% of the foreign bondholders to achieve the historically low
target of a 70% participation rate. It is far from clear, given the resistence of foreign
bondholders, that such an unprecedented outcome will materialize, or whether it
would portend a precedent setting solution from a broader policy perspective.
Argentina has made a reasoned case that its debt is simply too big to repay, and
combined with its lack of progress on structural economic reforms, there is also
reason to believe the economy may have trouble achieving levels of prolonged
growth in output and revenue needed to achieve sustainability without a huge write-
down in its debt. Nonetheless, the default is not only unprecedented for having the
lowest recovery rate in history, but for the process that has stretched (creditors would
say flaunted) the guidelines of sovereign debt negotiations. This applies to both
informal negotiation guidelines understood to be in play by bondholders, and a more
formal understanding as embodied in the IMF’s policy of lending into private arrears.
Argentina’s experience raises more questions than it answers in three major
policy areas: country decisions to default on debt; codes of conduct for emerging
market debt restructurings; and the role of the IMF in helping resolve financial crises.
Although other countries may look to Argentina as a model for reneging on vast
amounts of sovereign debt, the cost of Argentina’s financial collapse in long-term
social and economic terms has been devastating. Looking ahead under the best
scenario, Argentina faces years of foreign debt repayments while it tries to rebuild
an economy with 50% poverty and 14% unemployment rates, high crime, and
political unrest.
30 If one were to include the entire universe of issues related to the international financial
architecture and the economics of bailouts, this discussion would be far longer.
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Still, if other developing countries find themselves in a hopeless debt situation,
they could view Argentina as one model to emulate. For investment firms and other
holders of emerging market debt, such a thought reinforces their belief that
Argentina’s default is a highly negative precedent. Argentina’s negotiating tactics
have also been vilified. But the repercussions do not end there. Finding the external
financing needed for Argentina’s future investment and growth will be difficult. It
will be years before Argentina can access the sovereign debt market, and the cost to
borrow will likely remain very high even then. In the meantime, it is a test of IMF
policy to see how long Argentina can depend on IMF rollovers as a major financing
tool (it has had an arrangement with Argentina virtually continually since 1985).
The IMF
There are important questions related to IMF decision making. First, even the
IMF agrees that it may have hurt more than helped Argentina by lending too much
for too long into an untenable situation.31 The Fund struggles with defining a clear
threshold for identifying insolvency — doing so earlier would have helped Argentina.
In not cutting Argentina off sooner, the additional IMF lending only seemed to
support Argentina’s debt problem, displaced other creditor debt for seniority in
repayment, and left fewer financial resources to be used in assisting Argentina post-
crisis. This severely constrained Argentina’s debt workout options. Second,
although the IMF is virtually assured of being repaid, Argentina more than once
threatened to default on the Fund, which at least gave the appearance of having undue
leverage when it came time to discussing quarterly reviews and rolling over debt.
Third, creditors chide the IMF for failing to completely fulfill its responsibility
to uphold guidelines governing lending into private arrears. In fact, the IMF found
its leverage insufficient to persuade Argentina to negotiate a consensual agreement
with creditors. Also the IMF’s role as “official arbiter” was a critical factor in
supporting the 3% primary surplus target for Argentina’s ability to repay its debt. As
this became the de facto maximum repayment effort by Argentina, creditors
questioned whether the IMF did not help define the debt repayment ceiling from
which Argentina was unwilling to deviate. Fourth, Argentina is also demonstrating
how IMF financial assistance without needed policy reforms is insufficient to resolve
a serious debt issue. Although the IMF program has been interrupted, Argentina
must pay $4.5 billion in 2005. It will have to restart the IMF program in 2005, which
could be a problem if it fails to achieve a “successful” bond restructuring by then.
U.S. Policy
This situation points to an interesting policy dilemma for the United States as
well. The United States government, including the Congress, is concerned with the
treatment of U.S. investors abroad, but it has not openly advocated intervening on
their behalf. Official U.S. response has been limited to its actions through the IMF.
In part, this is consistent with a philosophy supporting market solutions, particularly
in light of the moral hazard criticism leveled against earlier bailouts. It may also
31 IMF. Report on the Evaluation of the Role of the IMF in Argentina, 1991-2001. June 30,
2004.
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reflect a priority for concerns over international financial stability and IMF liquidity,
which may be at odds with supporting the interests of private bondholders.
Historically, this too is an interesting outcome. During the Latin American debt
crisis of the 1980s, the solvency of U.S. creditors was of paramount concern for the
U.S. government and so they had the upper hand in negotiating sovereign
restructurings. In the case of Argentina, the pendulum appears to have swung in the
opposite direction, and it remains to be seen if this trend continues.32
Since taking office, the Bush Administration has made clear that the United
States would no longer support large sovereign bailouts, but instead allow markets
to resolve these financial disruptions. This commitment, however, proved easier to
articulate than enforce. Although the Bush Administration did not jump to the
bilateral rescue of Argentina as the Clinton Administration had with Mexico in 1995,
it has made smaller efforts with Uruguay. More to the case in point, when Argentina
repeatedly sought help from the IMF, the United States proved to be one of the
strongest voices of support. Therefore, any criticism of the IMF’s costly response to
Argentina cannot be divorced from U.S. policy, which when faced with a serious
developing country financial crisis, was unable to deviate significantly from the
course taken by the previous administration.
Emerging Markets and Debt Restructurings
Investors also paid a heavy price in the Argentine default, including those in the
United States who may ask what assistance they might get from Congress and the
U.S. Treasury in seeing their rights and investments are honored. The official
response may be that the high bond spreads on Argentine debt in the year before
default provided adequate information to assess the riskiness of this investment.
Given this market-based caveat emptor, it may be that the U.S. Government is not
prepared to adopt an interventionist policy on behalf of private investors.
U.S. bondholders, however, are pushing to have the United States weigh in
officially on the restructuring agreement, either through its voice at U.S. Treasury or
the IMF. The United States carries much weight at the IMF and can send a strong
signal as to whether future Argentine IMF reviews will be supported, albeit at the risk
of perhaps another IMF showdown with Argentina. This is the only leverage
available to encourage Argentina to change its course, and it is not clear that the
United States, other countries, or the IMF will decide to use it. The message that is
ultimately sent, however, even if silence, may affect the options that U.S. and other
creditors have in dealing with Argentina.
As for sovereign debt restructurings, the process is already changing. The
addition of more sophisticated collective action clauses is becoming increasingly
common and other changes are being discussed in the financial community to
evaluate options for imposing some form of enforced guidelines or code of conduct
on countries reluctant to meet their contractual obligations. In addition, the sheer
32 For a discussion of the 1980s debt crisis and the role of banks, governments, and the IMF,
see CRS Report RL30449. Debt and Development in Poor Countries: Rethinking Policy
Responses, by J. F. Hornbeck. March 1, 2000.
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amount of lending to emerging economies may simply be reduced, should investors
lose confidence in the market dispute settlement process. In the face of repeated debt
management failures, this could be a disguised blessing, but may have long-term
repercussions for these country’s growth and development. As far as designing and
creating an international bankruptcy agency, it is on hold after the Sovereign Debt
Restructuring Mechanism (SDRM) promoted by the IMF failed to take hold.33
The fact that debt workouts are being completed, even if not always smoothly
or in a timely fashion, may suggest that the “market system with IMF assistance”
approach is still preferable to taking another shot at reinventing the international
financial architecture, including creating some type of sovereign bankruptcy option.
But should the Argentine case fail to be resolved to the mutual satisfaction of all
parties, it could reinvigorate interest in a systematic and internationally recognized
debt restructuring system, because as Argentina has shown, once insolvency occurs
and debt becomes far too large to manage, there may be little incentive for countries
to work with the existing unenforceable system in finding a quick and consensual
solution.
33 See CRS Report RL31451. Managing International Financial Crises: Alternatives to
“Bailouts,” Hardships, and Contagion, by Martin W. Weiss and Arlene Wilson.