[A-List] Argentina's Default

[Sabri Oncu <soncu@xxxxxxxxxxx>]

Hanging by a thread

Nov 15th 2002
From The Economist Global Agenda


Argentina?s decision to default on its loan payments to the World
Bank will worsen the country?s economic predicament. And it will
not make it easier for the government to reach a deal with the
International Monetary Fund


MOST people expected Argentina to blink first. For weeks, the
government of President Eduardo Duhalde had been threatening to
default on the $805m payment to the World Bank due on Thursday
November 14th. The threat was explicitly aimed at persuading the
International Monetary Fund (IMF) to agree to a new programme for
Argentina which would unlock new IMF money for the beleaguered
economy. But the IMF, exasperated by Argentina?s failure to
deliver economic reforms, refused to play ball. Argentina in turn
decided it had nothing to lose by trying to force the issue.

So the economy minister, Roberto Lavagna, went in person to the
World Bank headquarters in Washington to deliver the news that
his government would only pay $79.2m, the interest element of the
loan repayment due. Back in Buenos Aires, Mr Duhalde confirmed
that the government was still negotiating with the IMF and would
meet its obligations as soon as a deal was sealed.

This is a high-risk strategy for a country still reeling from the
catastrophic economic collapse it experienced at the turn of the
year. Argentina has now, in effect, cut itself off from its last
source of outside financing. The government defaulted on its
debts to the private sector last December?at around $140 billion,
that made it the biggest default in history. IMF disbursements
have also been suspended for ten months as negotiations on a new
IMF programme have dragged on.


If the World Bank loan isn?t repaid within 30 days of the due
date, no new loans will be forthcoming and there can be no
interest-rate reductions on existing loans; if the government
remains in default for 60 days, all disbursements of existing
loans will stop as well. Since the World Bank money has been
aimed at mitigating the worst effects of Argentina's economic
crisis, the default has potentially unpleasant consequences for
the country's poorest citizens.

Poverty has increased sharply in Argentina. By the end of this
year, the IMF reckons the economy will have shrunk by about 20%
over a four-year period. Unemployment has soared during the long
recession that eventually made the country?s currency peg?fixed
at parity with the American dollar?unsustainable. Instead of
accepting the advice of many economists (and, in private, many
governments) that the peg should be abandoned, the then
government in Buenos Aires stubbornly stuck to the ten-year-old
peg.

The crisis that unfolded in December 2001 was far worse than
anyone had predicted. As the economy crashed, so did the banking
system, and the government. Economic chaos was followed by
political chaos. Mr Duhalde is the fourth man to hold the office
since Fernando de la Rua was ousted last December. By bringing
forward the presidential elections to next March, Mr Duhalde in
effect put himself in charge of a caretaker administration. That
hasn?t helped him stop the political infighting that has hindered
economic reform.

It's reform that the IMF wants to see before it will put new
money on the table. The Fund was heavily criticised in some
quarters for providing Argentina with a new $8 billion loan in
August last year without demanding an end to the currency peg.
Those involved with that decision defend it on the basis that it
is difficult to advise a government to abandon a policy which has
widespread popular support?as the currency peg did?and to refuse
new money when a government proposes an economic programme which,
in principle, appears sustainable.

The critics remain unconvinced by that explanation, though, and
the IMF has certainly taken a much tougher line this year,
wanting clear evidence that promises of reform are credible.
Senior Fund staff have privately expressed exasperation at
Argentina?s reluctance to accept the need to put its economic
house in order. Some of that frustration spilled over in public
on November 15th, when Horst Köhler, the IMF's head, said that
even in a crisis, "taking responsibility for oneself is
unavoidable".

On the face of it, defaulting on its World Bank loan makes
Argentina?s negotiations with the IMF far more difficult. Some
observers doubt a deal is possible this side of the elections:
the IMF, they suspect, no longer trusts the current government
enough and doubts its ability to deliver on any promises it does
make.

And yet the Fund?s response to the default announcement was
intriguing. It did not comment directly on Argentina?s decision.
Instead, a statement said that progress had been made in the
latest round of negotiations between Argentina and the IMF, but
that further issues needed to be resolved. It also referred to
the need to seek political consensus for what had already been
agreed.

High stakes for Lavagna and Duhalde

But in a sign that the IMF wants to give Argentina some breathing
space, the statement also revealed that a deadline of November
22nd for payments due to the Fund would be extended. This
apparently conciliatory gesture suggests that the IMF wants to
reach a deal if at all possible.

In these elaborately choreographed negotiations, it is not just
the Argentines who have much at stake. Even for an organisation
like the IMF, used to playing the role of international
scapegoat, the deadlock with Argentina is uncomfortable. It
cannot afford to pour more money down a black hole: extending a
loan without having properly sown up a reform programme would be
politically disastrous for the IMF. Letting Argentina go further
along the road to full-scale default with the multilateral
institutions would not be much better. Apart from anything else,
the IMF?s own financial structure means it cannot afford to see a
big borrower halt all repayments?especially when problems in
Brazil and Turkey still loom large.

Argentine citizens who have lost their savings or their jobs, or
both, already wonder what the IMF and the World Bank are for.
However justified the IMF?s current stand, failure to break the
deadlock could have others asking the same question.

Article at:

http://www.economist.com/agenda/displaystory.cfm?story_id=1452888