[A-List] Dominican Republic: possible default

["Michael Keaney" <michael.keaney@xxxxxx>]

Dominican Republic might default
By Jenny Wiggins
Financial Times: February 12 2004

The emerging markets could be on the verge of seeing their first debt
default of 2004, reminding investors that despite extensive reforms, some
emerging market countries are still vulnerable to serious structural
problems.

The Dominican Republic, which has some $1.8bn in private external debt, is
teetering on the brink of default after failing to make an interest payment
on its debt last month. The country has since made the $27m payment but that
has not stopped the credit ratings agencies from lowering their ratings to
just above default.

Standard & Poor's dropped its rating on the country to CC, two notches above
default, while Moody's cut it to B3 and Fitch put it at CCC+.

The Dominican Republic's problems started last year with the collapse of
Banco Internacional (Baninter), its second-biggest commercial bank. The bank
suffered losses of some $2.2bn that the government blamed on fraud. The
banking crisis precipitated a sharp fall in the Republic's currency, the
peso, and inflation soared.

As the country's difficulties mounted, the price of its global bonds slid
from more than 90 cents in the dollar, when the bonds were issued in late
2001 and early 2003, to less than 70 cents.

"An inconsistent policy mix on the part of the Dominican government, with
expansionary fiscal and monetary policy, led to a loss of confidence," said
Graham Stock, emerging markets strategist at JP Morgan.

The country has also been dealing with serious political and social issues.
Inflation is running at about 45 per cent and unemployment is close to 17
per cent.
Economists say the Dominican Republic's travails show that some emerging
market countries are still vulnerable to banking scandals.

Such scandals are less common in Latin America than in the past, due to
extensive industry reforms that have resulted in better banking
capitalisation, transparency and supervision. But they are still possible in
Asia and Eastern Europe, where banks have not undergone such widespread
reforms, said Arturo Porzecanski, chief economist for emerging markets at
ABN Amro.

"It's a reminder that structural reforms starting with the banking
industries are a must," he said.

The government is trying to ward off a default by rescheduling its debt
obligations with the Paris Club, an informal group of creditors that helps
to resolve payment difficulties of debtor nations. The Dominican Republic
has total bilateral obligations (debt owed by it to other countries) of
about $430m this year, according to JP Morgan.

Analysts are waiting to see if the Paris Club will demand that the Republic
reschedules all of its external debt - including its private debt. If it
does, this could amount to a default, analysts say. The country must also
successfully pass an IMF loan review.

Meanwhile, the negotiations are taking place ahead of a presidential
election in May, which could make it difficult for the government to
implement the fiscal reforms required by its creditors.

"No matter what, the government's in a very difficult situation," said
Richard Francis, sovereign debt analyst at Standard & Poors.

Still, analysts say that the current president, Hipolito Mejia, has close
ties to the Bush administration and should receive backing from Washington
in its negotiations with creditors.

"The IMF is likely to remain flexible," said Aryam Vazquez, Dominican
Republic economist at IDEAglobal.

The Dominican Republic's bonds, with their relatively high yields, have been
attractive since Argentina's default as emerging market investors have
sought to diversify their exposure in Latin America.

"It was a diversification play," said Gary Kleiman, senior partner at
investment consultancy firm Kleiman International. "Everybody's had a piece
of this."

A potential default by the Dominican Republic is not expected to have
serious repercussions for other emerging market investors due to the
relatively small amount of the debt outstanding.

The Republic accounts for only 0.3 per cent of JP Morgan's emerging markets
index, the EMBI+, and would not be "contagious", according to investors.