That Argentina has defaulted on external debt worth $155 billion - the largest single default in history - is not surprising. This has been pending for more than a year, with popular support expressed for default but not devaluation. The main objective of the interim president, Mr Adolfo Rodriguez Saa, was to resist devaluation of the peso (which would have adversely affected those who hold debt in dollars). This has been ensured through the creation of a third currency that will eventually transit to a new and floating currency. Money raised through third currency bonds will solve liquidity problems faced by federal and provincial governments and perhaps help reflate the economy through emergency social spending. There has been a recession for 42 months, national income has contracted 10 per cent since 1998, unemployment is 20 per cent, real interest rates are high, and tax revenues have declined by 25 per cent in one year. In an attempt to repay external debt, the earlier government slashed spending on public health and security, and it is not surprising that 28 people died in the recent unrest. The army works part-time and soldiers in Afghanistan as part of the United Nations peace-keeping force drive taxis to pay their bills.
Since the default was expected and net lending by banks to Latin America low, the likelihood of a contagion effect is remote. However, questions will be raised, not about the market-oriented reforms that were in place, but about the wisdom of hard-currency pegs and dollarization through variants of currency boards (an euphemism for fixed exchange rates), as opposed to free-floating exchange rate regimes.
(Hong Kong is the only other instance of a currency board.) In reacting to the east Asian crisis, opinion was divided between free floats and currency boards. Hopefully, this question has now been settled. Contrary to what may be argued, the problem was not public debt per se, but high real interest rates and negative growth. Questions will also be raised about International Monetary Fund's surveillance mechanisms (for a long time Argentina was the success story) and rehabilitation mechanisms when there is threat of sovereign bankruptcy and issues of restructuring debt. To what extent must costs be borne by residents and by foreign creditors? In the Argentine case, the priority was foreign bondholders, not domestic workers and pensioners. This is the province of reforming the global financial architecture, on which substantive initiative has been lacking. Should the IMF have insisted on a balanced budget for 2002, when state employees have not been paid for months and disadvantaged groups (the old and the poor) hit the hardest? Should it have refused a $1.26 billion loan instalment on December 5?
Friday, 19 April 2024