Four years earlier, during the chaotic month of December 2001, Argentina defaulted on its dollar-debts. Over that evil month, the economy was reduced to barter, mobs sacked bank buildings, and the country went through five presidents in eleven days ... starting with the unlucky fellow in the blue shirt, Fernando de la Rúa.
After President Néstor Kirchner took office in 2003, Argentina began negotiating over the debt in Dubai. The Argentine side did everything possible to flummox its creditors, up to and including bringing very scantily clad female “assistants” to meetings with high-ranking American women. The Argentine chief negotiator also played doornail dumb, honestly confusing the Americans and Italians across the table (unsurprisingly, the half-naked assistant ploy discomfitted the Americans rather more than the Italians) about whether he was uncannily brilliant or honestly didn't understand what a bond was. (I've met the man, and I don't know either.)
The Argentines put a truly fascinating offer on the table: the creditors would forgive past-due interest would be forgiven, and the old bonds would be swapped for new ones worth 35 cents on the dollar. In return, however, the new bonds would include a GDP “kicker.” The kicker — pronounced “keek-care” by everyone involved — promised the creditors additional payments equal to one-twentieth of the dollar value of all GDP growth above a initial threshold of 4.2% per year, which would eventually fall to one-twentieth of all growth over 3%.
The creditors rejected the offer, preferring a “haircut” of 40% on the face value of the debt, no interest-forgiveness, and no kicker. In response, Kirchner told them, and the IMF, and the U.S. Treasury, and eventually even President Fox of Mexico (don't ask), that the bondholders could take his haircut or drop dead. On March 1st, 2005, the president finally told the holdouts to drop dead, and repudiated their bonds.
Below my friend Aldo contemplates the question: was that the right thing to do?
A year ago, I would have unhesitatingingly answered, “Yes.” Now, I still think it was the right thing to do ... but I'm worried about what the Fernández Administration intends to do with its hard-won fiscal freedom. More below the fold.
The Argentine crisis was a strange animal. In the late 1990s, its deficits weren't particularly large, and its debt burden wasn't particularly heavy. In 1998, the debt burden came to only 38% of GDP, interest payments on the foreign portion totalled only 29% of exports, and the deficit came to only 1.2% of GDP. Yet investors hammered the poor country, yanking their money and rolling over the debt at ever-higher interest rates. Rising interest expenses blew a hole in the budget, leading to bigger deficits and ... yes ... even higher interest expenses.
As people increasingly began to believe that the peso would be devalued, nobody with dollars wanted to give them up and nobody without them wanted to accept pesos in payment. As a result, a modern 21st-Century economy fell back to barter. When President Duhalde finally gave up the fight in January 2002, the peso plunged by two-thirds, and default became inevitable.
Duhalde and Kirchner then fought like demons to bring order to the budget, despite the country's economic meltdown. Dulhalde slashed spending from 26% to 21% of GDP in 2002. Kirchner slapped on export and corporate income taxes that took revenue up to 23% in 2003 and 26% in 2004. Result? Large and growing budget surpluses. In other words, Kirchner did everything “right,” maybe too right, and made its creditors a fair offer contingent on decent Argentine growth in the future. When the creditors stalled, he told 'em to take a hike, and while I would have certainly been more diplomatic, it is hard to fault his decision.
But ... but. Kirchner's export taxes slammed Argentina's most successful industry. He tried to compensate the farmers by pressuring the central bank into keeping the value of the peso from rising, but that just led to inflation. When inflation started to get out of hand, he started firing economy ministers and faking the consumer price index.
Those of you who know me can attest that I do not generally accept accusations that inflation figures are rigged. Observer bias means that people usually note price increases while ignoring price stability or price falls. Frex, prices did not rise in Italy when it switched the euro, or in El Salvador when it switched to the dollar, and American inflation is in fact running at only 4%. But the evidence that Argentina fakes its numbers has become too credible to discount.
Kirchner's very accomplished wife, Cristina Fernández, won the 2007 election. I had hopes then and I still do that she might get the situation under control before double-digit inflation became entrenched. Raising interest rates and letting the peso rise would not be fun. Nor would cutting export taxes and watching the budget slip into deficit. (Another reason why I think that borrowing right now to build a cool train is nuts: the country needs all the fiscal wiggle room that it can get!) But the budget is slipping into deficit anyway, and her attempt to hike agricultural export taxes further has produced a frightening standoff with the farmers.
It's not good. Her performance is being compared to President Bachelet of Chile, but that's unfair ... to Michelle Bachelet. Bachelet has had a rocky time, but she's running the country responsibly and well. Her problems have to do with things like a botched transit plan for Santiago or an attempt to distribute morning-after pills, the sort of problems that Bill Clinton faced (or made for himself) during his first year.
Fernández's problems are of a very different level. She doesn't need to and probably shouldn't return to the old-fashioned idiot hairshirt orthodoxy ... but reality is reality, and you can't wish problems away. It isn't too late, but I fear Argentina may be blowing the opportunity that its debt repudiation gave it to make it fully into the developed world.
I hope I'm wrong. I really hope I'm wrong.