By Mohamed A. El-Erian
Despite frantic last-minute negotiations, Argentina and its holdout creditors have failed to reach a deal that would allow the government to make timely payment on its sovereign debt. As a result, the country has solidified its standing as one of the world’s worst serial defaulters.
Argentina, as a nation, is the biggest loser. It will have a much harder time borrowing money on international markets, and will pay more to do so. Foreigners will be discouraged from making direct investments and Argentines will be encouraged to take money out, further limiting the country’s growth potential.
The country’s worsening economic and financial conditions are bad news for the government of President Cristina Fernández de Kirchner. With their credibility already weakened by perceptions of incompetence and corruption, the authorities will find it even harder to govern a country that is operating well below its potential, undermining the well-being of both current and future generations of Argentines.
The majority of Argentina’s creditors are also big losers. They went along with earlier restructurings as a way of helping the country regain its stability and, in the process, securing their financial claims (albeit at a discount from the original contractual face value). What they failed to factor in is that, using the U.S. legal system, a minority of holdout creditors would succeed in stopping payments on the restructured debt.
The emerging markets asset class is also worse off. The Argentine debacle is sure to encourage initiatives by the international community to reduce the chances that minority creditors will be able to wreak similar havoc in the future. The result will be an erosion of creditors’ rights.
The holdouts may not be as well off as they think. Yes, they took Argentina to the brink and demonstrated their legal power and strategic smarts. But their approach of forcing a generalized sovereign default could well reduce the net present value of their claims on Argentina. In the meantime, they will incur significant legal expenses on top of an already large bill.
Still, not everyone lost out. Lawyers will make lots of money, as will the bankers who will be engaged in trying to resolve what will be a mess of defaulted obligations.
Then there are the few astute investors who refused to go along with the conventional wisdom that rationality would ultimately prevail. Rather than assume that an agreement would be reached in order to avoid a “lose-lose-lose” outcome, they predicted that the very entrenched and — by now — quite dogmatic negotiating parties would fail to resolve the main issues.
They were right, and by betting on default (mainly using credit default swaps), they are now set for a handsome payoff.
The gains of lawyers, bankers and a few contrarian investors pale in comparison to the damage that will now be inflicted on the Argentine population if some miracle doesn’t transpire. Surely there was a better way for creditors and debtors to interact.
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