Cover story -
LatinFinance, Number 113
by Peter Hudson
On a chilly day in July, Eduardo Duhalde, presidential
candidate of Argentina's Peronist party, announced that he
would call on Pope John II to urge the world's rich countries
to forgive debts owed by developing nations, including
Argentina. It was an election gimmick intended to pep up his
flagging presidential campaign with some old-fashioned Peronist
Immediately, share prices on the
Buenos Aires stock exchange dropped 8.7% and the spread on
Argentina's benchmark bond widened to more than 1,000 basis
points over Treasurys. Wall Street economists again began
debating how long the peso's dollar peg would last. Rumors that
Roque Fernández, the economy minister, was quitting
added to the panic.
Fernandez stayed on to the end of
Menem's term, but to Argentina's voters the market rout was
particularly frightening. Memories of the financial and
economic instability that threatened to push Argentina into
civil conflict a decade earlier are still fresh. The media
ridiculed Duhalde's appeal for debt forgiveness. Fernando de la
Rúa candidate of the center-left Alianza coalition, only
gained in stature with his message of gradual change to Menem's
Three months later, De la
Rúa inflicted a humiliating defeat on Duhalde. By then,
the spread on Argentine bonds had narrowed to 750 basis points
and the Buenos Aires stock market's Merval share index was up
to 550 points, although still some way off its peak in May.
Markets again perked up on November 22, the day De la
Rúa's camp leaked the names of his new cabinet, which
included four orthodox economists in key ministries.
De la Rúa appointed the
urbane José Luis Machinea, a former central bank
president, as economy minister. Although he was central bank
president during one of Argentina's bouts of hyperinflation in
the late 1980s, Machinea is respected in Buenos Aires as a
sound economist who has the president's full confidence.
Economists also head the foreign, defense and education
ministries. Pedro Pou, appointed central bank president under
Menem, by law retains his post until 2004.
The Road Ahead
De la Rúa and Machinea face
considerable challenges. The outgoing Menem government
accumulated budget deficits between 1995 and 1999 of over $25
billion. Central government debt rose even faster over the same
period-by $38 billion to $118 billion-mainly because the
government owed up to debts it had previously not recognized.
"That level of debt is manageable, if you can achieve fiscal
balance and economic growth," says Ricardo Fuente, a partner at
economic consultancy Latin Eco. But achieving this will require
considerable political mettle from De la Rúa,
particularly since the Senate, the Supreme Court and key
provincial governments are all dominated by the Peronista.
However, Miguel Kiguel, Menem's
astute assistant secretary of finance, is not concerned. He
says that at 47% of GDP, total public-sector debt is not
excessive. Kiguel, widely respected for his management of
Argentina's foreign funding program, says "if you look at that
debt level by international standards, it doesn't seem too
bad." Projections by the Menem administration show the debt
level dropping to around 35% of GDP during De la Rúa's
four-year term. The economy is set to rebound by 3%-3.5% in
2000 and the new government must keep spending under control to
comply with the fiscal convertibility law that requires the
budget deficit to be eliminated by 2003.
Kiguel succeeded in raising the
average maturity of Argentina's foreign debt to 8.1 years in
1999 from 3.2 years in 1994 in spite of turmoil on world
financial markets. He dismisses fears that the new government
could face trouble financing the country's debts. And he doubts
Machinea "has any intention of making important changes in
financial strategy." Daniel Marx, a former executive director
at MBA, a Buenos Aires investment bank, and a veteran debt
negotiator, is the new capital markets secretary "He has an
excellent knowledge of financial issues and is known by foreign
investors. They couldn't have made a better choice,' says
The new team inherits a financial
system reconstructed after the disaster of hyperinflation.
Menem introduced a Chilean- style private pension fund
industry, which now has assets of $12.5 billion. The banking
system sailed through the Brazilian devaluation crisis in
January. Argentina has about $33 billion in foreign reserves
and can call on a contingency liquidity facility with a
consortium of international banks if needed.
But Argentina's capital markets
are still very small. Although Kiguel has turned increasingly
to domestic markets, which met around just under half of the
government's $17.4 billion borrowing needs in 1999, there is
little room for bigger placements. "It's a tough choice," says
Lacey Gallagher, director of Latin American ratings for
Standards & Poor's "It's either crowding out domestically
or overdependence on foreign financing. That makes it different
for some of its peers like Brazil, which raises four-fifths of
its financing needs domestically"
The growing size of the debt also
reduced the proportion of borrowing Kiguel could cover in
advance. The roughly $3 billion he raised before De la
Rúa took over was only sufficient to cover payments due
in the first couple of months of the new year, somewhat less
than a full quarter's coverage he wanted. 'The deficit was
higher than we thought," Kiguel explains, "and the markets were
more difficult, [but] we are leaving the largest cushion we
have ever had."
Argentina needs to raise $17-18
billion in 2000 to service its debts and finance the
government's budget deficit, of which Kiguel has already raised
about $3 billion. Furthermore, Marx's team has time to
prepare for the nearly $5 billion in public debt maturing in
the third quarter, over one-third of the total $11.78 billion
due in 2000.
However, Moody's downgraded
Argentina in 1999 and Standard & Poor's put the country on
negative outlook, the first step toward an eventual downgrade
from its current BB rating. Debt servicing will take up 15% of
government revenues this year, according to Gallagher, double
the proportion five years ago. Public and private medium and
long term debt maturing in 2000 will reach $15.78 billion, more
than twice as much as 1999.
Markets are wary of the new
government's declared preference to issue debt in international
and domestic markets rather than borrow from multilateral
institutions. The government would use multilateral loans in
case instability in local or world financial markets cut
Argentina off from capital markets.
De la Rúa will also have to
negotiate with spendthrift provinces ruled mainly by Menem's
Still, a deal is possible. "The
provinces are highly dependent on the national treasury. They
are not going to want to burn their bridges," says Roberto
Guevara, senior country analyst for Merrill Lynch.
A political arrangement with the
Peronist opposition-and the Alianza's left-wing fringe-would
underpin a tight fiscal policy and help lower interest rates.
Economic recovery, the peso's solid peg to the dollar and the
president's commitment to orthodoxy should further help De la
Freddy Thomsen of ING Barings in
Buenos Aires says the president "will have to beg, negotiate
and convince. I think it will work. It will make us more
nervous, but you have to live with that."