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Argentina’s Struggle With Economic Uncertainty

Argentina’s Struggle With Economic Uncertainty

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By Maria Alvarez Argentina endured a rocky year economically and politically in 2014, with a rapid depreciation of the Argentina peso in January, followed by its default on foreign debt in July of 2014. These major events have occurred on a backdrop of general economic uncertainty among both the Argentine people and the international community. Argentina has a long history of short-sighted economic policies enacted on waves of fervent populism that have led the country to repeated financial crises. Current president Christina Kirchner’s economic policies and the resulting current crisis follow in this trend. Hopefully the upcoming presidential election could be the country’s chance reverse this trend. One of Argentina’s major challenges in the past year has been the fluctuation in the prices of its currency and its own people’s distrust in their own currency. In January 2014, the peso fell by more than 20%, fueling fears of further inflation and depreciation.[1] The news of this was disheartening to investors and Argentines alike, who had enjoyed a one to one exchange rate with the dollar ever since the 2001 financial crisis In August 2014, the unofficial price of the dollar rose as high as 12.75 pesos per dollar, compared to the official government price of eight pesos to the dollar.[2] Due to stringent capital controls the government has set in place, Argentines must change their pesos at informal currency brokerages called cuevas, where middlemen illegally buy and sell dollars and pesos. As a result of currency volatility, Argentines have been converting their volatile pesos into more trustworthy US dollars in order to save in dollars and have more peace of mind.[3] This capital flight is bad for the economy because it makes people less likely to save and invest their money within Argentina. Instead Argentines are more likely to either keep their savings in cash dollars or invest outside of the country. This in turn slows economic growth, exacerbating problems such as unemployment and sluggishness.[4] In the long run, such capital controls can also negatively influence inflows of foreign direct investment, leading to slower economic growth and greater uncertainty in international financial markets. Investors may become wary of their ability to exit the country with their money in whatever currency they please and they may also fear labor unrest as prices rise and wages remain stagnant. Argentina has additionally struggled with the remnants of its 2001 currency crisis throughout 2014. In 2001, Argentina defaulted on its sizeable debt during a recession after it could no longer make payments. Eventually, the government offered “exchange bonds” to its bondholders, at about a quarter of the worth of the original bonds.[5] These exchange bonds represented a high-risk/high-reward investment for bondholders: they had the potential to return to their original value, at which point the investors would make a handsome profit off of the interest, after having bought them at a discounted price. However, the risk of another default was still high, as Argentina could simply refuse to pay when the time came to pay back these original bondholders. Argentina did, in fact, fail to pay back its pre-2001 bondholders, also known as “holdout creditors,” before paying its current bondholders.[6] Paul Singer, a billionaire hedgefund manager, was one of these holdout creditors. Singer refused to take his loss and set out to force Argentina to repay its debt to him from the 2001 bailout package.[7] In 2012, Singer persuaded a court in Ghana to impound an Argentinian vessel in an attempt to reposses it as a form of compensation. Eventually, the court released the boat, but Singer was undeterred. In mid-2014, he won a ruling from a court in New York saying that Argentina must settle with him and the other holders of the pre-2001 debt before paying its current bondholders. Despite Argentina’s best efforts to avoid paying, the US court ruled that banks that transfer money from Argentina to its current bondholders before transferring to its pre-2001 bondholders would be held in contempt. In June 2014, the US Supreme Court upheld the New York Court’s decision after Argentina appealed it.[8] As a result of this New York Court Decision, Bank of New York Mellon (the trustee of the payments) refused to transfer 226 billion euros in payment of Argentina’s current debt in July of 2014. However, on February 13, 2015 current bondholders including Knighthead MasterFund from the United Kingdom won a victory when a London Chancery Court ruled that the bonds are governed by UK law and that Bank of New York Mellon’s obligations as trustee are unaffected by the US Court Decision.[9] This is good news for Argentina and its current bondholders, as their transactions can continue mostly undeterred. However, this is another blow to Singer and other holdout creditors, who are still waiting for their due payment. Being forced to repay this debt to Paul Singer and other holdout creditors could mean a difficult road to full repayment of all of Argentina’s outstanding pre-2001 debt. The country is still struggling to grow economically with large structural economic problems, including failing infrastructure and a subpar national educational system.[10] With an estimated 30% of the population living below the poverty line, it is clear that Argentina persists in an economically vulnerable state.[11] Argentina’s economic woes over the past year will continue to have political and financial consequences. Unless the government further tightens its real interest rates and eases capital controls to bridge the gap between the official and unofficial rate, currency volatility will continue to be a concern for Argentines and foreign investors alike. Paul Singer and other holdout creditors will not back down, as the threat of default remains present and new investors look to snap up cheap and risky Argentine debt.[12] The upcoming presidential election in 2015 may make it more difficult for useful economic policies to be put in place as Christina Kirchner and her populist administration struggle to coordinate an effective effort to improve the country’s economy. Soy and corn commodity booms have fueled most of Argentina’s economic growth in the past, but this will not be sufficient to definitively pull the country out of its twenty-year rut of uncertainty in debt repayments, currency, and investment.[13] A long history of populism makes it difficult for any Argentina government to sell any sort of painful reform to the Argentine people. One of the biggest challenges that President Kirchner or her successor will face will be the need to make Argentines accept necessary pain in order to make effective reforms. [1] Katz, Ian, Katia Porzencanski, and Ye Xie. "Argentina's Lying Prices Show Capital Control Limits: Currencies." Bloomberg Business. January 28, 2014. [2] Cancel, Daniel. "Argentine Peso Plummets Most Since 2002 as Depreciation Quickens." Bloomberg.com. January 22, 2014. [3] Lopez, Linette. "A Dangerous Sign That Argentina's Economy Is Going Off The Rails." Business Insider. September 18, 2014. [4] Turner, Taos. "Argentina's Unemployment Rate Rises to 7.5%." Wall Street Journal. [5] Waggoner, John. "Investing: Learning from Argentina's Woes." USA Today. July 31, 2014. [6] Burke, Hilary. "What Argentina's Fight with Holdout Creditors Is All about." Reuters. February 22, 2013. [7] Parks, Ken, Nicole Hong, and Brent Kendall. "Supreme Court Sides With Holdout Creditors in Argentina Debt Case." Wall Street Journal. June 16, 2014. [8] Ibid. [9] Wirz, Matt, and Christopher Whittall. "Plan to Sell Argentine Debt Collapses." Wall Street Journal. February 26, 2015. [10] "A Century of Decline." The Economist. February 15, 2014. [11] Ibid. [12] Levine, Matt. "Argentina's Last Bond Exchange Went So Well It's Doing Another." Bloomberg View. August 20, 2014. [13] Weisbrot, Mark. "Argentina and the Magic Soybean." The Guardian. May 4, 2012.

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