Fw: Desperate Financial Shenanigans in Argentina

["Nello Margiotta" <animarg at tin.it>]

 Argentina: Gambling on its Future with Debt Swap
 2315 GMT, 010611
 Summary



 Argentina has dodged imminent default by swapping nearly $30 billion of
 maturing short- and medium-term debt for long-term debt. This ensures the
 survival of President Fernando De La Rua's government and enhances Economy
 Minister Domingo Cavallo's chances of winning the presidency in 2004. But
 the swap did nothing to change the impediments to Argentina's growth.
 Cavallo now has six to nine months to revive Argentina's stagnant economy.
 Argentine Economy Minister Domingo Cavallo

 Analysis

 Averting imminent default on $128 billion of foreign debt, the Argentine
 government approved bids June 4 to swap $29.47 billion in short- and
 medium-term public-sector debt, maturing through 2005, for long-term debt
 maturing in 2008, 2018 and 2030.

 Debt default by Argentina would have triggered political and social
upheaval
 domestically that would have spilled over to Brazil's slowing economy --
 dragging down the entire region before spreading to Asia. The debt swap
gave
 Argentina's President Fernando De La Rua a much-needed political boost,
 silencing opposition critics who have been calling for his resignation. It
 also gave Economy Minister Domingo Cavallo a chance to jump-start an
economy
 that has been in recession for 34 months and potentially improve his
chances
 of becoming president in 2004.

 But the maneuver is not a sure-fire win.

 Argentina essentially swapped existing debt, with an average cost of about
 10 percent, for new debt that will cost 15 percent on average as of 2006.
In
 order to achieve his political goals, Cavallo must achieve a 5 percent
 growth rate by the end of 2001 and sustain it through 2005.

 Cavallo is gambling hugely with Argentina's future financial and political
 stability. If he succeeds in re-igniting the economy, the debt swap's high
 financial cost to Argentina will have been worthwhile. But if he fails to
 quickly achieve and maintain high growth rates, Argentina has merely
 postponed inevitable default.

 Significantly, about 75 percent of the nearly $33 billion in bids the
 government received between May 24 and June 1 were noncompetitive bids,
 indicating heavy participation by Argentine investors -- mostly pension
 funds, along with some banks and other financial institutions -- and not by
 foreign investors.

 Before the swap, the government's debt exposure with Argentine financial
 institutions was between two and three times greater than the combined
total
 equity of the country's domestic banking system. The swap has drawn
 Argentina's domestic financial institutions even deeper into binding
 commitments, expanding their substantial government debt exposure and
 increasing their risk in the event of a future default.

 Moreover, even after calculating the debt swap's financial effects plus a
 $39.7 billion financial aid package that the International Monetary Fund
 cobbled together, Argentina still needs $12 billion in fresh money to cover
 its debt servicing obligations in 2002. This means Cavallo must grow the
 Argentine economy rapidly starting in the second half of 2001 to reduce
 interest rates and risk premiums on debt before the government floats new
 dollar-denominated bonds next year.

 With the risk of default postponed for now, Cavallo will enact policies to
 spur consumption and investment growth. But policy options are constrained
 by the currency-convertibility plan Cavallo created in 1991 and by the
 fiscal limits the IMF imposed as part of its financial support for
 Argentina.

 Cavallo will try to spur domestic economic growth and consumption by
cutting
 business costs at least 20 percent immediately. The textile and automotive
 industries have already received tax breaks to reduce costs and improve
 profitability. More targeted tax breaks are likely for other industrial
 sectors.

 Although Argentina had made a commitment to bring its tariff policy back in
 line by the end of 2002 with the common external tariff of Mercosur, the
 South American customs union, Cavallo will maintain Argentina's new tariff
 structure beyond 2002. Tariffs for capital goods imports are now zero,
while
 tariffs for imported consumer goods are at 35 percent. In effect, Cavallo
 has taken Argentina partly out of Mercosur.

 Cavallo also will press for the speedy launch of bilateral trade
 negotiations with the United States. But expectations of a closer
commercial
 partnership with the United States could be derailed in a now
 Democrat-controlled U.S. Senate with trade a low priority.

 Cavallo also faces a political minefield in Buenos Aires, especially if he
 cannot quickly jump-start the economy. Cavallo is more popular today than
De
 La Rua, who has been weakened by the economy's lengthening slump and a
spate
 of corruption scandals. However, barring a quick and vigorous economic
 recovery, the government's opposition will renew calls for De La Rua's
early
 resignation and new elections, and Cavallo will reap the political blame.

 To win legislative approval for his proposed reforms, Cavallo also needs
the
 congressional support of the Peronists led by former President Carlos
Menem.
 That support is uncertain now that Menem is under house arrest in
connection
 with a 1990s arms smuggling investigation. If Menem is prosecuted during De
 La Rua's presidency, the Peronists may block the government's economic
 reforms -- undermining economic recovery, discouraging foreign investors
and
 destabilizing De La Rua's presidency.