Reshaping Uruguay's debt -- and area's attitude?

The Herald Posted on Sun, May. 04, 2003 BY JANE BUSSEY jbussey@herald.com

With a wary eye on Argentina's experience, tiny Uruguay chose to forgo any celebratory default or even strong-arm tactics as it faced creditors last month and pleaded for forgiveness from its international debts.

Uruguay has become the latest Latin American government to join the list of deadbeats, or potential deadbeats, through a stealth default. Its request that bondholders swap their debt for new bonds is being carried out on gentlemanly terms and has the blessing of the U.S. Treasury and the International Monetary Fund.

There is a kinder and gentler tone in Washington toward Latin America these days, but the change is unlikely to stop countries from resorting to what some analysts have labeled ''elegant restructuring'' and ``liability management.''

''You've got Ecuador, Argentina and Uruguay, to some extent back-to-back defaults,'' said Christian Stracke, head of emerging-market research at CreditSights Inc., an independent Wall Street research firm. ``How far away is Brazil from having that happen?''

While Ecuador quietly defaulted in 1999, Argentina earned the enmity of international financiers when former President Adolfo Rodríguez Saá announced, in late December 2001, a default on the debt to a cheering congress.

Earlier in 2001, Argentina had swapped bonds for ones with lower interest rates but to little end. The reduction couldn't halt the economic implosion or persuade the IMF to disburse new loans.

Latin America is no stranger to debt default. These periodic bouts of sovereign bankruptcy have served to entrap the region in low economic growth and inflict severe disruption on trade and investment. The 1980s debt crisis was labeled the ''lost decade,'' and restructurings that took place around 1990 were originally viewed as a watershed moment in the region -- the end of debt forever.

In contrast to Argentina, Uruguay's quiet restructuring signals a new approach to the region. Washington has started to recognize that the debt burden is too high in many countries, a point made by U.S. Treasury Secretary John Snow last Monday.

U.S. officials, working with the IMF, are trying to stage preemptive debt restructurings with small losses to bondholders and avoid the panic of such ''messy defaults'' as the events in Argentina.

''The U.S. Treasury is out in front, organizing crisis prevention,'' Miami bond trader Martin Schubert said. ``The U.S. Treasury is playing a more important role than it would appear.''

Treasury spokesman Tony Fratto insisted that officials had not encouraged Uruguayan authorities to do anything specific. But Uruguay, in asking creditors to swap old bonds for new ones that mature at a later date, has added some insurance clauses that have received Treasury's endorsement.

`COLLECTIVE ACTION'

These clauses, known as ''collective-action clauses,'' set out rules for future restructuring deals should the country later default. Now all creditors must agree to take a hit; under the new clauses, only two-thirds to three-quarters are required to agree, preventing one bondholder from holding up a deal.

''We do think that using collective-action clauses is wise,'' Fratto said.

Also playing a role is William Rhodes, the Citigroup veteran who directed the 1980s negotiations between commercial banks and their Latin American borrowers. Today's incipient problems do not yet resemble the nearly universal regional default on debt to commercial banks that took place in Latin America in the '80s.

Another difference is that today's creditors are international bondholders instead of the commercial banks.

There are also other countries that could join the default trend, but no one seems to be paying attention. Paraguay owes money to the World Bank, Venezuela is talking with creditors about stretching out its debt payments, and no one rules out another round of rescheduling in Ecuador.

The main concern is Brazil, which inched toward a default last year as interest rates soared on billions of dollars of debt. An IMF loan package to give Brazil up to $30 billion helped tide it over.

The largest South American country still faces the unsustainable odds of having to raise $1 billion a week to cover its debt payments and current account deficit. Much of Brazil's debt is held by local investors, and some economists have suggested that the government ''inflate'' the debt away, as Latin American countries have in the past. By printing money, the old debt goes down as the value of the currency is diluted. The downside is a rise in inflation.

But, after just a few months in office, President Luiz Inácio Lula da Silva has enchanted Wall Street with his moderate tone. Not only does default seem far away, but creditors are anxious for more exposure in Brazil.

Last Tuesday, investors offered to buy $6 billion in new government bonds but the new government only needed $1 billion. Brazil's new bond included the ''collective-action clause'' as the latest bonds issued by Mexico. Except for Chile and Mexico, all other bonds in Latin America are speculative, the elegant term for junk bonds.

Schubert, president of the European Inter-American Finance Corp. in Miami, said the appeal of Brazilian bonds and some other recent issues in the region lay in the higher returns investors can get south of the border compared to the low interest rates in the United States. The Brazilian bonds will earn 8 percent over the Federal Reserve's interest rate.

KEY ELEMENT

The debt is one of the most crucial factors affecting Latin American economic growth and stability. Unlike their counterparts in Asia, Latin American countries do not generate sufficient savings to fund their own development.

After Argentina's financial crisis spilled over to Uruguay, the Bush administration stepped in to give its support, throwing its weight behind what would eventually become about $4 billion in loans from official lenders.

But as Uruguay's debt burden shot up to 90 percent of the gross domestic product, it became clear that, even with new loans, Uruguay could not make it. Hence a debt swap that would carve some 15 percent off what Uruguay has to pay. Bondholders have until May 15 to accept the Uruguayan offer.

''If the Uruguay exchange goes forward, it will result in economic losses to bondholders for the present value,'' said Morgan Harting, a director in Fitch Rating's Sovereign Ratings Group. ``We will take Uruguay into default if the exchange is completed, even if the government calls it voluntary.''

Despite the U.S. backing, this cut for Uruguay may not be sufficient.

''A debt write-down of 10 percent or 15 percent, it's kind of hard for me to believe that is enough,'' said Michael Mussa, the former chief economist at the IMF.

If all goes according to plan, Brazil will grow again and have no need to default. But best-laid plans often go awry in the region, Mussa noted.

''It has been a continuing series,'' he said of the defaults. ``I don't think it's going to end.''