By David Dayen, a lapsed blogger, now a freelance writer based in Los Angeles, CA. Follow him on Twitter @ddayen
Today is technically the drop-dead date for Argentina to work out an agreement to pay off vulture funds that long ago purchased their distressed debt, or else the country will go into default for the second time in thirteen years. 11th-hour negotiations with a mediator have yielded no results thus far. WSJ divines momentum from the length of the mediation session, which is pretty weak tea.
The default would actually be to the exchange bondholders, who already hold agreements with Argentina for restructured debt payments going back to the 2001 default. Judge Thomas Griesa prevented the country from making a scheduled interest payment to the exchange bondholders without the vulture funds getting their $1.5 billion first (the vultures paid roughly $48 million for the distressed debt, so it’s a huge payday).
Argentina, which has already made the scheduled interest payment to its bond trustee (Griesa has blocked the transfer to the exchange bondholders), objects to paying out the vultures because of RUFO (“rights upon future offers”) clauses that would force them to pay all creditors at the same rate, instead of at the agreed-to reduced levels. Argentinian leaders believe this could add $15 billion in liabilities.
Before demanding no additional payments before working things out with the vulture funds, however, Judge Griesa added an asterisk for money owed to oil companies:
Argentina will be permitted to make a one-time-only payment this week on some dollar-denominated bonds issued under that nation’s law, the U.S. judge overseeing a legal battle over defaulted bonds ruled.
U.S. District Judge Thomas Griesa in Manhattan federal court said yesterday he’ll allow the payment to go forward because bonds issued in a settlement involving the Spanish oil company Repsol SA — where payments aren’t subject to court orders — can’t be immediately distinguished from a group of dollar bonds issued in the country’s 2005 and 2010 debt restructurings. Payments on the latter securities can’t be made unless holdout creditors are paid at the same time.
The idea here is that the Repsol bonds aren’t related to the current situation. Well, neither are the previously negotiated bond payments to other creditors, really! This entire holdup comes from Paul Singer and NML Capital seeking a big payday after they scooped up Argentine debt at fire-sale prices. Only Judge Griesa decided to link that to the other creditors, and now he’s trying to scramble out of some of the residual effects of his decision, because some exchange bonds and the Respol bonds cannot be distinguished from one another.
Argentina also paid the wealthy “Paris Club” nations this week, showing a willingness to put their debts behind them. But this flow of funds raises the question of what sits inside and outside Griesa’s order. Mark Weidemaier calls it the incredible, magical shrinking injunction.
For this and other reasons, Georgetown law prof Adam Levitin places the blame for this expected default squarely on Griesa:
Distressed debt investment funds that buy into repudiated sovereign debt know exactly what they are doing and the risks they are taking. Their goal is to extract payment from the debtor by being a sufficiently squeaky wheel that the debtor will pay to make the investor go away […]
The real blame lies with the U.S. courts, which should never have touched the issue. By overplaying its hand, NML exposed the fecklessness of the U.S. court system when dealing with a foreign sovereign. Although the Argentine bonds are governed by New York law and provide that Argentina consents to New York jurisdiction, there’s no way to bind a sovereign to its promise of complying with court orders any more than there is to its promise of payment. What the Leviathan gives, it can take away.
By humoring the NML litigation, U.S. courts have gotten themselves into a high-stakes game of chicken with a sovereign state. This is a game the U.S. courts cannot and should not win. It’s a basic prudential principle that courts abstain from cases where they lack the ability to administer an appropriate remedy. In this case, the courts cannot administer an appropriate remedy. The U.S. courts may be able to prevent, or at least impede, Argentina’s other bondholders from being paid, but they cannot force Argentina to pay NML on its defaulted bonds.
Exactly. Paul Singer can have as much fun as he wants trying to squeeze profit out of old Argentine debt (while he waits for the world to be destroyed by an electromagnetic pulse, anyway). But courts which have almost no ability to compel a judgment should not pick a side in such a power play. And you have to believe that the reason the courts got involved was that Argentina did the unthinkable, by thumbing its nose at the world and living to tell the tale. Now they must face a penalty for such intransigence. It’s not enough that they’ve been locked out of the capital markets for a decade. Suffering must ensue as well. (See Michael Hudson on this point.)
Incidentally, the RUFO clause expires at the end of this year, just five months from now. With everyone well aware of this fact, the exchange bondholders recognize that they would get their payments after December 31 (not to mention interest on the missed payments until then), and since they’ve been waiting for years for this money, they can probably stand to wait a bit longer. Several bondholders vowed in a plea to stay the injunction that they would be willing to waive their RUFO rights. (Some, like Josh Rosner, believe that since Argentina is being forced into negotiations with the vulture fund under duress, the RUFO clauses wouldn’t get triggered anyway.)
Griesa hasn’t ruled on this latest stay request, but the point here is that Argentina, seeing few better options, has seemingly decided to sit tight until 2015, when the RUFO problem goes away. As President Christina Kirchner has said, they’ve already paid the exchange bondholders; the judge is simply holding up the transfer. And her administration is telling anyone who will listen that there wouldn’t be much fallout in the event of default. I don’t know how true that is – this doesn’t look like a great outcome – but the country believes they have other means to borrow (China just came forward with an offer), having already been locked out of the capital markets anyway. They see the near-term pain of default as the least-worst outcome compared to the long-term problem of additional claims. Politically, there’s value in defying the West, particularly the unsavory vulture fund characters. And they simply don’t believe the repercussions will approach the initial default in 2001–and they’re probably right. It’s not like the country has no history of economic upheaval. To wit:
Many ordinary Argentines are taking the threat of default in stride.
“I’ve lived through so many crises I can’t be bothered to worry about this,” said Mariano Torga, 70, an electrician who works in a repair shop.
Heck, if devaluation ensues, as is likely, it’s probably good for attracting tourists.*
That throws it to Singer and his holdout associates on how to let things play out. In the event of default, Argentina might even have grounds to say they can’t afford to pay off the vulture funds at par. I doubt highly that Singer blinks after being at this for so long, but a last-minute kick-the-can to January isn’t implausible.
And since the legal implications of this fight are so insane, as they make any future sovereign debt renegotiation that in any way comes into contact with America irrelevant, kicking the can should be the preferred outcome not just for Argentina but the entire world. As Jayati Ghosh said a couple weeks ago:
This possibility of default is embedded into credit contracts through the interest rate, with interest rate spreads operating as the market estimate of the probability of a default. So those who are seen as less likely to be able to repay are forced to pay higher interest rates, in both formal and informal credit transactions. A creditor who has been demanding and receiving a higher interest rate based on this probability cannot then demand full repayment as a right, since the contract reflected that very likelihood. So the ruling actually negates the basic principles upon which all credit markets function.
Should be a wild day, but the courts have already ensured an outcome that will produce some form of sadness.
P.S. See also Felix Salmon’s excellent debunking of the hash the financial press has made out of this story, and why Argentinian bond prices have actually gone up lately despite the increased likelihood of default.
*Full disclosure: I have several family members in Argentina and will be visiting in November, so if they want to devalue and stretch my tourist dollar, I’m not going to exactly say no. But I’d rather see this end with a safe landing for innocent people who don’t really deserve the punishment they’re about to endure.