By Don Quijones, Spain, UK, & Mexico, editor at Wolf Street. Originally published at Wolf Street.
Economic history appears to be rhyming once again in Latin America. Perennial credit-basket-case Argentina was one of the first countries to suffer a major currency crisis this century. Now, its government has asked the IMF for a brand-new bailout. But if this classic last-gasp fix was meant to calm the markets, it isn’t working.
Previous Latin American debt crises have taught us two things:
- The direct impact on the general populace, already suffering from sky-high poverty rates, is devastating;
- Once the first domino falls, contagion can spread like wildfire.
The debt crisis of the early 1980s, which spread to virtually all corners of the region, famously paved the way to Latin America’s “lost decade.” Mexico’s Tequila Crisis of 1994-5 at one point became so serious that it almost brought down some of Wall Street’s biggest banks.
At the moment, as long as the US dollar and US yields continue to rise, emerging market jitters can be expected to grow. As British financial correspondent Neal Kimberley notes, markets often behave like predators, running down what they perceive as the weakest prey first — a role being filled, with usual aplomb, by Argentina.
Emerging market weakness is by now a generalized trend. The jitters could soon spread to Latin America’s two largest economies, Brazil and Mexico, which between them account for close to 60% of Latin America’s GDP. Both of the countries face general elections in the next two months. In Brazil the most popular presidential candidate, former president Luiz Inácio Lula da Silva, is running his campaign from behind bars, where he serves a prison sentence after having been convicted of corruption. In Mexico, the front runner, Andres Manuel Lopez Obrador, has the country’s business elite so spooked that it has launched a “Project Fear” against his candidacy.
But it’s not just countries that are at risk of contagion; so, too, are global companies with a big stake in the affected markets. Few companies are more exposed to Latin America than large Spanish ones. Some were already burnt in Argentina’s last crisis and default. But in the aftermath of Spain’s real estate collapse, opportunities at home dried up to such an extent that access to Latin America’s fast-growing economies became a godsend. But it could soon become a curse.
Among the Spanish firms with most to lose are Telefónica, with €3.5 billion of revenues at stake in Argentina. It also generates €12 billion of its revenues in Brazil. There’s supermarket chain Dia with €1.74 billion of its in revenues in Argentina. Or Gas Natural with €574 million of its revenues in Argentina. Spanish infrastructure group Abertis, which was just acquired in a joint takeover by Italian rival Atlantia and Spanish construction firm ACS, has €400 million of revenues in Argentina.
Spain’s two biggest banks, Santander and BBVA, also have sizable stakes in the country, with Santander earning 4% of its group profits there and BBVA, 6%.
While Latin American markets have provided welcome diversification effects for the two big banks, they could also have significant implications for inward and outward spillovers. The subsidiaries of Santander and BBVA are “systemically important” for a number of key banking systems in Latin America, accounting for about 38% and 25% of Mexico and Chile’s banking sector assets, respectively.
In the case of BBVA, its Mexico operations account for almost half of the group’s global profits. For Santander its biggest source of lucre is Brazil, providing 27% of the group’s global profits in 2017. As the IMF cautioned last year, this “high reliance on foreign subsidiaries in profit generation could imply significant vulnerabilities if the economic and financial conditions in host countries were to deteriorate.”
At the beginning of this year, both Mexico and Brazil faced an uphill struggle, with inflation high, growth stagnating, political uncertainty on the rise, and in Mexico, serious doubts about NAFTA. Argentina has meanwhile sunk into full crisis mode. Now, there’s the added risk of a generalized deterioration in emerging market debt. So 2018 could be a challenge, not only for Latin America, but also for the Spanish companies and banks that have grown to depend upon it.
When the “hot money” gets antsy, a currency crisis morphs into a debt crisis. Read… As US Dollar & Interest Rates Rise, All Heck Breaks Loose in Emerging Market Currencies
“Don’t Cry for Me Argentina” – and they won’t, at least for the foreign banks that will never be repaid. It’s surprising that a country so blessed with natural resources as Argentina can be so badly managed. Although Buenos Aires is really a delightful city to visit, fun, lively, pleasure-oriented, and peaceful. And getting cheaper by the minute as the currency inflates to nothingness. Iran is very cheap now too, tho not as cheap as when my cousin went through there in the early eighties on a transit visa – $12 bought enough Iranian currency in the black market for him to live for six days, staying at tourist hotels and traveling on air conditioned Mercedes buses. Which was a step up from how he had been living on the road overland from Australia, sleeping on the beach and eating street food.
The world is still a fascinating place although I think that kind of travel is getting harder.
Uncle Sam has had a heavy hand in making sure that countries rich in natural resources are run in a way that is not so agreeable with stability and social welfare. Resource extraction and hewing to the Washington consensus is always key. One would hope that with enough turmoil, eventually leadership would emerge that would focus on importing far less from outside their own borders/regions, including financing. Brazil, Argentina, and Mexico should be largely self-sufficient and unconcerned with fluctuations of the dollar. Time and time again though, we see through US actions and the greed of internal elites, the countries cannot escape the damage inflected upon them by corruption and feckless leadership.
I like your “time and time again” line. The cyclic recidivism theme was certainly strong in the works of a certain Columbian Nobel laureate who had some things to say about the state of Latin America…
Inflation is not “high” in Brazil: the latest figures put the annual rate at 2.76 %, way below the central bank target of 4.5%.
Some things don’t change in Argentina, whether the government of the day is populist or conservative. For instance, regardless of who’s nominally in charge of the BCRA [central bank], the entrenched bureaucracy carries on increasing the supply of circulating currency at nearly 30 percent annually. Inflation and currency devaluation are natural consequences.
Another policy which hasn’t changed is an inheritance from chavismo — the bizarre theory that an overvalued currency confers some benefit. In one sense that’s true. Reportedly Argentina has almost two-thirds of its external debt denominated in foreign currencies, including its $2.75 billion of 100-year bonds denominated in US dollars. Every drop in the peso directly ratchets up debt service expense.
But we already know, from the sad examples of Venezuela and Argentina in the past, that a chronically overvalued currency subsidizes imports, hobbles exports, and drains foreign reserves. This process grinds to a halt when forex reserves drop so low that the BSOD screen appears on the central bank’s terminals: GAME OVER … play again (Y/N)?
The proximate cause of Argentina’s difficulty is summed up by Eshe Nelson:
How should the IMF respond to Argentina’s request for a $30 billion bailout to support dysfunctional policies that are guaranteed to fail? Simple: “Stop the greasy-kid-stuff inflation, let the peso float, and come back to see us when you’ve succeeded.”
Stop the greasy-kid-stuff inflation, let the peso float, and come back to see us when you’ve succeeded.
Really? Where has that worked? The issue appears to be neoliberal free trade, where imports are encouraged, and local manufacture discouraged.
How about “Close your economy, make everything you need yourself as much as possible, with import substitution, Borrow only in your own currency or do without.”
“Close your economy, make everything you need yourself as much as possible, with import substitution, Borrow only in your own currency or do without.”
Yes, agreed; and to a very large extent, that is what the Kirchner administrations had been doing— despite massive opposition from a very deeply-entrenched land-owner oligarchy and highly concentrated media— managing to substantially reduce poverty, extend education opportunities into the interior of the country and pay off the IMF, all this from a hugely disadvantageous economic starting point provided to them by the disastrous neoliberal policies of Menem et al. And now we have Macri, who has sabotaged many elements of the nation’s economic machinery— notably the federal research agencies— has substantially increased unemployment, savagely cut wages, engaged in wholesale privatization, and, to cap it all, opted to saddle the country with further massive foreign-denominated debt. Macri amounts to what Argentines refer to as un cipayo vendepatria.
I’d default on this: “and pay off the IMF”
I’d not be repaying a predators’ self created money.
Right. It was to good degree odious debt dating the from the days of Videla and the dictadura; nonetheless, they felt it was necessary to escape once and for all from the yoke of debt denominated in US$. And this they did. Now it’s back gracias a Macri..
No, thanks to the people who voted Macri.
He came to do his job, people was stupid enough to vote him.
I received my copy of Naomi Prins’ “Collusion” yesterday. Based solely on the introduction (all I have had time to read so far) I bet that I’ll have a much better understanding of who is ultimately responsible for what we are about to see happen, and it’s not the relatively ignorant, average, US politician, but our Central Banking System here and Europe and other places.
“Central Banks can do no wrong,” eh?
I hope you realize I meant quite the opposite :-)
The world is getting there…
It could be the eternal recurrence of by Friedrich Nietzsche (1844-1900) in The Gay Science [ “This life as you now live it and have lived it, you will have to live once more and innumerable times more; and there will be nothing new in it, but every pain and every joy and every thought and sigh and everything unutterably small or great in your life will have to return to you, all in the same succession and sequence—even this spider and this moonlight between the trees, and even this moment and I myself. The eternal hourglass of existence is turned upside down again and again, and you with it, speck of dust!”].
There is an ongoing failure by successive Latin American policy makers to correctly diagnose and craft prudent macro financial and monetary policies to prevent financial crises and their economic fallout from recurring. I don’t believe the level of Argentine sovereign debt is a problem. Rather, it is the nation’s private sector debt to external creditors denominated in US dollars, and sudden fluctuations in the $USD currency exchange rate, that is the problem.
So who in the private sector are borrowing all this debt denominated in a foreign currency, why have they done so, and to whom do they owe that debt? And what is the leverage they have over the nation’s government to transfer repayment of that debt to the nation’s government and insist on policy prescriptions that are so damaging to the vast majority of the nation’s people, who are largely innocent in the matter?
Are you blaming the victims or the perpetrators?
” And what is the leverage they have over the nation’s government to transfer repayment of that debt to the nation’s government” not point to “free trade regime”? What controls would you have the Government place if closing its economy, local manufacture and import substitution, is required to gain control?
How does a perennial “debtor nation” actually control its “foreign denominated debt”? Pleas enlighten me.
To answer your first question, the perps. Based on your comment, I think you have the ability to answer your second and third questions yourself, and suspect you may have already done so. In any event, that is a matter for the Argentine people to decide.
Argentine households’ cumulative debt-to-GDP is only around 7 percent. Argentine sovereign debt-to-GDP is about 56 percent. However, when you look at “external debt”, Argentina’s reported external debt at YE 2017 was the equivalent of $US363.1 billion, roughly 67 percent of reported GDP in $USD equivalency of $545.9 billion. With devaluation of the peso, that denominator would presumably decrease.
External debt is the total public and private debt owed to nonresidents repayable in internationally accepted currencies, goods or services, where the public debt is the money or credit owed by any level of government, from central to local, and the private debt the money or credit owed by private households or private corporations (presumably including banking corporations).
Just my thoughts, mindful of what happened to the people of Greece.
Yes , the DOllar borrowing is import driven — thus one has to cut imports, and impose exchange controls.
“Poof” goes the instant mobility of Capital. Oh it’s hard life!
My question was pointed to drive to point home.
When Scudder, Stevens & Clark floated the first Sovereign Debt Fund (we wanted to call it the Sovereign High Interest Trust, SHIT), Argentina was paying 45%, as was Brazil. Mexico was paying 22 1/2% on its Tessobonos.
Americans wouldn’t buy into the fund. Europeans wouldn’t. But Merryl Lynch sold most shares in Buenos Aires and Brazil.
Guess who bought? I think, the wealthy families that controlled the central bank. “Yankee dollars” turned out to be Argentine and Brazilian Oligarchy Dollars offshore. (Our fund was in the Dutch West Indies; as an American, I couldn’t buy shares, but it was the 2nd ranking global fund (behind an Australian real estate fund).
Thank you for your comment, Dr. Hudson. Adds another layer to understanding this puzzle.
ANyone here knows any long form read on how Argentina got into this state? From a time when it was stable relatively to current?