It has been one of the great what-ifs of global finance: What would happen if a huge, hopelessly indebted emerging market simply told the International Monetary Fund to buzz off? For the past year, Argentina essentially has done just that. With the economy in free fall following a massive default on foreign bonds in 2001, Argentina's feisty negotiators last fall refused the IMF's terms for a long-term rescue program. In return for rolling over payments on $14.6 billion in debt, the IMF insisted on sweeping government reforms, bank restructuring, and fiscal austerity. In January, the IMF blinked: It reluctantly extended the debt payments anyway. Meanwhile, Argentina is still stiffing foreign bondholders to the tune of $95 billion.
So far, Argentina has paid a surprisingly small price for its blasphemy. While it can't raise capital abroad, the economy is growing at a 5.5% clip this year. The jobless rate is down from 21.5% a year ago to 15.6%, the peso has stabilized, and construction and consumer spending have surged. President Nestor Kirchner's popularity has soared since his narrow election in May. So has Argentine confidence. "A new [IMF] agreement is convenient," says University of Buenos Aires economist Aldo Ferrer. "But it is not necessary."
A crucial test in this battle of wills is approaching fast, though. By Sept. 9, Argentina must pay the IMF $2.9 billion in principal on old loans. To meet that deadline, Buenos Aires would have to tap its $13.5 billion in foreign reserves. With billions more due in coming months, Argentines fear such payouts would deplete reserves. If Buenos Aires refuses to pony up, its options include another default or securing a lifeline from the IMF allowing further payment delays. What's more, the IMF must be on board before Argentina will renegotiate debts with other multi-lateral agencies and private creditors.
The two sides are bargaining furiously and won't discuss their positions ahead of the deadline. But analysts say the IMF and Argentina remain far apart on key issues. These range from the size of the budget surplus Buenos Aires must promise to the pace of reforms in the banking industry and rate hikes for foreign-owned utilities. At stake are Argentina's prospects for continued recovery and the money owed to foreign lenders and bondholders, who analysts estimate would take a 60% to 80% haircut if Buenos Aires has its way.
Also on the line is the IMF's credibility as disciplinarian of crisis-ridden emerging markets. IMF Managing Director Horst Köhler already was embarrassed in last year's face-off with Argentina. He insisted on tough terms in return for a debt rollover, but the U.S. and other Group of Seven members forced him to back down. Fearing the financial and political ramifications of a default by a major IMF client, Washington is again pushing for compromise.
The main sticking point now is the size of the budget surplus Argentina must produce. The IMF wants a surplus close to the 4.25% of gross domestic product, not counting debt obligations, that Brazil accepted in May as part of its aid program. Argentina wants the amount limited to 3%, arguing that any further austerity would hurt the recovery. "Argentina can only honor its obligations if its economy has the oxygen to grow," Economy Minister Roberto Lavagna said in a recent interview. IMF skeptics concur. Says Nobel prize-winning economist Joseph E. Stiglitz: "Argentina did fine without an IMF agreement. They avoided excessively contractionary policies." But other economists warn the gains are illusory. Given that Argentina contracted 20% over two years -- and hasn't serviced its debts -- growth should be much higher, contends New York-based Latin America research chief John E. Welch of German bank WestLB. He predicts growth could taper off to 3% or below late next year.
Foreign bondholders could be the biggest losers if Buenos Aires prevails. A 3% surplus would leave enough to repay institutions such as the IMF but precious little for private creditors. And other nations could become bolder in stiffing bondholders. "If Argentina gets away with that, it would overthrow the entire spectrum of debt forgiveness, both public and private," says Peter Allen, an adviser to a committee of Argentine bondholders who are out $7.5 billion. But by facing down the IMF a year ago -- and apparently getting away with it -- Argentina has the upper hand, most analysts figure. Emerging-market finance may never be the same.
By Pete Engardio in New York and Joshua Goodman in Buenos Aires