Until recently, the cost of Argentina's failure to restructure the $100 billion of sovereign debt it defaulted on in December, 2001, has been barely visible. Shopping malls and supermarkets are buzzing as consumer spending rebounds. Municipal workers are busy fixing potholes and street lighting, and the farming sector is booming on the back of bumper soybean exports. Argentina's economy is set to grow 7% this year, and the federal government is forecasting a budget surplus equal to 3.2% of gross domestic product for 2004.
But look closer and you'll see signs that the game of bluff Argentina has been playing with creditors is starting to take a toll on the real economy. President Néstor Kirchner has refused to negotiate with international bondholders, instead trying to dictate the terms on which the country is willing to reschedule its massive debt. Kirchner's hard-nosed tactics have played well at home, where the prevailing sentiment is that Wall Street conspired to bring about the economy's 2002 collapse. "Kirchner's poker playing has worked well so far, but it's only a short-term method he can use in a growing economy," warns Claudio M. Loser, senior fellow at Washington think tank Inter-American Dialogue. "So long as the debt issue is not solved, Argentina will simply not be a destination for investment."
Foreign direct investment is already drying up. Inflows plummeted from a record $24 billion in 1999 to less than $1 billion last year, placing Argentina near the bottom of a global ranking of FDI compiled by the U.N. Potential investors are wary of pouring money into a country that doesn't honor its debts, where the government refuses to allow foreign-owned utilities to raise tariffs, and where the courts have failed to protect investors from official whim. France's Société Générale announced in late September that it was considering selling off its local operation, joining a string of foreign companies that have exited the country.
No wonder the recovery seems to be losing steam. GDP growth in the second quarter, at just 0.5%, was the weakest since the end of the recession in 2002. And the jobless rate edged up to 14.8%, the first rise in 18 months. Factor in a dramatic falloff in domestic fixed investment and tight credit conditions, and the future looks grim. Capacity constraints in energy, transport, and telecommunications caused by underinvestment in machinery and equipment are already beginning to show, and the government is forecasting economic growth of just 4.5% in 2005. "There's no panic right now," says Walter Molano, senior managing director at BCP Securities LLC in Greenwich, Conn. "But let 5 or 10 years go by and the country will be desperate for fresh capital. If they wait that long, Argentina is going to look a lot like Paraguay."
Undaunted by the dire predictions, Kirchner is standing firm. Despite pressure from the G7 group of industrial nations during their recent meeting in Washington, Argentina has refused to improve its offer to bondholders. That offer, unveiled in June, implies a net present recovery value of just 26 cents per $1 of defaulted debt -- about half of what Russia and Ecuador agreed to pay in restructuring deals.
A recent survey of the New York-based Emerging Markets Creditors Assn. found that only 5% of its members would accept such an offer. That means many bondholders may instead seek redress through the courts, a process that is likely to draw out a final settlement. "I've been doing restructuring for 20 years now, and I've never seen anything like this," says Hans Humes, co-chairman of the largest creditor group, the Global Committee of Argentine Bondholders, whose members hold $39 billion worth of Argentine paper. Kirchner seems to be betting Argentina can limp along without foreign investment until the creditors throw in their hands.
By Colin Barraclough in Buenos Aires