In this issue of The Institutional Risk Analyst, we ponder the unfolding ninth sovereign debt default of progressive Argentina, this from the perspective of neighboring Uruguay. The convenient muñeca, President Alberto Fernandez, is steering the Argentine ship of state onto the rocks, again. The puppet master, Cristina Elisabet Fernández de Kirchner, holds the title of Vice President and is the power-in-fact in Buenos Aires.
Bendict Mander, writing for the Financial Times, reports that the Fernandez government is content with a 40% inflation rate in 2020.
A steady run of dollars from Argentine banks suggests that the situation is neither stable nor likely to be improving in the near term. The imposition of a 30% tax on foreign credit card transactions will further drive away dollars from the domestic economy.
The Argentine peso has lost more than half its value since before the election of the Fernandez government, but Uruguay has largely held its ground and now its currency trades at a substantial premium to Argentina. But the Fernandez y Fernandez regime is fast burning through its remaining dollar reserves and a future, maxi currency devaluation may impend.
The default of the province of Buenos Aires this past week, we note, could be the start of a more generalized default by Argentina and perhaps leading to other sympathetic events of default. Argentina was as much a beneficiary of “quantitative easing” as corporate bond issuers in the US. All manner of corporate and sovereign debt is mispriced by a least a full ratings category. A number of financial analysts fret about the corporate debt overhang, yet the state of the offshore dollar debt market strikes us as a bit more alarming.
The assumption that there will be a new debt deal for Argentina by March deserves careful inspection. The International Monetary Fund, which less than a year ago touted the success of Argentina, has more than half of its total exposure tied to Buenos Aires. “This is the biggest single programme that they’ve ever put up, and their reputation is on the line,” said Bill Rhodes, a former top Citigroup (NYSE:C) executive, to the FT last year.
Meanwhile across the Rio de la Plata in Montevideo, economic prospects are rising. The new government of Luis Lacalle Pou, the son of a former president of Uruguay, is planning to restore his nation’s role as the Switzerland of Latin America. Known as “ququito” in honor of his much-admired father, Luis Alberto Lacalle, the new Uruguayan leader is facing a number of challenges and also some great opportunities.
While Argentina and Brazil have defaulted on their debts in the past, little Uruguay has been remarkably stable and in years past was the domicile of choice for residents of surrounding countries.
Prior to the Argentina debt crises of 2001, many US and European banks were deposit takers in Montevideo, including Republic National Bank and Israel Discount Bank of New York. Private banks and family offices proliferated in the 2000s. Even as Argentina defaulted on some $95 billion in debt, little Uruguay stood its ground and honored its commitments at par in those dark years, but got little credit for doing so.
Lacalle Pou, who will take office on March 1, wants to loosen regulations to attract Argentine businesses and get them to bring their money and perhaps even settle permanently in Uruguay. But President-elect Luis Lacalle Pou’s proposal of attracting Argentine investment and immigration does not have the approval of one his predecessors, José ‘Pepe’ Mujica.
Mujica, a former terrorist, served as president of Uruguay from 2010 through 2015. During his benevolent rule, the foreign media compared Mujica favorably with Jesus Christ. The cumulative negative impact of the policies followed by Mujica and his successor led to Lacalle Pou’s election late last year.
Under two successive leftist regimes, the civil society in Uruguay was weakened and social insecurity was rising. Crime was on the increase and the government’s fiscal affairs were slipping, leading some analysts to predict that Uruguay would lose it coveted investment grade rating. But with the defeat of the “Frente Amplio,” as the Uruguayan left tendency is called, Uruguayans are hopeful that civil order and fiscal discipline will be restored to a nation that has one of the strongest civil societies in Latin America.
The troubles in Argentina, however, will likely make Lachalle’s job of attracting new investment to Uruguay far easier. Over the Christmas holiday, which stretches from before the 25th of December to the Día de los Reyes Magos on January 6th, there were fewer Argentine’s in evidence at the beach or in the stores and cafes of Punta del Este. Yet the prospect of years of socialist misrule under the Vice President Fernandez will likely drive a good bit of cash and investment to Uruguay.
Some of the major multifamily real estate projects in Montevideo and in Punta del Este are owned and managed by Argentine families with a long history of successful development projects from Chile to Miami. Several people close to this community of developers predicted that the flow of new capital is likely to be directed to Uruguay because of the change in government and the general economic success and stability that Uruguay has enjoyed in recent years.
Indeed, during our trip to Uruguay we heard that the long-delayed project sponsored by the Trump Organization will now be completed. Moribund for some five years, the Trump Tower project was backed by Argentine investors and is located in a prime position on the ocean or “playa brava” side of Punta de Este. The Institutional Risk Analyst is told that, since the Argentine election, the money has been committed to finish the project.
As the peso continues to lose value under the projected mid-double-digit inflation rate in 2020, Uruguay’s largely dollarized economy will continue to attract investment from a variety of investors around the globe. The Finnish forestry giant UPM-Kymmene Oyj and Swedish-Norwegian-Uruguayan businessman Alex Vik are just some of the global investors that have made substantial commitments to Uruguay in recent years.
The situation in Argentina, however, may hold serious potential for systemic contagion in 2020. Many investors have been lulled to sleep when it comes to credit default risk. As it becomes apparent that the IMF is not going to rescue Argentina, and also that the US is not going to rescue the IMF from its folly under Director Christine Lagarde, investors may back away from Argentina.
The combination of a default by Buenos Aires later this year and a potentially crippling loss to the IMF could be a bit more of a surprise than the financial markets have comes to expect in recent years.
ABOUT CHRISTOPHER WHALEN
Christopher Whalen is the author of the book Ford Men and chairman of Whalen Global Advisors. Over the past three decades, he has worked for financial firms including Bear, Stearns & Co., Prudential Securities, Tangent Capital Partners and Carrington.
This piece does not necessarily reflect the opinion of Hedgeye.