Of the six government defaults recorded in the world in 2020, four were in Latin America and the Caribbean (LAC). Not just that: in 2020 four other countries in the region benefitted from the debt service suspension initiative (DSSI) set up by the G20. Indeed, according to the latest World Economic Outlook (IMF, April 6, 2021), in 2020 general government gross debt in the area as a whole rose by about 9 percentage points of GDP, giving Latin America and the Caribbean the unenviable record of most indebted region in the developing world.
As elsewhere, LAC governments intervened to sustain consumption – part and parcel of public health policies that tried to keep people at home. Clearly, income-support measures varied from country to country, reflecting governments’ different fiscal leeway. On top of higher government spending, lower domestic growth and international trade sapped fiscal revenues and, in some cases, increased current account deficits.
The external situation worsened in particular for the region’s smaller economies, which were hit harder by the stoppage of the global supply chains they were part of, and by the drop in tourist flows. To top it all, foreign direct investments (FDIs) fell sharply over the period. It is thus understandable that the IMF provided about US$66 billion in financing – including contingency lines – to 21 LAC countries in 2020, accounting for over two-thirds of the emergency liquidity the Fund extended globally.
All this said, a wave of defaults in the region, something akin to what happened in the early 1980s, seems quite unlikely. The largest economies have no debt sustainability problems even though worsening current accounts, reduced FDIs, and limited access to international capital markets might cause some liquidity issues for some of them. The countries most in trouble are small economies in Central America and the Caribbean - and then, of course, Argentina remains a case that stands apart. Here is a brief review of the main events.
In May 2020, Argentina missed a US$503 million interest payment on US dollar bonds issued under New York law – the country’s third default in twenty years. But Argentina’s troubles did not start with the pandemic: back in December 2019 the new government had already announced its intention to restructure the country’s debt. In August 2020, the country reached an agreement with its key external creditors, the holders of US$65 billion in foreign-law bonds denominated in multiple currencies. Thanks also to the collective action clauses (CACs), which were tested for the first time in this sovereign-debt restructuring, 99 percent of bondholders participated in the deal. The agreement entailed a small principal reduction (US$1.6 billion); longer maturity (from 7.9 years to 11 years); a lower coupon rate (from 6.5% to 3.2%); an average of 7 years for a grace period and minimal interest payments between 2021 and 2024. According to the Argentinian government, the restructuring will reduce debt payments by about US$37 billion over the next decade.
The government of Argentina is also negotiating the rescheduling of US$45 billion it owes the IMF. In 2018 Argentina, challenged by recession, inflation, and a depreciating currency, turned to the IMF for financial assistance. The IMF provided US$ 57 billion in loans - the IMF’s largest loan thus far.
In April 2020, Ecuador launched a market-friendly restructuring of international bonds worth US$17.4 billion. The country agreed to an IMF programme towards the end of August – a precondition for the restructuring – and on August 31 it reached a deal with its bondholders – 100% of them, thanks also to the CACs. The debt deal includes a reduction in the principal and the coupon rates, and maturity increase, as well as a grace period. In 2020, Ecuador’s gross debt, albeit not particularly large, rose from 51.5% of GDP in 2019 to 64.6%.
The other two LAC countries who defaulted in 2020 - Belize and Suriname – were probably pushed over the brink by COVID-19. In mid-August 2020, the government of Belize agreed with creditors to capitalise the coupons of its 2034 Eurobond (of which it issued US$526 million) up to May 2021. It was a selective default, given that the government continued to meet its other debt obligations. Belize is still severely affected by the pandemic, and the risk of further deferrals or a broader default remains high. Besides a terrible COVID-19 outbreak in the summer of 2020, the country recorded a 72% decline in tourist arrivals: given that tourism accounts for around 60% of foreign exchange earnings and 40% of GDP, real GDP contracted by 14% percent in 2020 and its fiscal and external positions tanked. Public debt rose from 97.5% of GDP in 2019 to 127% in 2020 – unsustainable, according to the IMF’s assessment.
In July 2020, the government of Suriname agreed with creditors to postpone payments on US$125 million in notes maturing in 2023. Despite this, in October the government missed payments (worth US$25 million) on its 2026 bonds. In December, the government agreed with creditors to defer US$48.5 million in debt service payments and interest on arrears. Before negotiating a more comprehensive debt restructuring, creditors demanded that Suriname entered an IMF programme. The government has engaged in negotiations with the IMF for an extended fund facility (EFF), which will require Suriname to make structural reforms. Although the situation is bleak and real GDP contracted by 13.5% percent in 2020, Suriname’s medium term future growth prospects look quite promising, given the offshore oil finds announced by ExxonMobil (US), Apache (US), Petronas (Malaysia), and Total (France).
As abovementioned, a wave of sovereign defaults among LAC countries seems unlikely, despite signs of distress appearing here and there. Even the elephant in the room, Brazil, despite some evident weaknesses, does not seem to be a real threat to the stability of the area. To mitigate the impact of the pandemic, in 2020 the Brazilian government introduced a fiscal stimulus worth about 8% of GDP. The measure contained the drop in economic activity, but public debt shot up to nearly 100% GDP. As things stand, Brazil should be able to manage this debt level: most of it is in domestic currency, it is held by domestic investors, and it has a rather long maturity. And although the central bank is independent, it could still act as lender of last resort, if push comes to shove. The risks to this scenario come mainly from two fronts: the pandemic, should the nasty Brazilian variant manage to derail economic recovery, and a drawn-out election campaign by President Bolsonaro and former President Luiz Inácio Lula da Silva. The risks could sap confidence in the country and precipitate a vicious loop of currency depreciation, inflation, higher interest rate and worse fiscal accounts.
What policies should be introduced to manage the erosion of solvency and liquidity indicators in many LAC economies? At the international level, more financial resources should be made available by International Financial Institutions and richer countries. Clarifying the legal framework underpinning international debt offerings would also help: a multilateral sovereign debt restructuring mechanism, one that involves all creditors - bilateral, multilateral and private – would clearly extend the benefits of CACs. At the national level the levers to act on are well known: reforms of the tax system that allow to increase the tax intake as a percentage of GDP, if necessary with an increase in taxation, and fiscal policies capable of promoting sustainable, shared, and lasting growth.
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