Argentina's Shaky Finances--Spread Tremors Overseas
By MATT MOFFETT, PAMELA DRUCKERMAN and DAVID LUHNOW
Staff Reporters of THE WALL STREET JOURNAL
Latin America appears to be tumbling headlong into yet another financial morass, and with the region more integrated than ever with the global economy, the bruising bumps are being felt almost immediately from New York to Johannesburg to Hong Kong.
The focal point is Argentina, where trouble has been brewing for months. Markets increasingly seem to be abandoning hope for a near-term recovery of the heavily indebted and recession-racked economy. The worries have spread to neighboring Brazil, the largest nation in South America and the biggest recipient of foreign investment, and even touched relatively strong economies such as Chile's and Mexico's. But Turkey's markets took a spill Wednesday, too, as did Taiwan's.
The latest -- and sharpest -- twist in this dreary descent came into view Tuesday, when Buenos Aires auctioned off three-month Treasury bills to raise money to service its short-term debt. A routine affair, yet the average yield on the bills turned out to be 14.01%, almost twice that of a month before. With such extravagant enticements needed to lure nervous investors, Argentina knew it had trouble on its hands. So did the rest of the world.
The global economy has endured other emerging-markets eruptions -- after Mexico devalued its peso in 1994, and again in 1997 and 1998, when a financial crisis in Asia spread to Russia and then to Brazil. But the current Latin flu is afflicting the world economy when it is particularly weak, as a decade-long boom winds down. Energy shortages are also a drag on economic growth in some countries, such as Brazil, which has had to impose painful electricity rationing. This time around, there is also a new man in the White House, and President Bush's advisers have expressed skepticism about country bailouts that some credit for having prevented past emerging-markets blowups from becoming even worse.
Emerging markets won't be able to count on strong growth from the developed world to help propel them back to health, as they did in the past. Japan remains in a serious slump, and the U.S. and European economies have slowed notably.
One positive point is that the world has had time to prepare for this turmoil. Unlike some other emerging-markets crises, which caught investors by surprise, Argentina's drama has been playing out since last fall, when a Senate bribery scandal combined with the enduring recession to make investors fret about how the government would pay its bills. In December, a group of lenders led by the International Monetary Fund pitched in with a nearly $40 billion aid package. But in the absence of economic growth, and amid a series of shake-ups at the Economy Ministry, doubts persisted.
"You've had steady and slow deterioration," says Steve Hanke, professor of applied economics at Johns Hopkins University in Baltimore. "And the investment flows into emerging markets slowed down a long time ago."
Nevertheless, Latin America is even more closely linked to the rest of the world than it was in the past. Brazil took in about $30 billion in direct foreign investment last year and has become a favorite for a host of multinationals, from Spain's Banco Santander Central Hispano to U.S. phone company BellSouth Corp.
U.S. banks' exposure to Argentina at the end of March totaled $11.7 billion, and to Brazil $24.3 billion, according to the latest data available from the Federal Financial Institutions Examination Council, while their exposure to Mexico was $18 billion. FleetBoston Financial Corp. is believed to have the greatest exposure to Latin America: Roughly 3% of its earnings come from the region, with $9.5 billion in assets in Argentina alone.
But Fleet's lending business tends to focus on credits to big multinational companies doing business in Latin America as well as private banking services to high-net-worth individuals -- two areas considered less volatile than lending to governments that hammered U.S. banking institutions during the Latin American debt crisis of the 1980s. "There were a lot of these sorts of crises in the 1990s, but we consistently saw double-digit earnings growth each year in our Latin American operations," says Allison Gibbs, a FleetBoston spokeswoman. "We're very comfortable with our assets there."
What makes the current market influenza debilitating is that it doesn't seem to be discriminating between the types of economies it hits or the policies those nations' finance ministers pursue. Argentina's peso, linked 1-to-1 to the dollar, has come under ferocious attack. But Brazil's real, which floats free, has also been hammered.
The rush out of emerging-markets currencies Wednesday primarily benefited the euro. The 12-nation European single currency jumped to 86.41 U.S. cents at one point, for a gain of 3.5% from the eight-month low hit last Friday. The South African rand hit a two-month low against the euro and a record low against the dollar, while the Turkish lira descended to all-time lows against both the dollar and euro. Standard & Poor's Ratings Group Wednesday downgraded Turkey's long-term credit ratings to "negative" from "stable."
The euro also hit a near-six-month high against the Polish zloty, and the Hungarian forint weakened sharply against the euro, as those Central European currencies also suffered from the emerging-markets jitters upsetting trading desks.
"One thing is very plain," David Brown, chief European economist at Bear, Stearns & Co. in London, told clients Wednesday. "It could well be a case of living la vida loca and what could turn out to be a long, hot summer for emerging markets."
Argentina is ground zero of the market anxiety. Argentine stocks and bonds plunged Wednesday as investors continued to worry that the nation could be headed toward a default on its roughly $130 billion in government debt. Argentina's main stock index had sunk 7% at one point, though it recovered enough to end the day down 2.2%. One of the country's benchmark bonds fell 4.1%, to $724 for every $1,000 of face value.
The market reaction came in spite of a pledge by Economy Minister Domingo Cavallo on Tuesday, hours after the sobering Treasury-bill auction, to finally make the government-spending cuts that many Argentines fiercely oppose but that investors have been demanding for months.
"Argentina is running out of options," Goldman Sachs wrote in a report published Wednesday. "We believe such drastic [budget cuts] will require a level of political support not yet seen in the Argentine political establishment."
Joining the chorus of economists worried about whether Argentina will meet future payments on its debt load was Fitch Ratings Inc., which downgraded the nation's sovereign rating to B-minus from B-plus. "Public debt dynamics remain on an unsustainable path that imperils the capacity of the Argentine government to meet its debt obligations," analyst Roger Scher wrote.
Foreign traders are keeping a careful watch over Argentine bank deposits to see whether the tumult in financial markets is stirring panic among ordinary Argentines that could lead to a banking crisis. There was a one-day 0.65% drop in total deposits last Thursday, the last day the data were reported. Analysts say that figure isn't in itself cause for alarm, but it would be troubling if it portends additional declines that could eventually mean a stampede out of banks.
Argentina's larger neighbor, Brazil, which has pursued an exchange rate policy quite different from that of Buenos Aires, has also taken a beating. Its currency fell to a record-low close for the second straight day, on the financial shocks in Argentina and the power crisis at home, and economists are just about out of ideas on how Brazil can stabilize the real. It ended the day at 2.50 to the dollar despite central-bank intervention to support it. That level, which was weaker still than Tuesday's previous historic close of 2.492 to the dollar, left the currency 28% below where it began the year.
"In truth, people thought that 2.30 was an absurd rate, and now it seems like something that's perfectly natural," says Fabio Giambiagi, economist at the Banco Nacional de Desenvolvimento Economico & Social, Brazil's big federal development bank.
The Brazilian government's initial line was that the real's fall was just a "transitory" speculative phenomenon, but "now practically no one believes that," says Luiz Rabi, an economist at Banco Industrial & Comercial SA, a Sao Paulo bank. "The government is looking for a new equilibrium point. It could be 2.5 or 2.6. Nobody knows."
Mauro Schneider, Latin American strategist for ING Barings in Sao Paulo, says, "Since a large part of the problems are related to uncertainties such as Argentina and [power] rationing, it's very difficult for the central bank to develop and implement a strategy." It's also hard for economists to plot a course for the Brazilian real. Mr. Schneider has been basing his projections on a ratio of 2.25 reals to the dollar, assuming that the energy and Argentina crises stabilize. His economic-growth projection for Brazil is 2.4%, down from 4.1% earlier in the year. But he warns, "You cannot assign a very large probability to any scenario these days."
You certainly can't. The farther-reaching effects of Argentina's tremors may be felt in Hong Kong, as any threat to Argentina's currency-peg to the U.S. dollar would cast a shadow on Hong Kong's own peg to the U.S. currency.
In Mexico, the first cracks in the mighty peso appeared Wednesday as worries about Argentina's financial fix spread north of the Andes, though investors remained confident that Mexico has built a solid defense against importing a crisis of its own. Mexico's peso slipped 1.1% against the dollar to 9.255. It was one of the sharpest single-day declines for the currency this year, although it is still up more than 4% against the dollar.
Until now, Mexico has proved surprisingly immune to Argentina's woes. Although it suffers from the same sharp slowdown as its biggest trading partner, the U.S., there is no sense of panic. Thanks mostly to conservative money management by the central bank, inflation is also slowing fast and beginning to approach U.S. levels; Mexican prices rose just 2.11% for the year's first six months, the lowest level since 1969. Most investors also expect Mexico to secure an "investment-grade" rating for its debt before the end of this year, helping lower the cost of borrowing for homeowners and businesses.
Mexico got some outside help. Citigroup's agreement in May to buy the nation's biggest bank for some $12.5 billion helped fuel a growing perception that Mexico nowadays has more in common with the U.S. than with its Latino cousins to the south. Then, too, Argentina's troubles helped Mexico look better by comparison, offering a safe haven for money dedicated to the region.
That doesn't mean investors don't lose sleep over the prospect of trouble creeping north. They assuredly do. Still, Mexico's 1994-95 peso meltdown notwithstanding, recent history may be on the bulls' side. Mexico weathered both the 1998 Russian debt default and the 1999 Brazilian currency devaluation, outperforming other regional markets. Says Deutsche Bank Latin American equity strategist Renato Grandmont, "Past crises tell us that being in the right country [currency] is much more important than being in the right stocks."
-- Michael R. Sesit in London and Jathon Sapsford and Paul Beckett in New York contributed to this article. |
