The Economist explains

Why Argentina may default on its debts

By A.P.

ARGENTINA has until midnight (Eastern Standard Time) on July 30th to avoid going into default for the eighth time in its history. The story leading to today’s deadline started way back in 2001, the last time Argentina defaulted on its debts. Most of its creditors exchanged their defaulted debt for new securities in two restructurings that took place in 2005 and 2010. But a few creditors, led by a hedge fund called NML Capital, took a different path. They scooped up the cheap defaulted debt in order to chase payment of full principal plus interest in the New York courts, under whose law the original bonds were written.

It is this protracted legal battle that has now forced Argentina to the brink of another default. In 2012 a ruling by Thomas Griesa, a New York district-court judge, banned Argentina from paying the creditors who held the exchanged bonds if the country did not also pay NML what it wants. Judge Griesa based his ruling on a pari passu clause in the documentation of the original bonds, which entitles all creditors to equal treatment. Last month the Supreme Court of the United States refused to get involved in the case, leaving Judge Griesa’s ruling intact and Argentina with only thorny choices: pay NML the $1.3 billion plus interest awarded by the court; negotiate a settlement with the hedge fund; or stop paying the exchange bondholders. A payment due on June 30th to those exchange bondholders was missed. The grace period expires on July 30th, at which point Argentina will again be in default.

The assumption had long been that some kind of settlement would be reached. That would be in the interest of exchange bondholders, who would keep getting paid. It would also clearly suit the holdouts. And it would keep Argentina on course for rehabilitation in the eyes of the international capital markets. But the clock has almost run out and there has been no sign of substantive negotiations. President Cristina Fernández de Kirchner has always opposed stumping up to the “holdout” creditors—also dubbed vulture funds. And Argentina claims it cannot arrange a settlement with the holdouts without potentially triggering a Rights Upon Future Offers (RUFO) clause written into its restructured bonds. This clause, which expires on December 31st, specifies that Argentina cannot voluntarily offer holdouts a better deal than it did during its 2005 and 2010 restructurings without extending the offer to all bondholders.

Judge Griesa has rejected requests from Argentina for a stay on his decision until after the RUFO clause expires. It is just possible that he might look more kindly on a request for a stay from NML itself. But without a last-minute settlement or a bit of can-kicking, the country will again default (or, as Twitter puts it, “Griefault”). Whatever the costs for Argentina, the impact of default on the outside world should at least be containable. Few investors would be shocked if Argentina defaults; and its outstanding debt under foreign law amounts to only $29 billion, far less than the $81 billion it reneged on in 2001.

Dig deeper:
The clock is ticking toward an Argentine default (July 2014)
Argentina’s debt stand-off reflects a teenage attitude that rules are there to be broken (July 2014)
Latin America's economies are going the wrong way (July 2014)

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