Risks of investing in Argentina following ninth sovereign default

By Wang Jihong and Wu Anjing, Zhong Lun Law Firm
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Between 1827 and 2020, Argentina has a record of eight sovereign defaults. In December 2001, Argentina stopped payment on its foreign debts of about US$130 billion, the largest such default by a sovereign state up to that time. On 22 May 2020, Argentina once again announced that it was postponing payment of interest on about US$500 million in bonds, which had already previously been postponed, thus officially entering its ninth sovereign default.

Wang Jihong Zhong Lun Law Firm sovereign default
Wang Jihong
Partner
Zhong Lun Law Firm

It was the Argentine government’s intent to pay back its debts, but its high debt servicing costs, massive fiscal expenditures and immense outstanding foreign debt, together with the raging covid-19 pandemic, have conspired to make it impossible for it to pay its debts on schedule. Having postponed negotiations on several occasions, the Argentine government finally managed to reach agreement with its major creditors, on 4 August 2020, on a debt restructuring plan involving debts in the amount of US$66.3 billion, to reduce its debt and repayment burdens through a swap of old bonds for new.

According to figures from Argentina’s National Institute of Statistics and Census, as at the end of 2019, Argentina had an aggregate foreign debt of US$277.64 billion (US$21 billion of which falls due in 2020), while its foreign exchange reserves stood at a mere US$44.84 billion. Of this total, the debts of government departments accounted for 63%.

Wu Anjing Zhong Lun Law Firm sovereign default
Wu Anjing
Associate
Zhong Lun Law Firm

Although the most recent sovereign debt default was essentially solved, considering the Argentine government’s default record, as well as Argentina’s current foreign debt situation, the South American country’s sovereign debt default risk remains quite high. Following an announcement that it would be postponing repayment on its US dollar debt, major international rating agencies downgraded the country; for example, Moody’s downgraded its credit rating from Caa2 to Ca, and changed its outlook to negative.

The political risk and uncertainty involved in investing in Argentina are largely caused by economic instability. In addition to sovereign debt default, other political risks include corruption, exchange controls, project change caused by changes of government, and the international economic situation.

Corruption

Argentina’s political, judicial and commercial systems have long been associated with political corruption. In 2018, the “corruption notebooks” scandal came to light, where the driver of Argentina’s former deputy minister of planning used eight notebooks to expose the internal corruption system centring on former presidents Cristina Fernandez and her husband Nestor Kirchner, who preceded her, during their administrations.

The entire bribery scandal involved at least US$160 million and triggered a massive earthquake in Argentina’s political and business circles, involving not only the entire planning department but also a significant number of executives of large corporations. Argentina’s recovering economy also fell victim, with Argentina’s “century bonds”, which come due in 2117, falling to an all-time low on 8 August 2018.

Exchange controls

Argentina’s foreign exchange control policy is subject to frequent changes. Foreign exchange restrictions have been imposed by Argentine governments at different times, affecting the free flow of Argentine capital. Pursuant to current foreign exchange regulations, the payment of dividends and service fees abroad from Argentina, and the purchase of foreign currency by legal persons, require the prior approval of the Central Bank of Argentina.

With approval, natural persons may purchase US dollars up to a limit of US$200 a month, subject to a 30% charge on top of the official US dollar rate. The Argentine government’s exchange controls have resulted in outbound foreign exchange delay risks, and the risk of uncertainty as to whether it can be remitted.

Change of government

The impact on foreign investors of project changes caused by changes of government in Argentina cannot be ignored. Under certain circumstances, a change in the Argentine government can result in major changes in overall policies.

A client served by the authors found itself in the unenviable position of restarting project negotiations from scratch after a change in government resulted in the cancellation of the previously executed contract. Information in the public domain also shows that a large hydropower project in Argentina undertaken by a Chinese party also resulted in a new review of the hydropower station contract executed during the previous president’s term, and suspension of payment following the coming to power of a new government.

US-China trade dispute

From the perspective of the impact of the international situation, investment in, and trade with, Argentina may also be affected by the US-China trade war. The US and China together account for nearly 40% of the world economy, and are Latin America’s most important trading partners. Any trade dispute between China and the US is bound to have a huge impact on the region.

As commodities account for a relatively large slice of Argentina’s export trade, it is quite vulnerable. Moreover, trade frictions exacerbate world economic uncertainty and fuel financial speculation, which have directly triggered financial turmoil in Argentina. In the medium to long term, this uncertainty may prompt international investors to reduce their investment in emerging markets, and increase Latin American governments’ and businesses’ financing costs.

Taking into account the potential political risks of investing in Argentina (including but not limited to those discussed), Chinese enterprises preparing to invest in Argentina should pay close attention to the political and economic dynamics of the country. From the perspective of risk prevention, high priority should be given to contractual arrangements and, if necessary, measures for responding to political risks should be implemented at the contractual level, with the assistance of an external team of professionals. Taking out political risk insurance where appropriate is also recommended.

For Chinese enterprises that already have investments in Argentina, the authors recommend that they promptly draw up contingency plans for relevant risks, and engage professional firms to evaluate and analyze the relevant risks and provide recommendations for addressing them.

Wang Jihong is a partner and Wu Anjing is an associate at Zhong Lun Law Firm

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