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Argentina's debt fight: What it is, why it matters

Sunday - 6/29/2014, 12:14pm  ET

FILE - In this May 25, 2014 file photo, Argentina’s President Cristina Fernandez talks to crowds assembled at Plaza de Mayo to celebrate the May 25 Holiday in Buenos Aires, Argentina. For over a decade, Argentina avoided paying $1.5 billion it owed to U.S. hedge funds for defaulted bonds. But after the U.S. Supreme Court refused to intervene in the case this week, the country must pay up by the end of this month. (AP Photo/Natacha Pisarenko, File)

AP Business Writer

NEW YORK (AP) -- Time to resolve Argentina's long battle with creditors is running out.

Argentina owes an interest payment to the majority of its creditors on Monday, though the government has a 30-day grace period after that to avoid going into another catastrophic default.

Last week, the U.S. Supreme Court ruled against Argentina, letting stand a lower court ruling that it must pay off hedge funds that own bonds left over from the country's default in 2001. President Cristina Fernandez has said Argentina couldn't afford to pay them while also making regular interest payments to other lenders.

On Friday a federal judge pleaded with Argentina to continue negotiating with the hedge funds. At the same time, the judge called Argentina's attempt to make its regular interest payment illegal.

One misstep and Argentina could slide into another default, thirteen years after a record $100 billion default devastated its economy.

Just how did Argentina wind up in this mess? And why is a U.S. court telling another country what to do? Here are some questions and answers:

Q: What happened after the Supreme Court turned Argentina down?

A: A lot. The Supreme Court also decided to let bondholders subpoena banks in U.S. courts to track down Argentina's assets abroad. The decisions drove the country's Merval stock index down 11 percent.

The next day, the rating agency Standard & Poor's cut Argentina's rating further into junk territory -- to CCC-, S&P's lowest grade for any country.

For most countries, the rating agency's move would be a harsh blow, pushing up borrowing costs and making it harder to finance government budgets. But Argentina's troubles are so well-known that the downgrade came as little surprise. Argentina hasn't borrowed from the bond markets since its default in 2001.

Q: Who are the players?

A: In one corner, Argentina's government. In the other, a group of investors led by NML Capital, a subsidiary of Elliot Capital Management, run by billionaire Paul Singer. Singer, a lawyer by training, has in the past successfully sued the governments of Peru and the Republic of the Congo to make good on their bonds. In this case, NML and other funds bought bonds left from Argentina's default in 2001.

Q: What do they want?

A: When the hedge funds bought the defaulted bonds, they joined the ranks of Argentina's creditors. Now, like lenders everywhere, they want the borrower to repay its debts on the original terms.

The problem is, other creditors had already agreed to cut Argentina a break in 2005 and 2010 by swapping their bonds for new ones worth much less. Investors traded in roughly 93 percent of the defaulted bonds altogether, and this helped Argentina's government slash its debts.

The bonds acquired by Singer's group were among those left over. In 2012, U.S. District Judge Thomas Griesa in New York ordered Argentina to pay the holdouts. They're now owed $1.5 billion in principal and interest.

Q: Why is a US court telling a foreign government what to do?

A: When a big business goes bust, it winds up in bankruptcy court. By contrast, sovereign countries have no dedicated international court to help them strike deals with creditors. So in agreements involving bond sales, language typically stipulates that any legal battle must occur in one of the two biggest financial capitals: New York or London. "That's where the money is," said Anna Gelpern, a professor of international law at Georgetown University and an expert on government debt.

Q: Why does this matter?

A: One worry is that forcing Argentina to pay the holdouts would set a dangerous precedent. The thinking is that it could encourage bondholders to play tough when governments try to restructure their debts. After the Supreme Court's decision, the International Monetary Fund warned that it could have far-reaching repercussions. "We are concerned about possible broader systemic implications," the IMF said.

Another concern is that the ruling upends the usual order of things. In the past, when some creditors had to take precedence over others, sovereign governments typically came before investment funds, said Mark Blyth, a professor of international political economy at Brown University.

"The old hierarchy really no longer applies," he said.

In negotiating with lenders, governments had the threat of default on their side. Creditors accepted restructuring deals in the certainty that they would at least receive something. Now, it seems, "the courts are taking away the possibility of default," Blyth said. "It's part of this wider push to put investors ahead of everyone else."

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