Ecuador: Not Your Average Default
President Rafael Correa’s game of chicken with Ecuador’s external creditors finally came to an ugly end on Friday, when he announced he would prefer to take on the ‘monster’ bondholders in court rather than pay up. While many Ecuadoreans will no doubt admire their president’s courage for standing up to those responsible for the country’s ‘immoral’ debt load, contracted after Ecuador’s last default (less than a decade ago), I remain very sceptical as to how long such a love-in will last.
My scepticism is based on the nature of the default this time around, given that this is not your average run-of-the-mill ‘can’t pay’ scenario. Record oil prices earlier in 2008 mean Ecuador can comfortably meet its debt payments, at least for the time being. What we are witnessing now is a sovereign credit refusing to pay out of political, or according to the debt audit commission findings ‘legal’ reasons, which to my knowledge would be a first in debt default history, making the painful restructuring process (which I outlined last month) that much worse.
Of course, it would be misleading to suggest that finances haven’t played their part. Even before I started forecasting this default my fears were already brewing as to the state of Ecuador’s external accounts in 2009, once the effects of low oil prices and tumbling remittance levels begin to take hold. However, unlike previous credit events, this is the first (at least as far as I’m aware) sovereign default by a dollarised economy. Even Argentina’s gross economic mismanagement in 2002 had the additional problem of currency weakness, an excuse which PhD-educated economist Correa is not able to use.
Ecuador US$ Global 2012 Bond
So, what are the implications of this historic (two times over) credit event? Safe to say that for the time being at least there will be few G20 states, and even fewer multilateral institutions keen on lending money to Ecuador. Barring another record oil-price spike over the short term, something which could help erase this credit event from the memories of international lenders, scarcity of credit is likely to weigh heavily on domestic private consumption and fixed investment, exacerbating the effect of what is becoming an increasingly bleak global picture.
Bad economic news would almost certainly bring its own domestic political implications for Correa, although perhaps not before he manages to win next year’s general elections. However, my concern is less about Correa’s political future than the effect a default will have on his country as a whole. When the fallout comes, I expect it to hit Ecuadoreans hard, and as yet it is too early to rule out the possibility of a ‘contagion effect’ spreading to other Latin American economies.
February 15th, 2009 at 12:06 am
Correa was from the onset of his presidency against the dollar. There are two main arguments to get off the dollar pillory: one, Ecuador loses its “sovereignty” meaning it is unable to print money to cover political commitments and to appease, however temporarily, the angry masses. Two: Ecuador does not produce enough exports to receive sufficient dollars to spread around. Since the money is tied up to strict exports volume, there is tremendous burden for little people that do not have access to export-related industry, the only sector that produces significant wealth. So, the president wants to get off the yoke because of political compromises, and to do what he wants, but also, there is an argument that with a undisciplined economy the masses, the vas majority of ecuadoreans do not suffer as much as with this discipline good for the rich only