In the flurry of rulings ending the Supreme Court’s latest term, an item that got relatively little notice was its decision not to review a case on Argentina’s government debt. This refusal let stand a lower court decision that makes the United States an extreme outlier in dealing with Argentina and potentially other troubled debtor nations.
The dispute has its origins in the decision of the Argentine government to default on its debt in December 2001. At the time, the government was struggling under an International Monetary Fund austerity program. Argentina’s economy had already shrunk 10 percent from its 1998 level — a much sharper falloff than the United States experienced after the 2008 financial crisis. Argentina’s unemployment rate was at 20 percent and rising. Still, the IMF was demanding further budget cuts as a condition for lending the money needed to keep paying its debt.
At that point, the Argentine government opted for default. For the next several years the IMF, which largely follows the dictates of the U.S. Treasury Department, did everything in its power to try to bring Argentina back in line. This included making economic forecasts that consistently showed Argentina’s economy stagnating or contracting. These forecasts, which proved embarrassingly out of line with reality, helped undermine confidence in Argentina’s economy and discouraged foreign investment.
Nonetheless, the economy grew rapidly, quickly making up the lost ground from the recession and eventually getting the unemployment rate down to single digits. In 2005 and 2006, Argentina reached out to its creditors, offering them roughly 30 cents on the dollar. By 2009, close to 90 percent of its creditors had come to terms with the government. The court case stems from the other 10 percent.
A number of vulture funds, which specialize in buying assets at badly depressed prices, purchased Argentine bonds at a small fraction of their face value. They then went about pursuing a legal and political strategy with the purpose of forcing Argentina to pay back the bonds at full value. This involved using political connections in Barack Obama’s administration, lobbying Congress and conducting a public relations campaign portraying themselves as aggrieved parties.
Last month their efforts appeared to have paid off. The Supreme Court’s refusal to review the case let stand a lower court ruling requiring that the bonds be paid in full. The ruling effectively made it impossible for Argentina to meet its obligations to its other creditors, since it threatened to hold in contempt U.S. banks that acted as conduits for scheduled bond payments. The Argentine government once again faces the possibility that it will be forced into default.
While the prospect of a second default is likely to be a blow to Argentina’s economy, the real loser in this story is likely to be the United States. At least this was the argument of the Justice Department, the State Department and the Treasury Department in a friend of the court brief on this case. The brief argued that the lower court’s decision would make it impossible for countries ever to arrange debt restructuring for bonds issued under U.S. jurisdiction. This would likely lead foreign governments to turn to alternative venues to issue debt, shutting New York banks out of a lucrative market. The Obama administration did not file a brief on the case for the Supreme Court, perhaps because of successful lobbying by the vulture funds.
The appellate court brief was accurate. The lower court’s requirement that Argentina pay off the vulture funds at the face value of the bonds is likely to undermine faith in the integrity of the U.S. judicial and financial system. In addition to the other 90 percent of creditors, the rest of the world, including the IMF, was prepared to accept the terms that Argentina negotiated and move on. Only the United States was standing behind the obviously impractical position that none of the debt could be written down.
In the half-century following World War II, this sort of unilateralism on the part of the United States was possible because of its overwhelming military, political and economic power. However, the world has changed. While recent military adventures have not turned out well, in the longer term, the relative decline of the country’s economic standing is likely to have greater consequences.
The United States is no longer the world’s largest economy. In the last year, China’s economy has surpassed the United States’ (at least in terms of purchasing-power parity, a measure that uses a common set of prices for the goods and services produced in all countries. In a decade, China’s economy is likely to be more than 50 percent larger than the U.S.’s. If China follows through with other major developing countries to establish a proposed BRICS bank, there will be a massive new source of international finance.
In a world where the United States’ economy is no longer the largest or even close to it, we are not going to be able to write the rules for our own convenience. If countries like Argentina cannot count on being treated fairly in U.S. courts, they will simply take their business elsewhere. The loss will be ours, not theirs. The U.S. will again pay a high price for allowing well-connected people in the financial sector to set policy.