Argentina: Economic Challenges in the Wake of Default

March 31, 2004

Unedited transcript prepared from a tape recording

Proceedings:
MR. LACHMAN:  [In progress.]  --on Latin American countries.  We do this periodically.  We try to focus on issues that are of interest, from a public policy point of view.  This afternoon's seminar on Argentina is certainly no exception.  This issue as to what Argentina should be doing in the wake of the default is certainly of crucial relevance to Argentina, but I'd say that it goes way beyond the Argentine economy.

We're talking about I think something that might be relevant to the whole of the emerging markets.  And I say this basically because Argentina was held up for so long to be the poster child of the G7 of the IMF, and it had so much involvement with the International Monetary Fund that there are lessons that can be drawn that affect other countries.

We've got two panels this afternoon.  The first one that we're about to start will deal with the actual issue of how Argentina should be going around restructuring its external debt.

The second panel will be dealing with the economic changes that might face Argentina in formulating policy in the wake of that default.

Before turning over to the first panel, I'd just like to make four observations as to why I think the Argentine case is particularly important, particularly worthy of study.  The first, of course, is that we're talking about the largest sovereign debt default in history.  We're talking about a country that's defaulted on round about $90 billion of private-sector credit.  And what is peculiar about the Argentine case is that this debt was raised in as many as 150 separate debt issues, in as many as six currencies, seven jurisdictions.   So this is clearly going to be something that is not going to be very straightforward to restructure.  There are lessons for other emerging markets as to how they shouldn't be going about raising debt.  And I think that there are also questions that get raised about might there be  a better way of restructuring external debt.

The second reason that the Argentine situation is, where the study is just the magnitude of the economic distress that that country has gone through, this is the largest depression that the country has had possibly since the Great Depression.  We're talking about GDP having contracted by something like 20 percent between 1999 and December 2002, talking about a country that used to be one of the wealthier Latin American countries having half the population.  Now, it's supposed to be living in poverty.  So there certainly are lessons for other emerging markets as to the wisdom or the folly of taking an exchange rate in a very fixed way for too long and trying to prop it up with external borrowing.

A third reason I think Argentina looks interesting is it's already roughly 2.5 years since the default, and yet very little progress seems to have been made in discussions with private-sector creditors.  Part of the reason might be political, that there are political advantages back home to take a tough line.  Part of it might be that external conditions are rather favorable to Argentina right now, so it can have growth, and it can have the financing it needs without having to really go to the market.

It's really crucial from the IMF and the G7 point of view how they treat this case for the future cases that might lie ahead.  I'm thinking of potential borrows in the future looking at Brazil.

Finally, I would just say, from the IMF's point of view itself, the Argentine case is critical in the sense that Argentina is one of the IMF's largest borrowers.  Something like $15 billion is outstanding.  And the situation that Argentina has itself in raises questions, in my mind, as to how the IMF should be treating future crises going forward, you know, whether there's not a case for getting away from the exceptional circumstance borrowing policy, that the IMF has something where there would be rules.

I think we're truly fortunate this afternoon in terms of having two panels with people who couldn't be better qualified to talk about these issues.  So, without further ado, I'll turn over to my colleague, Charles Calomiris, who will be running the first panel.

MR. CALOMIRIS:  Thank you very much, Desmond.  I think I speak for everyone in saying I think it was a great idea to organize this, and we're all in your debt.

Desmond laid out the points of interest about this case pretty well, and I won't repeat them.  I think the one thing I would add to it is how brilliant, so far, the president of Argentina seems to have played the foreign debt crisis; that is, the foreign debt crisis, as Desmond says, has been going on more than two years now.

He made a very low offer to the foreign creditors, as I'm sure all of you are aware.  People wondered whether he was serious, and he said over and over again that he is.  This seems to, along with bashing the IMF, has made him a very popular man in Argentina, from a domestic political standpoint, coupled with the pacification of private corporate debt, which has helped Argentina avoid some of the worst consequences of the collapse of the exchange rate.  And with the high commodity prices that Desmond mentioned, Argentina has actually seen a pretty good 2003 and, so far, not such a bad 2004.

That raises a very interesting question, which is, if this thing has gone on for 2.5 years, how much longer can it go on?  What might bring it to an end, what might not?

So I think that the time is ripe for our panel to discuss this, particularly since those of you who have been following recently in the news, there seems to be an indication the government, after a year of pretty much I think the word might be stonewalling any progress, seems to now be indicating that it might be interested in a negotiation, and things are heating up.

I have prepared a few questions that I'd like to present to the panelists.  They're going to each be given 10 minutes to speak, and they can choose to avoid or use this time to talk about whatever they'd like, but I'm just going to lay out some questions before we get started.

My first question would be if they could help us think through how they think about how much Argentina can repay in some sort of physical sense or taking into account political constraints, how much is feasible to think of this debt that could be repaid.

A second question is, from a purely self-interested standpoint, from Argentina's pure self-interests, how much should they expect to repay, and how fast should they be moving to reach agreement to repay it?

How do the panelists see the game playing out, that is, how long is this going to take do they think for some agreement to be reached?

Another question, recently, Argentina has been making noises about the possible efficacy of income bonds; that is, bonds whose payments are indexed to GDP, as a way to mitigate default risk in sovereign borrowing that might be beneficial both to creditors and debtors.  There has been a pretty cool response to that suggestion generally so far, and I'd like to hear what the panelists think about that.

Another thing that I think is worth talking about is we've all seen this drama before, that is, Argentina, after all, liberalized in the early 1990s, and the problem was that they, like many other countries, put the cart of large sovereign debt ahead of the horse of fiscal reform; that is, there was promised fiscal reform along with liberalization, privatization.

And so how are we going to keep this from happening again; that is, if the creditors renegotiate the debt and take an offer, who knows what, but let's say they take 25 to 50 cents on the dollar face value, is there any way to do this renegotiation in a way that protects the creditors from bearing the risk that the government is just going to run up the debt again?  Is there a way to attach some sort of poison pill in the debt restructuring that would prevent that?  Because it would be very beneficial, maybe, for the Argentines to do so.  Because if they could commit not to run up the debt again, obviously, the exit yield they  would be able to get on the renegotiated debt would be much more favorable.

And then my final question is what is the role that the IMF should play and, related to that, what is the role that the IMF probably will play in helping to reach agreement on the renegotiation?

As you can see, I've posed a lot of questions.  These are the ones that I'm burning to hear the answers for from our panelists.

Our panelists are, as you know, from the materials that are circulated, uniquely qualified individuals to answer these questions.  And given the shortness of time, I am not going to even tell you about their background because you already know about it and can read about it.  I'll simply introduce them.

Again, the rules of engagement here are that the panelists will start with Mr. Quarles.  The panelists will each have about 10 minutes to speak.  That will save about 20 minutes for questions at the very end and maybe a little bit of discussion among the panelists too.

So, without any further ado, Mr. Quarles, it's a pleasure to have you here.

MR. QUARLES:  Thanks very much.  Let me just make a few points at the outset, and I will also try to engage because I think it's good to engage on specific questions when they're asked on some of the specific questions that are posed at the outset.

The United States has been playing, and we're continuing to play an active role in supporting the efforts to reestablish economic stability in Argentina.  An important element of that has been promoting progress on the restructuring of their debt.  As I think everyone in this room knows, Argentina's debt default is the most complex emerging markets debt restructuring to date.  We've got about $100 billion in private-sector claims that they're seeking to restructure when you take past-due interest into account.

Then, the complexity is due not only to the size of the restructuring, but to the number of different currencies, the number of different legal jurisdictions in which the debt was issued, the different types of bondholders involved, which include sizable holdings by retail holders in Italy, and Japan, and Germany.  We've got a large number of local Argentine-holders.

So a major challenge of the restructuring effort is going to be crafting an offer that will be attractive to all of these different range of bondholders while still preserving the principal of inter-creditor equity.

We think that a successful debt restructuring is a critical component of Argentina's economic recovery and will be a measure of the overall success of the IMF program because Argentina is going to need substantial investment, over the medium and longer term, to generate economic growth and to raise its living standards over the long term.

Yes, the growth was strong in Argentina last year.  We expect that it will continue to be strong this year, but that's off of the base of a very significant contraction over the previous five years, and they still are not back even to where they began before that contraction started.

So this is not something that is going to be maintainable without a significant amount of foreign investment, and the attractiveness of Argentina as a place to invest is going to depend on international investors' assessment of how they were treated in the follow-on to the period of financial stress that Argentina has gone through.

So a successful debt restructuring would pave the way for Argentina to return to the capital markets, it would provide a significant boost to Argentina's corporate sector and its ability the attract international finance, and finally it would help to resolve the bank balance sheet problems, and in conjunction with a banking sector strategy that's laid out in the IMF program, the basis for resumed bank lending.

Again, as I think everyone in the room would be aware, IMF lending policies require transparent and constructive negotiations by Argentina with its private creditors, and ultimately, in our view, the success of the restructuring exercise will be determined by the level of creditor participation and the resolution of outstanding claims.

We see the IMF's role in this process as threefold:

First, to provide new financing for the period of the program, which gives Argentina the breathing space to implement economic reforms that will be required for their medium- and long-term growth;

Second, to help Argentina formulate an effective stabilization and growth strategy, to work together to create agreed measures that would be able to effect this growth;

And, finally, to require good-faith negotiations with the creditors on a sustainable debt restructuring.  But the IMF's concern ought to be that the negotiations are in process and that they are in good faith, but it's not the IMF's role to impose any particular terms of a deal.

Now, in its most recent letter of intent that was prepared in connection with the second IMF program review, Argentina made a number of important commitments that we think should advance meaningfully the debt restructuring process.

First, Argentina committed to engage in constructive negotiations with all representative creditor groups, and that includes the Global Committee for Argentine Bondholders.  This is something that they had actually been reluctant to commit to in the past, and it represents a genuine change for the way forward, a positive change on the way forward.

Argentina is committed to ensuring that the discussions are meaningful by taking into account creditors' proposals in the design of a debt exchanged offer that they're working on.  And that's important because allowing creditors' input into the--real input--into the design of the offer will build mutual trust, and it's the surest way for Argentina to achieve the broad creditor support that's going to be necessary for a comprehensive and sustainable restructuring.

So we're looking forward to the upcoming discussions between Argentina and its creditors in Buenos Aires that have been scheduled over the next short period, and we're urging both sides to move expeditiously with these discussions of possible debt-exchange offers and come to a fair and mutually agreeable deal.

Now, second, Argentina has committed to retaining the investment bank advisers that it recently hired throughout the restructuring process, as long as the banks are meeting their contractual obligations.  And, again, those of you who have been following this particularly closely know that that had been held up pending a presidential decree that was required to actually complete the hiring of them, but that decree has now been issued, and Argentina has formalized the hiring of these advisers, it's begun to meet with them, and it's now going to be engaged in an intensive process of working with these banks to advance the debt negotiations.

Given the complexity of the restructuring, which we have talked about at the outset, the role of the bank advisers is going to be key.  The banks' willingness to participate and put their reputational capital at stake is a positive sign regarding the potential for a debt restructuring that will succeed.

And, third, Argentina is committed to finalizing, with these investment bank advisers, an appropriate minimum participation threshold for a broadly supported restructuring.

A minimum participation threshold in the structuring of this debt deal will provide a concrete target for incentives both for the debtor and creditors to reach an agreement that's mutually acceptable and, again, thereby promoting the broad creditor support that's needed for a success deal and for debt sustainability.

The U.S., we've been a consistent and forceful advocate for IMF engagement with Argentina for successful resolution to this debt restructuring.  It doesn't serve the interests of the international community to see Argentina fail in stabilizing its economy, but Argentina itself, obviously, has the greatest stake in a successful debt restructuring, and so we expect Argentina simply acting in its own self-interest, to follow through on some of these commitments that it has made in connection with the second review.

Again, I think I've just about taken my 10 minutes, but I can, in 45 seconds to 1 minute further, at least deal initially with some of the questions that were posed at the outset or at least our view on them.

How much can Argentina repay?  Consistent with the role of the IMF that I described at the outset, I think that's something that the IMF and the U.S., as a shareholder in the IMF, should not have a view on.

Our view is there should be a good-faith process through which Argentina and its private creditors can agree on what will be a satisfactory repayment.  And if they come to that agreement, such that the overall restructuring is sustainable for Argentina without their having to run substantial unrestructured arrears to private creditors, then that ought to create the conditions for creditors to feel we were treated fairly in this event, and it's prudent and suitable to now begin lending into Argentina again, to provide capital to Argentina again.  That ought to be the concern of the official sector, as opposed to having an independent view as to whether a particular proposal is fair or not.  It's up to the creditors to decide whether they are being treated fairly.

In its pure self-interest, how much should they repay?  Again, I think the answer of the IMF and of the U.S., as a shareholder in the IMF, ought to be the same.  What we think should happen is that they should work out their deal with their private creditors.  Their private creditors ought to have a very clear view as to how much Argentina should repay.  Argentina ought to have a very clear view.  They ought to sit down and work that out.

Our interest ought simply to be that, at the end of the day, that deal ought to result in a sustainable debt situation for Argentina, again, without leaving large numbers of creditors.  If the only way it's sustainable is that large numbers of creditors simply stayed out of the deal and are being stiffed by Argentina running arrears to them, then that is not a sustainable situation.  But if the bulk of the creditors accept a deal that Argentina puts forward, there's no particular reason the U.S. should have an independent view of that.

Just a couple of words on the possible efficacy of GDP-linked bonds.  GDP-linked bonds are a very interesting concept.  I think, again, at the conceptual level, it's something that should be in  the interests both of countries and the markets.  At the level of practical implementation, it gets very difficult because there should be some costs to a country of issuing GDP-linked bonds, and the difficulty becomes how to value that cost.  Essentially, what the country is doing is buying insurance, and that insurance should cost it something.  It's unlike some of the other innovations in the structure of bonds that have been talked about over the last couple of years and are currently being implemented, such as collective action causes, which some in this group may be familiar with, that conceptually there's no reason that should cost something.

Conceptually, GDP-linked bonds should cost something, but it's very difficult to value what that cost ought to be, and that creates difficult practical problems from really trying to put this instrument forward in any particular situation, including the Argentine situation.

If the country can't be comfortable that it is correctly pricing the cost of this insurance, and investors can't be comfortable that they're correctly pricing the cost of the insurance, it's going to be very difficult to get mutual agreement on the terms of any particular structure, and so maybe one should approach the idea of making that a central element of the deal consciously.

And then the final question, what's the role the IMF should play, what's the role it will play, I think that's really been one of the key elements of my initial remarks and one of the main things that I want to get across today.  I'm looking forward to hearing what other people think.

MR. CALOMIRIS:  Thank you very much, Mr. Quarles.

Let's hear now from Adam Lerrick.

MR. LERRICK:  Thank you, Charlie.  Thank you, Randy.

First, I'd like to say I appear here wearing two hats; first, as director of the Center for Public Policy and a professor of economics at Carnegie Mellon University and, secondly, as the head of the negotiation team for the Argentine Bond Restructuring Agency, where I share a place on the Steering Committee on the Global Committee of Argentina Bondholders, with my colleague Hans, who is co-chairman of the committee.

As a little bit of background, ABRA is the largest creditor in the Argentine debt restructuring, with $1.2 billion nominal amount of bonds and holds the interests of between 30- and 40,000 European investors.

The Steering Committee of the Global Committee of Argentina Bondholders represents directly approximately $37 billion of Argentina's debt or more than two-thirds of the total debt held by foreign investors.

All of the major constituencies of Argentina's creditors are represented both geographically and by type of investor.  Italy, Germany, Austria, Japan and the United States dominate.  Retail and institutional investors share power to match their equal shares in Argentina's bond issuance.

The important thing to recognize about the GCAB is that it is a private-sector solution to what was considered the major problem in the Argentina restructuring, which is what we called the coordination problem.  You had 150 bond issues, as Randy said, 500,000 investors.  Well, that was viewed as the great obstacle to Argentina's restructuring.  Here, the Global Committee has solved the problem.  Argentina can sit down with five or six people and negotiate with representatives of close to three-quarters of their debt with foreign bondholders.

Randy raised what is really the core issue in the debt restructuring, which is the question of sustainability.  People talk about is 25 cents on the dollar a fair offer?  Is 8 cents on the dollar a fair offer?  Is 75 cents on the dollar a fair offer?  But these are just numbers.  The key issue is that a sustainable debt restructuring is in everyone's interests.  Argentina doesn't want to be back here doing the same thing in five years, the bondholders don't want to be back here doing the same thing in five years, and the IFIs don't want to be back here doing the same thing in five years.

Any attempt to implement a debt restructuring that is clearly not sustainable will be immediately analyzed by the market and reflected in the prices of the new bonds.  This will defeat the entire purpose of the renegotiation.

The fundamental issue in the restructuring is to establish a set of economic and financial parameters that will determine the nation's debt payment capacity.  Some of these parameters are within the government's control, some are not.  One will have to make assumptions about macroeconomic performance of Argentina, the economic growth, the exchange rate must be made, there must be assumptions about the fiscal effort the government is willing to undertake to fulfill its obligations to its bondholders.  Assumptions have to be made about the treatment of other classes of creditors, including the IFIs, and finally assumptions regarding the availability of funds to refinance debt payments that will be coming due over the next 20 to 30 years.

Deciding upon a restructuring value and then writing a debt sustainability model to justify that predetermined position is not productive.  Any position can be proposed if one is willing to use unjustifiable assumptions.  Attempting to conceal them in a debt sustainability model is not likely to succeed in this case because of the amount of money at stake and the amount of effort all sides will make to try to find out what is truly the valuation of the debt.

The goal must be a set of assumptions that an objective party would find reasonable.  Once the reasonable assumptions are agreed, the cash to pay creditors and the recovery values of the bonds are simple mathematical calculations.  They are byproducts that can be determined in a single afternoon once we agree on what are the assumptions of debt sustainability.  There is no greater difficulty restructuring Argentina's 150 bonds and 5 currencies than the 45 bonds and 5 currencies that Uruguay renegotiated in early 2003.  We all have Excel spreadsheets.  The entire negotiation is about debt sustainability.  Recovery values are simply a residual calculation.

I want to talk a little bit about the good-faith efforts criteria that has become so important in recent discussions.  Official loans are a gift to emerging economies.  They offer highly subsidized interest rates 5 to 10 percentage points below what the market charges.  For Argentina, the transfer amounts to between $2- and $3 billion per year.

The only club that the IMF wields over a debtor nation is to cut off the flow of cheap money.  A breach with the IMF also closes off financing from the World Bank and the regional development banks.  Under IMF rules, the Fund can only lend to countries in default, to private creditors, if the government is making "good faith" efforts to resolve its debt problems.  As is frequent, the objectives are laudable, but as is even more frequent, when a political compromise is reached, the results fall short of the goal.

Originally, the IMF would not lend to a government in default to private creditors.  Cutting off all funds was thought to be too severe a constraint on an economy in crisis, and therefore it also granted excessive power to the country's private creditors in the negotiations.  However, continued IMF IFI lending eliminate incentives for governments to offer fair terms to their private creditors.  Hence, the IMF good-faith efforts test.

The problem is that the test is subjective, and the punishment for noncompliance too severe to provide credible and effective incentives for governments to restructure their debt.  Short of total refusal to undertake even cosmetic steps, the IMF will not cut off funding.  Everyone would agree that the goal is a rapid and fair restructuring of the debt.  However, under the good-faith criteria, the defaulting government is not rewarded for concluding a fair restructuring agreement.  The debtor is rewarded for creating the image of good-faith efforts.  The image is rewarded, not the desired goal.  The imperfect proxy distorts the entire debt-restructuring process.  Representation authority serves no purpose, but still can be interpreted as compliance with the IMF loan condition.

Substance, not semblance, should be rewarded.  The IMF could create direct incentives to achieve the result.  Every month that Argentina delays its restructuring, it saves $700 million in accumulating interest.  Since the default in 2001, this adds up to more than $20 billion.  Instead of relying on exhortation and a vague and subjective standard of good faith, the IMF should create automatic financial incentives that encourage governments to restructure foreign debt without delay.

As a condition for desirable Fund loans, the IMF should require an accelerated 5-percent monthly prepayment until the country comes to terms with its private creditors.  The accelerated repayment schedule imposes a cost for delay, loss of interest subsidies and the use of international reserves and tax revenues to pay debt at a time when there is no access to private-sector financing because of the default.

If the reward is directly related to the result, then all efforts will be expended to achieve the restructuring.  It is not profitable to do anything else.  There would be no meetings without purpose, no time, effort or discussion wasted attempting to look into the soul of the minister of Finance to see whether he is truly in good faith.  The IMF should move from a system of vague criteria to one where the debtor has a direct financial award from achieving the objective.   Desmond, at the beginning of this session, asked what will be the consequences of this restructuring for emerging markets.  Well, lending to governments is a tricky business.  We no longer live in an era where the governments of private-sector lenders send the Navy in to collect on their bad loans.  Let's be very clear.  In sovereign lending, there is no collateral, there is no security, there is no ability to enforce the contract, and there is no ability to seize assets. The only rational reason to pay is that there is more to gain from paying than from not paying.

Argentina has made a preemptive decision.  Payments to the countries lenders are now deemed discretionary expenditures, not fixed obligations.  Government-sponsored posters of children crystalize a new concept, the social debt.  A debt to provide a better quality of life for the nation's citizens takes priority over the financial debt to the nation's creditors.

If Argentina even comes close to imposing the 90-percent debt reduction it is currently demanding, a level of relief that has not been obtained by even the poorest African nations, how can Latin American leaders or any developing country politician justify to their electorates stringent fiscal efforts to honor obligations to foreign lenders--why not schools and hospitals, instead of repaying rich foreigners?  The resulting defaults will cascade through the international capital markets.

Now, I met Charlie in the elevator, and he said I'm not allowed to talk about what I want to talk about unless I answer his questions.

[Laughter.]

MR. LERRICK:  So the first two questions of how much can Argentina pay and how much should Argentina pay for self-interest, that is the core of the debt sustainability analysis.  A reasonable set of assumptions has to be determined of what is the containment capacity of Argentina, hence what will be the funds available to pay bondholders over the next 20 to 30 years, and then the values just automatically drop out.

How long to reach an agreement?  Technically, an agreement could probably be reached in 60 to 90 days.  It could have been reached in 60 to 90 days a year-and-a-half ago, and it will be able to be reached in 60 to 90 days if we're still here a year from now.  The issues are not technical.  Restructuring 150 bonds is not that difficult, especially now that the private sector has organized itself to provide an effective negotiation counterpart.

The concept of GDP-linked bonds, as I think everyone has said, it is an interesting concept.  It has a problem.  The problem is that it turns fixed-income investors, bondholders into equity investors.  If Italian pensioners or Japanese farmers or retired German executives wanted to buy equities, they would have bought shares in Argentine companies on the Buenos Aires Stock Exchange.  They specifically bought a fixed-income investment.

The problem then is that any attempt to force investors who do not want an equity instrument to accept one is not in the interest of the debtor because what will happen is the investors will put no value on it, and therefore Argentina will be forced to give away something that it doesn't need to do because the investors will place no value on it.

Charlie raised a very interesting question.  It's a very difficult question, which is suppose tomorrow the creditors were to agree to a massive write-down of Argentina's debt which made Argentina clearly sustainable and, hence, increased debt capacity, how would you protect the bondholders who have accepted their losses from the country then going out and borrowing a huge amount of money again, raising its debt level and effectively risking for the bondholders who have already taken losses to have another round of losses in a future debt restructure?

How can that be addressed?  We've thought long and hard about provisions, conditions that could be put into the bonds.  I don't think we need to go as far as a poison pill, but bonds have covenants, bonds have restrictions.  You could put debt capacity limits, debt borrowing limits, conditions as to what future debt, the use of proceeds of future debt issuance could be, such as retiring existing debt or restructured debt, and those are certainly provisions and issues we are considering as the creditors.

Finally, what role should the IMF play?  I would echo Randy's comments, and really I would say the "do no harm" rule should prevail.  In essence, what should really happen is the IMF, the U.S. Treasury, the G7, the official sector, what they should really try to make sure is that they do no harm in this process on either side, that they just are trying to make sure that people are following the rules and working toward a restructuring.  But after that is taking place, it is up to--this is a private-sector debt restructuring.  There's a bond between the private-sector borrower and private-sector creditors, and that should be negotiated between the two of them.

MR. CALOMIRIS:  Thank you very much, Mr. Lerrick.

I want to applaud both of the speakers so far who have been extremely responsive, informative and brief, which is really quite a great trick.

Let's turn now to Mr. Humes, please.

MR. HUMES:  I think I am lucky to be speaking after Adam Lerrick, and I'm thinking of asking Adam to speak before me at every conference, since he seems to do a better job saying what I want to say than I would.

I apologize, also, for looking a little disheveled.  I took the "red eye" back from Lima where, as you guys know, there were a series of meetings.  And to some extent, Argentina and the debt situation was the elephant in the room that nobody wanted to talk about throughout those meetings.  There were some references in the press there to the different stances.  There were clearly some lines of communication, but all of them were informal.  And when Minister Lavagna spoke at his conference on I guess it was Tuesday afternoon, really, there were no pointed questions about the debt situation.  I think everybody realized that this might not be the right forum.  But the fact that the backdrop, the tension there was pretty observable.

I think I would echo what Adam said.  Clearly, this is a complicated situation, and the more you look at the details, the more complicated it is, but there is nothing in the Argentine situation that we haven't seen before.  People seem to want to look back at the 1980s and the loan restructurings for the precedents, but bond restructurings have been going on for a couple hundred years.  And the split between retail and institutional, the late 1800s, there were many bond restructurings that had similar characteristics.

So I think one of the issues that the creditors have been coming at is there's no reason to reinvent the wheel here.  We're not trying to put a man on Mars here.  We're just doing a debt restructuring.

If we can approach this looking back at what's been done in the past, we've got plenty of precedence on how you achieve a credible debt restructuring, bond restructuring, so there is no reason to sort of set up a registration for creditors.  I am not sure I've ever seen, historically, you know, you guys may know that Argentina has requested that all creditors register their bonds with a group that's been hired.  The idea that a borrower would require all of its creditors to register with the borrower first in order to have access to a dialogue, I'm not sure I know where that's coming from.

So I think, on the creditors' side, we're looking to establish a process that's recognizable to us.  If somebody has a really compelling argument on why the wheel should be reinvented, and you can explain why a registration process is a particularly nice spoke to put in the wheel, the new wheel that you're building, explain it to us, and I think we'll listen.  So far, I don't think we've heard a very good argument on why the wheel needs to be invented.

In terms of the whole process that's gone up till now and the nature of the negotiations, I think it's fair to say that there have been no negotiations up till now.

Our group, which, as Adam has mentioned, is the largest organized group.  We're not the only bondholder group, but of all of the groups that have been invited to Argentina, we're by far and away the largest.  We're the only global group.  Many of the people that have been invited, have no clear mandate.  Actually, there's public record that some of the creditors that have been invited to Argentina don't even hold bonds, aren't creditors.  So we think that our discussions with them will have a certain importance.

So I think that the position that the creditors we represent is we will see the nature of the negotiations, the discussions, whatever you want to term it, on April 16th, which is when we're due to meet with them.

In terms of where we go, what the sustainability is, again, I think we can determine--we have our ideas of sustainability.  I think the Argentine's have theirs.  I think that the different elements in the Argentine calculation is the political side to it.  I think, if you run  the numbers economically, you come up with one assessment.  When you factor in the pictures of the children and the claims to poverty, maybe that shifts it.

Strategically, I, to some extent, would take my hat off to the Kirchner administration for unyieldingly using politics to create a discount in the final analysis.  I think that they probably will see an economic benefit from this strategy.  I'm not going to guarantee it because it's certainly not my job, but the fact that the unyielding allegiance to the Dubai terms has created a little bit of a difficult corner right now.

From our point of view, again, I think we're always willing to listen, and we're willing to see a new design of a wheel, if it makes sense.  We haven't heard it, and I don't think it will be explained properly in terms of whether Dubai can be structured in such a way that's acceptable to us.  I'm not sure I see how it's done.  I think, if it can be done, it won't take a long time to explain it, but my sense is that we're going to have to really take a hard look at the numbers and find some more middle ground.

I think the benefit of engaging with our group is, since we do represent just about every class of creditor--in fact, within one component of the Global Committee, we have Argentine pensioners, Argentine banks, so we do have some Argentine voices in our group as well--I think a solution that's acceptable to our group, when we're looking at the percentage of acceptance in the deal, we don't have to worry about a 50-, 60-, 75-percent acceptance.  I think, if we get a deal that's acceptable with our group, when other creditors look at it, I mean, I don't think a 90-, 95-percent acceptance is out of the question at all.

So, clearly, we consider that we're part of the solution, and we can throw teams and analyses at this and make everybody's job easier--the Argentines, the investment banks.

So my sense is right now, as Adam referred to, it's in nobody's interest to prolong this.  I think Argentina, given the situation, I've got a team of guys down there now, and they're meeting with some of the energy companies, and some of the business interests, and our sense is that some of the problems that are coming up now may be a result of the concerns people have to make foreign direct investments in the country.

With the outstanding debt situation, any new equity investor is going to hesitate before putting money in, and so the direct investment that'll be needed for infrastructure building I think will come after the resolution to the debt.  I think it's extremely optimistic to expect that this will come in.  And given the problems that are coming out now, I think the Argentine population will start to realize that there is a cost to the hard-line strategy that's been employed by the government.

I suppose that's all I have to say.  We are starting to see some of the negative consequences currently in the economy in Argentina.  I guess the worst-case scenario, if there is a real strategy of antagonizing creditors, the problem is Argentina has a very viable economy fundamentally, and it's integrated into the world economy.

So you look at the situations where countries have decided to be a little bit more aggressive with their creditors, such as Peru--Alan Garcia's strategy--Peru was able to stave off litigation by Elliott Associates for about five years.  I don't think Argentina has got that option.  The economy is too complicated. There's too many flows of funds going in and out of the country, and the legal definition of what a sovereign asset is has not been established.   Therefore, my sense is, if a broad class of creditors feels that it has to turn to the courts for some sort of protection, we will be creating a new paradigm, which will not be beneficial to anybody.  Certainly, in my seat, that's the last thing I want to see for this asset class.  I think it hurts everybody across the board.  Maybe that's the worst-case scenario, and I certainly am not making a prediction because, honestly, as I said before, I think we're in a position now where it's in everybody's interest to engage and come out with something that may not be exactly what the Kirchner administration wants, it may not be exactly what we want, but it works, more or less, for everybody.

MR. CALOMIRIS:  Thank you very much.

Now, we'll turn to a member of the panel who, as far as I can tell, has no dog in this race, Mr. Truglia.

MR. TRUGLIA:  Thank you very much.  Yes, and in fact I have to emphasize that we take absolutely no position on what the appropriate debt restructuring should be like, and we simply are, in this case, observers of what happens.

In terms of the overall ratings, Moody's has a slightly different ratings ontology than S&P.  I see one of my S&P colleagues in the room.  Our ratings are not purely default ratings, but in fact they combine default with severity of loss, and it usually doesn't become very evident that there is this difference in meaning of the ratings until you really get to the bottom of the scale.  And at the bottom of the scale, our ratings are almost entirely associated with severity of loss.  That's why you'll sometimes see slightly different ratings among the agencies at the bottom.

Argentina's old bonds are rated CA, which is consistent with a write-off of 50 to 85 percent of the debt, in net present value terms, according to the original contract, not according to a higher discount rate.  So anything that happens is certainly consistent with the CA rating.  However, I have to add that since they aren't paying, we took a look at what is the risk of new bonds.  We have to remember they are actually borrowing money right now, and their dollar-denominated debt is sold.

And if any of you read your Investment Bank dailies, you'll see lots of different advice given on what kind of holdings should be held, the tenor, et cetera, of what you should do for your portfolio.  And we rate the peso-denominated Bodens, which were created out of the earlier restructured debt, we rate them B3, which is quite a bit higher than CA in our ratings classifications, and the foreign currency bonds, the Bodens are rated CAA1.  Again, these are very low ratings, highly speculative.  So, if they default, I don't want to hear an investor complain that they weren't warned.

[Laughter.]

MR. TRUGLIA:  And in that sense, Argentina already if it wants to probably could sell more dollar-denominated bonds.  I'm not sure what the volume would be, especially if there is not a problem with maintaining the traditional view of pari passu under New York law.  The only problem would have been if you could go after the creditors and try to attack interest that they received on their new bonds.  But I am not a lawyer, so I leave that to others to look at.  But if that is not going to be the case, if you're not going to have the interpretation that we got out of a Belgian court regarding pari passu, then I see the Argentines being able to access even dollar--

[Tape change.]

MR. TRUGLIA:  More importantly, what are the incentives?  Again, there are very few incentives at the moment for Argentina to do anything, and that's probably why nothing has happened.  We have to remember the history of bond reschedulings.

Again, Mr. Humes already talked about that, but I also have to remind you that many sovereign bond reschedulings took a long time.  Some of the Latin American bond defaults of the '20s and '30s didn't get resolved.  The last one, in my recollection, got resolved in 1956.  So, if you had a bond that defaulted in '32, you waited a very long time to get that resolved.  Others, most of them, got resolved relatively quickly.  In fact, as Adam knows, and we talked about this many times, the history of sovereign lending, as economic historians have said, is the history of sovereign default.

So we expect sovereigns will default.  They are unique, and since we no longer use the kind of pressure to force countries to repay, for instance, invading them, taking over their Customs houses in general, we don't use those, there is very little--again, I agree totally with Adam--there is very little you can do except to make it in their best interests to want to do it.

Well, how would the Argentines look at what their best interest is?  Well, frankly, you have to go back to your Economics 101 course to remember what determines their need for foreign inflows, and that is, if there's a difference between the needed investment in the country and domestic savings.  Now, at the moment, Argentina, because of the collapse in economic activity that occurred, Argentina's investment went down very dramatically.  Well, surprise, surprise.  When it goes down very dramatically like that, it has a current account surplus.  So they don't need to be accessing net new money at the moment.  The current account surplus is getting smaller as imports rise and as the economy grows, but they can keep doing what they're doing for some time, but they can't keep doing it forever because the amount of investment, as some analysts have estimated, is only equal to about 60 to 70 percent of the depreciation of existing assets, and you're beginning to see that problem emerge in a number of areas, and you heard complaints about energy shortages in Argentina.  That's just indicative of what's happening probably throughout large parts of the economy.

So the other problem would be the government budget deficit.  Well, because the Argentine government is facing a situation where there is so much excess capacity in the country, there are very little inflationary pressures existing.  So the Argentines have been able to finance their public-sector deficit through monetary emission--I guess the layman's term would be the printing press--without inflationary consequences.

So the key issue facing the Argentines is when will they no longer be able to either maintain a current account surplus and/or finance their deficit through monetary emission when it would cause other problems.  Most estimates are that it could take a year or two before that occurs, but it is not clear.  These are just estimates.  We'll just have to see what happens on the ground.

So the Argentines, as I have explained the many investors in many different fora, I say that the next year or two the Argentines are in the driver's seat.  The government is clearly in the driver's seat.  So, until the Argentine economy grows enough to make it hit the constraints that would either force inflation to rise, which would be unpopular in Argentina, or it begins to hit the constraint where all of the needs of the economy can't be met any longer because it can't finance the domestic investment it needs at the moment through its own domestic savings--it must go to the markets for large amounts of money--until then, the Argentine public is going to believe that it doesn't really matter a whole lot to resolve the debt issue.

So we're not optimistic about anything happening in the near term.  And so from a pure government self-interest point of view, the government is probably acting, and I put quote/unquote, "appropriately" at the moment.  However, it may not be the most--it perhaps is a bit shortsighted because we all know that they are probably going to hit one of these constraints within a reasonably short period of time.  A year or two sounds long, in politics it's long, but in a country's life, it's very short, and so they're going to have a problem there.

The only way they can resolve it is if they suddenly saw a dramatic surge in domestic savings, and I just don't see that happening any time soon.  There are the three sources of savings you get: personal savings, it doesn't change very much in the short term; government savings, the Argentine government has certainly had a problem with that over many years; and the third source is usually retained earnings, which is really, in most countries, where most of the savings takes place, but given the history of Argentina, and given the history of all the changes in legislation that have occurred, I have a feeling that retained earnings surging such a huge amount so as to enable them to avoid a current account or a balance of payments constraint in the future is pretty low.

So we think, at some point, once they reach that, they'll probably be knocking on the doors of creditors, but they still have some time.  But I do repeat, it'll be interesting to see if the Argentines borrow dollars, under Argentine law, and then it becomes I think--again, I'm not a lawyer--it becomes very difficult to do anything about that.  And from what I have seen of the Bodens, I don't think that will keep investors away because they certainly seem to be doing some of that right now.

And my final point is, this is one area where I think all of the rating agencies, and I find it fascinating, and different people have to ask this question, all of the rating agencies, through the entire period of rating Argentina, have always had very low speculative grade ratings on these bonds.  Anyone who looked at any of the ratings would have known, even at their highest ratings category, they were highly speculative instruments, but that is a question that has to be asked by the investors as to why they perhaps were either willing to take the risk or ignored the information from all of the major rating agencies which had public ratings out on these debt instruments.

Anyway, that's my final word.

MR. CALOMIRIS:  Thank you.  Thank you very much.

There's a remarkable amount of consensus in this group, to the extent that they have overlapped in the discussion:

First, that new investment, FDI, in particular, is a key incentive for the government to see it's own self-interests served by bona fide negotiations.

Secondly, I would say that that may not be something that's a 6-month incentive, but that it's one that's going to be important over the next couple of years.

The technical issues about the debt don't seem to be such a big deal.  That, by the way, strikes me as very interesting because, in the buildup to all of this problem, as some of you probably remember, many people were telling us we can never get an Argentine debt restructuring because of the technical issues.  And I would say of all of the conferences--contradict me, please, if I'm wrong--but all of the conferences I went to, everything was about the holdout problem.

Now, we've got these groups that have organized privately.  My sense is that Elliott Associates' strategy isn't going to be a very important factor as a holdout strategy in Argentina and that what we've seen is really that a lot of these technical issues that people were talking about just don't seem to have been important.  Of course, I'm very happy to point that out, since I said at the time that I didn't think they would be.

MR.          :  Along with others.

[Laughter.]

MR. CALOMIRIS:  Along with many, many others.  And then I guess everyone seems to agree that the big unpredictable influence on the sustainability equation really is how much the government is going to weigh those FDI advantages against the domestic political gains that come from the social debt getting some precedence.

We have some time.  I want to just ask the panelists one quick question because I just can't resist, and then I promise, please, make it quick.  Do you think that the interest in domestic currency denominated sovereign debt by foreign investors will ever be there enough to justify countries like Argentina going forward thinking about issuing more in peso-denominated rather than in dollar-denominated debt?

You raised this interesting issue, so I would like you to all just comment very briefly.  Obviously, this would solve a lot of problems if we could conquer what some people have described as the original sin problem.

MR. TRUGLIA:  Frankly, I think that the only way they'd be able to borrow in large amount in local currency denominated debt from foreigners would be you would have to have a--it would be very expensive unless you really thought that the policy framework was sustainable because otherwise the interest rates would be extraordinarily high.

And so you can see countries, well, a country like Mexico can now go into the markets in peso-denominated debt, and the government can borrow 20-year peso-denominated debt, but it doesn't need foreigners to do the financing.  The domestic market is more than willing to buy up that long-term peso-denominated paper, and the price of peso-denominated debt is very low.  Why is it low is because the policy framework is sustainable in Mexico, and the risk of all--well, we have an investment grade rating.  So, if that defaults, then you have reason to complain, but as long as you have a high rating like that, then it's sustainable.  But in a place like Argentina, I just don't think that it's viable for the long term.

I would really be thinking about people may be purchasing the foreign currency Bodens.  Now, some will purchase the pesos and do all sorts of exotic things with them in the very short term, but it's the dollar-denominated Bodens that probably would be more attractive to many foreigners.

PANELIST:  You know, it comes down to two things.  It's the legal framework to cover your interest and the size of the economy.  Mexico has got a big enough economy where the markets can be deep enough for people to do these things.  But the key thing is it ties in with the potential of developing a real equity market as well.  It's, you know, defending creditor and shareholder interests in the local systems, so it's the framework.

PANELIST:  I remember a very large investor who told me the definition of "emerging market" was a market that when trouble came, you could not emerge from it.

[Laughter.]

PANELIST:  That is a key issue.

I think the problem is, and just to echo the other panelists, there will probably not be substantial foreign interests in domestic capital markets and not in domestic currency until those capital markets are very highly developed.  And this sort of begs the question because, once they're highly developed, and there are plenty of domestic investors, why do you need the foreigners?  But probably foreign investors will not come in large quantities.

There will always be some speculative investment.  There will always be some people that will venture into the domestic markets.  I, myself, ventured into the GKO market in rubles and managed to exit in 1997.  But until they develop, as I said, the legal framework for a sufficiently deep and liquid domestic capital market, I think foreign investment will be in very small amounts.

PANELIST:  I don't think that I have a lot to add to that.  Obviously, Mexico shows that it's possible.  The question was, you know, can this ever happen, and the answer is, yes.  And Mexico is a good example of that.

In our bilateral engagement with countries in the region and emerging markets, generally, the development of local domestic capital markets is something that we emphasize for precisely this reason, but as the other panelists have said, that's developing a domestic capital market, and as that develops, you're developing an ability to get that capital domestically, and that is probably the real source of solving that problem.

MR. CALOMIRIS:  The interesting thing, though, implicit in this discussion, which I want to point out, is that what all of you seem to be agreeing--which I also agree with--is that, despite the fact that Argentina has just told you that it's only going to pay 10 cents on the dollar back on its dollar debt, you feel so much safer holding dollar debt in emerging market countries than in holding local currency denominated.

So I think it's a very interesting fact.  I happen to agree with you, but what it shows is how strong the perception of safety and dollars is, even in the wake of such a large default.

Somebody wants to comment on that.

MR. TRUGLIA:  No, but I have to add though that if you take a look at most of the ratings, most of the ratings on the dollar-denominated instruments actually are lower than on the local currency instruments.  So, in fact, you're right.  It's probably more related to what would be the costs to the investors--

MR. CALOMIRIS:  Jurisdictional.

MR. TRUGLIA:  --jurisdictional costs, et cetera, of doing it or not doing it, but from a ratings point of view, almost invariably--there are some very important exceptions--the foreign currency rating is lower.

PANELIST:  I would just add the one very important exception Vincent is referring to is Japan, where the domestic currency rating is actually lower than the foreign currency rating.

MR. CALOMIRIS:  Please be brief.  Ask a pointed question, and please also wait for the microphone to come around and identify yourself.

First, in the back.

MR. COLEMAN:  Bill Coleman from the IIE.

Part of the problem with restructuring is that so much of the debt is off the table--something like $30 billion of IFI debt and close to $50 billion of the Bodens that we've just heard confirmed have a nice high rating because they're off the table.

Is it part of the objective of the creditors, do you think, to somehow reopen the provincial bonds, the Bodens, giving them various forms, presumably with some eye toward what it means to the banking system, in order that the haircut can be lesser, and if those are not reopened, will there be a sense that there's been a fair resolution?

PANELIST:  As far as I'm concerned, everything is on the table.  I mean, I don't recall any organized creditor group acknowledging that anything was off the table.

In terms of the IFI, there may be other panelists that are here or that will be here today who might be in a better position to answer that question.

In terms of the Bodens, let's just see what happens.  I think that's clearly going to be an issue that gets brought up in any negotiation.

MR. CALOMIRIS:  Does anyone else want to comment on that, quickly?

PANELIST:  I'll comment.  I told Randy I would try to make his life easier for him by addressing the IFI question.

The debt to the IFIs is a very--anyone who proposes that the IFIs write down their debt to Argentina or another country has to be ready to wait 10 years or more for a debt restructuring.  It'll be that long before the G7 come to an agreement on actually writing down IMF debt or World Bank debt.

But there's no reason to insist on it.  As a representative of creditors, if the IFIs are willing to provide debt relief in one form, which is basically the extension of long-term loans at below-market interest rates, but they cannot, for their bookkeeping and their capital structure reasons, provide debt relief in the form of writing down a substantial amount of their debt, why am I going to insist that they do it one way, when they're willing to do it another way?

If you were to say to me, the IFIs are willing to refinance their debt for 20 or 30 years at 4 or 5 percent, which are their typical lending rates, that's a substantial amount of debt relief provided to a country.  And if they're willing to do that, I'm not going to make a huge fight over trying to force them to do it in a different form, and that's what I think is one of the key issues.

In terms of the domestic debt, as Hans said, that's referred to as senior, most of it is post-crisis debt--post-default debt, not post-crisis debt--whether it should be included in the restructuring, that is part of the debt restructuring negotiation.  If there are other parameters, other assumptions that are willing, in terms of fiscal effort or in terms of foreign exchange reserves or in terms of refinancing assumptions that the country is willing to undertake or obligations, then there are certain classes that can be excluded, but it's all a package as to what will be considered a fair offer to the bondholders.

MR. TRUGLIA:  I just want to clarify the Bodens have a higher rating, but that is a highly speculative rating.  Those are very low ratings out there.  They're just better than CA.

MR. CALOMIRIS:  You're not recommending them.

MR. TRUGLIA:  We never recommend anything.  We just tell you our views, and it's up to you to make your own judgments.

MR. CALOMIRIS:  Thank you.

There's a fellow in the back in the white shirt there.

MR. DODD:  I'm Randall Dodd with the Financial Policy Forum, and I wanted to make one quick remark that I, like Professor Calomiris, really agree with this idea of looking at local currency emerging market debt, and I have an analysis of the feasibility of that on the G24's website.  It's a technical paper.

I have a question for the panel, though.  I was surprised in the way Professor Calomiris has been surprised that in all of the discussion no one has mentioned the problems in developing new sovereign debt bankruptcy procedures.  The failure of the IMF's SDRM proposal and the lack of any other innovation in this regard I would have thought would have come to the foreground.  And as many people have mentioned the difficulties of this restructuring, given the number of issuances, the number of currencies, the number of different investors and the problems that persist with the Elliott Associates and those type of vulture hedge funds, why haven't we had more thoughtfulness about a new sovereign debt bankruptcy procedure?

Thank you.

PANELIST:  I would like to make one quick comment.

In a lot of the research that went into the thinking behind bankruptcy court, there is just a basic error in considering this holdout.  I don't know if people realize this, but Elliott didn't litigate against---Elliott's litigation against Peru didn't hold up their Brady deal.  And in terms of holdouts in Bradys, the incidence is actually much lower than the holdouts that occurred in the bank restructurings in the '80s and early '90s.  I was part of it.  I worked on the restructurings of the Philippines, Yugoslavia back in '88 and'89.

Now, what happened is the holdouts were taken care of in a more quiet way.  It wasn't a headline thing.  But the holdouts, in terms of percentage, was higher than we've seen in bond restructurings.  Again, Elliott's actions in Peru didn't hold up the deal.

So I think I'd go back to what Adam said, this is a private-sector issue.   The complications aren't making it impossible to deal with.  If we engage in negotiations, the deal will get done.  There's no reason to have a court.  And quite honestly, from my point of view, who's going to be the judge?  I mean, there are some issues in the Delaware courts.  There are some ways we might be able to come up with some, I don't know, mechanism for dealing with situations that have just become unworkable, but there's no reason for bankruptcy court.  We have a process for debt restructurings.  Let's just use it.

MR. CALOMIRIS:  Just briefly.

MR. TRUGLIA:  We actually wrote a paper about a year or so ago on SDRM proposals and various other proposals.  It's Moody's view that SDRM won't work as intended because most of their proposals are trying to mimic Chapter 11.  Again, I'm not a lawyer, but from speaking to a lot of people who follow bankruptcy proceedings quite well, and they said one of the reasons Chapter 11 works is that there is a strong incentive to avoid Chapter 7.

And unless you are going to liquidate or threaten to liquidate a country, you have lost all of the incentive mechanisms that worked so beautifully in the U.S. legal system.  So that, from a practical point of view, we didn't think it really would work as people anticipate it would.

And, secondly, we made a more practical observation that we never thought it would be, since it would have to be handled as a treaty, we never thought it would get through the U.S. Senate any time soon.  So it was sort of like dead at the start, but that's just our own observation.  We may be totally wrong on the politics of it.  So, one, we don't think it would work and, two, we didn't think it ever would occur.

MR. CALOMIRIS:  I just want to move on, but remind you, too, that one thing that Adam had said, which I thought was quite interesting was, that the IMF could play a very constructive role not on the technical side, as an SDRM would require, but simply through this accelerated prepayment to actually provide an incentive for the country to want to come a little earlier to the table.

I didn't emphasize that in my summary remarks because I know we have another panel on this topic, and I hope we'll all be able to discuss that more.  And I hope we can just move on.  Can we?

[No response.]

MR. CALOMIRIS:  This lady right here.  I promise I'll come over there.  We don't have a lot of time, so please be brief.

MS. VARONE:  Ann Varone [ph], Clarin, Argentina.

In your statement to Congress the other day, Mr. Quarles, you said that the 3-percent fiscal surplus was a floor and that [audio break].  The Argentina government is saying that if they increase it, they jeopardize the growth, the economic growth.  So I wanted to see how you see that problem and how much they could increase it without jeopardizing.

MR. QUARLES:  With respect to their primary surplus, our view is that the commitments that Argentina has made to the IMF acknowledge that it should increase over 3 percent.  The degree to which it increases over 3 percent we think will be a function of the restructuring deal that Argentina reaches with its private creditors.

And I think that it's important that the IMF and the United States not take a prescriptive view as to how large or how small that increase ought to be.  Rather, what we're interested in is that, at the end of the day when a deal is reached, is it sufficiently attractive to the broad group of creditors that the restructured debt is sustainable for Argentina and that they aren't running substantial arrears to creditors who did not find it attractive enough to participate.

The primary surplus will be a function, if you will, of that deal, as opposed to the driver of that deal, which is a different way than often in the past.  The negotiating dynamic is gone.  But the fact that it's different in the past I don't think means it is an inferior way.  I think that it is better for the official sector not to attempt to be driving the terms of this deal, which we would be if we were prescriptive about the primary surplus.

MR. LERRICK:  I'd like to just comment a little bit about that.  I'd like to go back to a statement I made earlier.  The job of the G7 should be the "do no harm" policy.  Let's be clear.  The 3-percent number is basically just enough to pay the senior debt, what Argentina calls the senior debt, the performing debt, and leaves very little left over for the bondholders.  In fact, in Argentina's own debt analysis, it's about 10 cents on the dollar.

The question is the 3-percent number, as Randy said, is a very simple number.  It's what is necessary to pay the senior debt.  At this stage, it's now up to Argentina and the creditors to determine how much more should be paid in order to service the bondholders, and that is a negotiation that is between Argentina and its creditors and not one between Argentina and the IMF or Argentina and the U.S. Treasury.

This is, as Randy said, different from the past.  In the past, the IMF set the terms of the debt restructuring with private creditors through their fiscal surplus condition in their loan.  Because what would happen is they would agree with the IMF what the surplus should be.  Then, that would determine the cash available to pay bondholders, and therefore the negotiation with bondholders was really not very meaningful because the amount of cash available for the bondholders had been predetermined with the IMF.

What we're seeing here is a new IMF policy--at least I hope a new IMF policy--which is that the IMF negotiates with the government what is the minimum to service its obligations to the official sector and nonrestructured debt and then leaves it up to the private sector and the country to negotiate the increment that's necessary to service the new bonds that the bondholders will receive.  It's what I call the two-stage fiscal surplus condition, and I hope it's a precedent that will be followed in the future.

MS. ENSALES:  My name is Andrea Ensales [ph] from Patagonic [?] Group, Argentina.  This question is to Adam Lerrick, specifically.

It seems to be a kind of contradiction that you were for the default in Argentina, and then you represent the bondholders.  That's the first part of the question.

Then, we want to know if you really think that the IMF was kind of lenient when lending money to our country.

Well, probably the last part of the question could be, if it's the same for the IMF whether the debt was taken under corrupt dictatorship or not.

MR. LERRICK:  Three questions I receive often.

[Laughter.]

MR. LERRICK:  First of all, I never served as an adviser to the government on the default, but I am certainly on record, starting as early as late 2000, that the debt of Argentina was unsustainable, that a default was required and a substantial reduction in that debt was necessary for Argentina to return to a sustainable economic condition.  I said that statement in 2000, and I said at the time it required a 30-percent reduction in the debt.  I said it in 2001, I said it in 2002, I say it now.  Argentina needs a substantial reduction in its debt.  My views of that reduction increased as the crisis went on, but this is totally consistent with what the Argentine government has said.

Now, we have statements from senior Ministry of Finance officials saying, "If only we had defaulted in December 2000, then everything would have been much better, and we could have only had a 30-percent reduction for the bondholders.  And if only we had defaulted in June 2001, it would have only been 40 percent."

Well, if you look back at what I'm on record saying, those are the exact numbers I said.  There is no contradiction in saying the country needed a default and restructure and representing the bondholders.  The bondholders have to accept that they're going to have large losses.  The debt is unsustainable.  It was unsustainable before, and the debt, according to its contractual terms, is unsustainable now.  So there will be a reduction.  The goal must be a fair and sustainable restructuring, and that is part of the negotiation.

Now, your second question--we don't have the time.  All right.

MR. CALOMIRIS:  If you want to give a 10-second, go ahead.

MR. LERRICK:  All right.  I've forgotten the second question.  The third question--what was the second question?

MS. ENSALES:  [Off microphone.]  [Inaudible.]

MR. LERRICK:  The problem with that argument--it's an argument we've heard frequently in the past mostly for very poor countries in Africa, that it was some terrible dictator that ran away with the money, and therefore we don't have any obligation to pay--the problem with that argument is that it refuses to recognize that there is a continuity of governments.  Governments undertake obligations.

In the case of Argentina, that is even less plausible because the government that everyone is saying was so corrupt and undertook this debt is the same political party that's in power today.  The governors in Argentina that were governors when the Menem administration was in power are the same governors now or their successors, and therefore to say there's been a discontinuity and a major upheaval is not true.  It's the same political party that undertook these debts, and that's why I don't think it's plausible in this case.

MR. CALOMIRIS:  The gentleman there.

MR. SCHULER:  Kurt Schuler from the Joint Economic Committee of the U.S. Congress.

I would like to particularly ask Mr. Lerrick and Humes, but anybody else who cares to comment on it, about the incentive for the Argentine government to make some kind of payment.

The incentive is supposed to be that this will help attract more investment, but if you look at the long-term record of Argentina, it's one of very low per-capita growth.  So why do you think this would be some kind of incentive?  Why do you think they wouldn't be better off just, as the Argentine economists all look for living within our means?

PANELIST:  It doesn't get any better than growing at 6 percent and not paying your debt.  Let's simplify matters.  And that's the position of Argentina right now.

My won view is what will bring, as Vincent said, but I put it in more simple terms, what will force a restructuring of the debt will be when the economy starts to slow, and that is when the government will recognize that, for the private sector in Argentina, not the government, but the private sector to attract long-term capital at attractive rates, it will need to restructure its debt. So I think that's sort of the main issue.

Why will they want to restructure?  Because they will need to attract capital is the short answer.  If you say they just want to be a low-growth country and sort of stagnate, then, yes, that's a policy choice they could make.

MR. CALOMIRIS:  We have time for one more quick question, and I'm going to let this gentleman have it.

MR. KLEINMAN:  Gary Kleinman, thanks.

Just a question along two broad tracks about the broader impact on emerging markets.  Should there or is there any effort underway to actually define what is this very subjective concept of good-faith negotiations?  A lot of bondholders would argue that getting the sovereign to pay for part of the committee costs and getting access to the same sort of data that the IMF gets, et cetera, certainly is integral to it.  Otherwise, as well, we referred, I think, Hans, you referred to the legal track, but I wonder if the new paradigm isn't underway already.

A lot of the so-called vulture investors have managed to at least get some assets seized in principle, but they are also seeking a definition of what is a seizable asset.  They're trying to get the Argentine government to disclose what is commercially seizable, and there's also talk of fundamentally revising the Foreign Sovereign Immunities Act, which has been around for several decades.  So I wonder whether you could comment on that, too.

MR. CALOMIRIS:  You only have a minute.

PANELIST:  Everything is evolving as we speak.  I was on public record in the middle of 2002 saying that Argentina should start engaging its creditors as soon as possible because the longer they put it off, the more creditors would look for alternative means.

Clearly, it's a developing paradigm.  The litigation is a developing thing, but if you look at it in terms of the outstanding amount of debt, the people that are litigating are very, very small in percentage terms.  We are going to be finding out what the definition of a sovereign asset is.  That won't depend on what happens in Argentina.  I think what is important is that you get a real paradigm for engaging in constructive dialogues.  Whether or not this is a good-faith negotiation right now, there's no negotiation.  So I can't say if it's good faith or not.

When we start what we think is negotiation--a give and take--let's see what happens.  But there is no negotiation currently.  Let's not worry about the good-faith part.

MR. CALOMIRIS:  Does anybody want to speak directly to the legal issues and the courts and how important this is going to be during the negotiations?  And please give your 5-second answer.

PANELIST:  At the moment, I think that the litigation that's happening in New York, it is important, but it's not going to drive the negotiations.  If the Argentines follow through with constructive negotiations with their creditors in a way that's viewed as moving this process forward in good faith, then we won't see kind of the massive move to the courts that, in fact, would make a difference.

MR. CALOMIRIS:  Well, in the interest of the next panel that's coming up, and I'm sure you're all just as eager to hear what they have to say as I am, we have to stop here.  I think we better do this again, Desmond, in about three months.  I have a feeling we'll get also a very large audience, and I hope that we can somehow convince these extremely helpful and insightful speakers to come back.  I hope you'll enjoy me in thanking them.

[Applause.]

PANELIST:  Charlie, the only thing is I hope we don't have to say just the same thing over again.

[Laughter.]

[Whereupon, Panel 1 concluded.]

MR. LACHMAN:  I think we'd very much like to get started with the second session, if we could.  We're now going to be turning away from the issue of the debt restructuring to the question of whether or not what the policy response should be to Argentina's economic challenges now right in the wake of default.

Anne Krueger is going to be arriving very shortly, and in the interest of moving this along and having plenty of time for questions at the end, I think that we'll just start right now.

The questions that I have asked the panelists to take a look at have been those of determining what might be Argentina's main economic priorities in getting growth reinvigorated.  That is one aspect that I've asked them to speak to.

Another one that I've asked them to take a look at are the longer-run economic outlook for Argentina should Argentina not have restructuring on the external debt any time soon.

A third is this whole issue of what might be a reasonable primary budget surplus for a country of Argentina's situation.

And the last that I've asked is to take a look at what might be the lessons that the international community might draw from the Argentine experience.

The panel that we have got is truly distinguished, very much appropriate to be dealing with questions of this sort.  And unlike the previous moderator who indicated that the speakers don't need any introduction, these speakers certainly don't need any introduction, but I'll introduce them nonetheless.

At the far end--and this would be the order in which I'm asking them to speak--Anne Krueger is well-known to everybody.  Currently, she's serving as the acting head of the IMF.  Formerly, she was the first deputy managing director at the IMF.  Anne Krueger has had a highly distinguished career as an economic at Stanford University.  She's renowned internationally as a trade expert.  She's served at some stage as vice presidents for economics and research at the World Bank.

Sitting to her left is Ted Truman.  I don't know that you could find many people in Washington with quite the policy experience at the highest levels of the U.S. government as Ted Truman has.  He currently is a senior fellow at the Institute of International Economics, but before that was assistant secretary of the U.S. Treasury, a very senior official at the Federal Reserve Board, very active in the FRMC, but we'll try to keep the questions restricted to Argentina and not the U.S., despite some of the imbalances that we've got in the U.S right now.

Nouriel Roubini, to his left, is a very well-known academic at New York University at the Stern School, publishes widely on macroeconomics.  And I should just express a personal note of thanks to him for his maintenance of one of the better web pages on the Internet to deal with the emerging markets.

And, finally, Guillermo Mondino, who is currently in the United States.  He works now as an economic consultant.  He'll be known to most people--Argentines--as having been a senior official in the Ministry of Economics in Argentina a couple of years ago.

So, without further ado, I'm going to ask each of the speakers to speak for roughly 10 to 15 minutes on those issues, and then we will throw it open to questions.

Anne Krueger.

MS. KRUEGER:  Thank you.  I am delighted to be here and to participate in this seminar.

I want to thank Desmond Lachman very much for inviting me.  You've shown a great deal of perspicacity in putting this discussion together,  and to be a master of timing, this is a good moment I think to take stock of the challenges still facing Argentina.  As you know, the IMF just completed its second review under Argentina's Fund-supported program and a new Letter of Intent was published only just last week.

I want to use this opportunity today to outline briefly what we in the Fund see as the principal economic challenges facing Argentina and to say something about how we think we can help Argentina respond to those challenges.

Anyone who has followed the events in Argentina since 2001 will know that the relationship between the IMF and the Argentine government has not always been an easy one.  But disagreements between national authorities and the Fund are hardly--

[Tape change.]

MS. KRUEGER:  [Continuing]  I start from the premise that we all--the Argentine Government, the IMF, and the international community as a whole--share the same broad objectives.  We all want to see what is still one of Latin America's richest economies enjoy sustainable and rapid growth, and in so doing, raising living standards and reducing poverty.

The country's macroeconomic performance over the past year or more has been good, surpassing all expectations.  On all the main economic indicators--GDP growth, the fiscal surplus, and inflation--currently Argentina is doing better than any of us here had hoped.  Growth exceeded 8 percent last year and should be around 6 percent this year, while inflation remains subdued at about 2.5 to 3 percent.

This is unequivocally good news as far as it goes, but it's only the start.  Despite the recent rapid growth in real GDP, we have to remember that the cumulative decline in output between 1999 and 2002 was around 20 percent.  Much of what we are seeing so far is part of the recovery to pre-crisis levels of activity.  But for Argentina, what matters most is the medium- and the longer-term outlook.  To make significant progress in reducing unemployment and poverty, Argentina needs to see sustained expansion over the longer term.

New investment will soon be essential for longer-term job creation and to ease bottlenecks as capacity utilization comes to a high level.  The buoyant economic performance in the current context is an opportunity to resolve longer-term problems.  I think Argentina accepts that this should not be used to justify postponing difficult decisions.  New investment will come partly from domestic savings, of course, but new inflows of foreign capital will also be needed.  These will only come once Argentina has regained access to the international capital markets, and none of this will happen unless potential investors are convinced that Argentina's economic policies make it an attractive prospect over the longer term.

They will not make that judgment until Argentina has reached agreement on a debt restructuring with its creditors.  Fiscal and monetary policy has, as I said, exceeded expectations so far, but Argentina has been servicing virtually none of the sovereign debt it owes to the private sector.  Once the restructuring deal is agreed, there will clearly be pressure to raise the primary surplus in future years in order to ensure the sustainability of macroeconomic strategies.  Argentina's intentions on this issue have been clearly set out in the two Letters of Intent.

One thing that continues to cloud the picture is the assumption that we're talking about a zero sum game.  Many emerging market governments have expressed concern that too high a primary surplus can undermine recovery and the efforts to reduce poverty.  I believe that these fears are misplaced.  Prudent and sustainable fiscal policy do not hinder poverty reduction, nor do they slow growth.  The economic evidence of this is overwhelming.  A stable macroeconomic framework, including a primary surplus consistent with debt servicing obligations, is an essential prerequisite for sustained rapid growth, and this in turn is the best way of reducing poverty.

Look at the experience of Turkey after its crisis of 2001.  The economy had contracted by 9.5 percent that year, and inflation came close to 70 percent.  Public debt was nearly 100 percent of GDP.  The government responded by adopting a series of ambitious reforms aimed at achieving macroeconomic stability and creating the framework for sustainable growth.  Those reforms included a challenging primary surplus.  The primary surplus in 2003 was 6.2 percent of GDP, close to the 6.5 percent target Turkey continues to set for itself, and more than double Argentina's current level.

The debt burden, which was always low in Argentina, has fallen sharply, yet the high primary surplus can hardly be said to have hindered growth, which continues in Turkey to surpass expectations.  The Turkish economy grew by 7.8 percent in 2002, by almost 6 percent in 2003, according to figures out today, and the economy is expected to achieve 5-percent annual growth beyond this year into 2005.

The inflation has fallen dramatically.  It was, as I said, around 100 percent when we started, and it's projected to be down to 12 percent this year and 8 percent next.

Brazil, too, has already reaped considerable benefits from its government's determination to stick to a clearly state macroeconomic strategy.  In 2002, it was able with Fund support to weather a crisis of confidence, sparked off by concern about the outcome of the presidential election.  Its primary surplus target is 4.25 percent until and to 2006.  Last year, the upturn was slightly above target.  Risk premia, as a result, have fallen drastically.  In 2002, they peaked at about 2,400 basis points.  They are currently around 550.

The central bank has been able to reduce interest rates several times.  Overnight rates are well below their pre-crisis levels, and growth resumed in the final quarter of last year, and there are encouraging signs that this is now accelerating.  Not as rapidly as we'd like, but it's getting there, and the Brazilians are optimistic.

There is clearly much to be learned from the experience of Brazil, Turkey, and other countries, though there are still those who remain dubious about the benefits of an ambitious fiscal strategy.  In Argentina's case, detailed figures for the future years of the program have yet to be discussed, though, as I say, the public declarations of the government are clear.

The commitments and the Letters of Intent are integral to the debt restructuring process.  The government has pledged to engage in constructive negotiations with its creditors.  Argentina's debt obligations are particularly complex.  It is as important to ensure that the restructuring is successful as it is to get it done as soon as possible.  But I think the Argentine Government recognizes the need for substantive progress in this area as much as anyone.  Creditors want the restructuring completed so they can move on, and Argentina is in a similar position.  Without a satisfactory outcome, new investment flows will not be forthcoming.  That could have serious implications for future growth performance.

A stable macroeconomic framework, consistency in economy policy, and a satisfactory debt restructuring are all vital ingredients for success.  But even these are not enough.  Argentina needs to press ahead urgently with structural reforms, too.  If these are not addressed, the prospects for a sustainable growth path are bleak.

Identifying what reforms are needed is, alas, far easier than implementing them.  Perhaps the most obvious is the need to replace the relationship between the center, the Federal Government, and the provinces on a more sustainable footing.  To this end, the one-year agreements anchoring fiscal adjustment at the level of the provinces are being replaced by longer-term arrangements.  Better incentives are being introduced to encourage greater fiscal responsibility at the provincial level, both on the revenue collection side as well as on the spending side of the balance sheet.  Rebalancing this relationship will be a major challenge for the Argentine Government; so, given the present political situation, will successfully resolving the problems of the energy sector be.

It is already becoming apparent that supply constraints pose a real risk to the economy's future growth prospects.  A reliable, plentiful flow of energy is essential for any modern economy.  That requires a pricing structure that takes into account the needs of consumers and, in particular, avoids penalizing the very poorest users, but at the same time generates sufficient revenues for suppliers to undertake the necessary investments.

This is clearly not the case in Argentina.  The pesoization of utility contracts following the 2001 devaluation combined with the regulator's refusal to allow the utility companies to adjust their tariff structure has sharply curtailed new investment in the utilities.

There has been some modest movement in the right direction.  The utility companies were recently permitted to raise tariffs for some large industrial users.  But this in itself is not sufficient.  If the problem is not confronted now, there is a risk of further and more serious supply interruptions which will inevitably undermine future growth prospects.

The financial sector also suffered in the wake of the devaluation.  Before the crisis, Argentina's banks were regarded as some of the soundest in Latin America.  With the debt default, the asymmetric pesoization and indexation of bank balance sheets in the aftermath of the crisis badly damaged the profitability and confidence in the banks.  There are clear signs that both are beginning to recover, but sound banks and a well-functioning financial sector are vital ingredients of economic success.  The Argentine Government is working to strengthen the country's financial sector, which should eventually provide a much better cushion against future shocks.

It's also very important to restore public confidence in Argentina's institutions.  After the traumatic economic and social shocks of 2001 and 2002, this was badly shaken.  Some judicial decisions and some of the wrangling in congress have undermined public trust.  Yet, without a strong legal framework and an equally strong judiciary, progress on other fronts will inevitably be limited.

Labor market reform is also long overdue.  A more flexible environment is essential if jobs are to be created on a large enough scale to tackle the country's high unemployment rate.  Experience in industrial and developing countries alike has consistently shown that removing labor market rigidities is the only way to effect a lasting increase in employment.

The list of structural reforms is daunting.  Given the scope of Argentina's economic collapse, it could hardly be anything else.  But in its economic program, the Argentine Government has clearly accepted much of this analysis.  I refer you yet again to the Letter of Intent signed last September, and it was published last week.

The government has committed itself to implementing wide-ranging structural reforms, and I believe that the government also recognizes that the payoffs from individual reforms rises sharply when these are carried out in conjunction with the others.  The whole can be much greater than the sum of the parts.

The IMF's role in all of this is a supportive one.  One of our primary tasks is crisis prevention.  Every crisis is a setback, of course, but we also look on them as providing an opportunity to improve our crisis prevention framework.  Recent experience has taught all of us, the international financial community in the widest sense, that broad-based economic reform is critical in developing a sound macroeconomic framework for growth and poverty reduction.

Many IMF members are beginning to reap the benefits of such reforms.  They aren't easy to introduce because there will always be opposition, often fierce, and often from those who see their own sectoral interests at risk.  Implementing what amounts to a demanding recovery program takes political leadership and courage.  Sticking with it is equally challenging.  But as we've seen time and time again, consistency in economic policy is important.  It brings credibility and, in turn, investment flows and lower borrowing costs.

Argentina has embarked on a reform program aimed at restoring economic stability and delivering long-term sustainable growth.  As I said at the outset, we in the international financial community want that program to succeed every bit as much as do the Argentines themselves.

I would, in all candor, be happier of the government had felt able to do more in order to reduce the program's vulnerability to shocks.  I would, too, feel more confident about the outcome if Argentina showed greater conviction in the program to which it is committed.  Perhaps in this context, though, enthusiasm is less important than implementation.  If the government does stick to its commitments on all aspects of policy reform, I believe Argentina has a better opportunity than for many years to achieve the economic stability essential for lasting success.

Thank you.

MR. LACHMAN:  Thank you very much, Ms. Krueger, for such a clear indication as to what Argentina should be doing in addressing the questions that I have asked.

If we could turn to Ted Truman.

MR. TRUMAN:  I don't want to get an echo in here, though the audience may feel after I'm done that we do have an echo, Anne, because a lot of what I'm going to say is similar to what you've said, though I think the only difference is I'm going to be dealing with the glass being half-empty and you were dealing with the glass half-full, though there may be one or two points of difference.

I might emphasize here, just in case anybody is mistaken, Adam Lerrick wore two hats; I wear no hat at this case.

I want to talk about the economic challenges and touch on, as you put in your questions, a little bit about how that is related to the debt issue.  My bottom line is not, I think, unlike Anne's, that these issues are linked.  Argentina faces major economic policy challenges.  Absent progress toward debt settlement, those challenges will become more difficult to meet.

I wrote these notes.  These are written down so I could prove it.  I was asked, on the Friday, I think, before the IMF Board met on the latest review, about who won, Argentina or the IMF.  And I said Argentina won.  The Argentina program is predominantly about Argentina and its prosperity, not about the IMF imposing an economic straitjacket or playing debt collector for a bunch of bondholders.  This is right here in the margin:  It is not a zero sum contest.

How it all plays out, of course, does have implications for other countries in the system, but principally this is about Argentina.  And I think the question itself illustrates the depth of the problem and how perceptions have gotten in the way of substance, where I define substance as sustained Argentine prosperity.

I think it's useful to think about where Argentina has been, and I, therefore, will ask a couple of preliminary questions in thinking about the economic policy issues.

In what sense was Argentina a model performer during the period 1991 to 2001?  Well, they ended hyperinflation.  There was significant initial trade liberalization.  There was meaningful, if flawed, privatization.  There was some strengthening of the banking system.  And they generally welcomed inflows of foreign direct investment, and there were important strides in the area of transparency.

What did this produce?  It produced 3.4 percent annual growth between 1991 and 2001, and even if you include the downturn in 2002, growth was more than 2 percent a year.

Was Argentina a star performer by the standards of the Washington Consensus?  I mean the John Williamson version of the Washington Consensus, not the Joe Stiglitz version of the Washington Consensus.  And the answer is, I think, no.  They did not maintain a competitive exchange rate.  They did not exercise sustained fiscal discipline, tax reform, or control over public expenditures.  They did not systematically pursue regulatory reform.  And they did not protect property rights.  Those are six or seven of the things that you can find in the Washington Consensus.

And was Argentina a star by the--I have to do advertisements here since I work at the IIE--by the after-Washington Consensus that Pedro Pablo Kozinski and John have put out recently?  And I think again the answer is no or mixed.  No, one qualification.  They did not avoid crises and stabilize the econ