Buckling under the structural power of its private creditors, the European periphery seems destined for a lost decade of austerity. What can be done?
Now that the botched bailout of Cyprus has reignited the flames of Europe’s never-ending debt debacle, it suddenly appears to be all the rage again to make historical comparisons between the ongoing euro crisis and previous crises in Latin America. Piling on to a long list of comparisons between Greece and Argentina, for instance, Paul Krugman last week invoked Argentina’s 2001 corralito as a precedent for the imposition of withdrawal limits in Cyprus, claiming this to be the first part in a script that will eventually lead to Cyprus’ euro exit.
Yet the longer the European debt crisis drags on, the more obvious it becomes that the appropriate comparison here is not with the explosive collapse of Argentina in 2001-’02 — in which total financial meltdown led to a spontaneous popular uprising that witnessed over 20 protesters killed in two nights, five presidents unseated in two weeks, and the largest-ever sovereign debt default imposed on private creditors in the history of capitalism — but rather with a much more destructive and drawn-out event: the Latin American debt crisis of the 1980s.
Latin America’s Lost Decade
What set the Latin American debt crisis of 1982 apart from the Argentine crisis of 2001-’02 — and why is this difference relevant for Europe today? Well, first of all, Argentina actually refused to honor a large part of its external debts. In December 2001, it defaulted on $93 billion of public external debt and subsequently restructured its outstanding obligations in a highly forceful setting, offering its private creditors a take-it-or-leave-it deal that eventually saw a majority of 93% of creditors accepting a repayment of a mere 35 cents on the dollar.
The crisis of the 1980s, by contrast, did not witness any form of debt repudiation. Although dozens of Latin American countries became embroiled in the crisis, only three countries — Brazil, Argentina and Peru — briefly experimented with temporary debt moratoriums or reduced debt repayments; but all of them eventually fell back into line and dutifully kept repaying their debts. Interestingly, this remarkable degree of debtor discipline contrasts sharply with the wave of defaults that rocked the world during the crisis of the 1930s.
The subsequent economic trajectories of Argentina post-2001 and Latin America in the 1980s therefore could not be more dramatically opposed. While the Argentine economy boomed back to life in spectacular fashion in the wake of its 2001 default, Latin America in the 1980s gradually sank deeper and deeper into the abyss. After years and years of neoliberal austerity and reform, by 1990 real income in Mexico was still lower than it had been in 1982. Not surprisingly, therefore, the 1980s became known in Latin America as the década perdida: the lost decade.
Why Not Default?
This brings us to another question: if default was still considered a legitimate policy response in the 1930s, and proved to be such a fiscal catharsis in Argentina in 2001, then why did Latin America not default en masse in the 1980s — and why does Southern Europe not default en masse today? The answer to this question, my own PhD research on Latin America suggests, lies in the dramatically changed nature of the global financial system — and the implications these structural changes have had on the power of private creditors.
In the 1930s, sovereign lending was largely organized on the basis of bond finance: big banks would bring together large and dispersed groups of small-scale investors, who would then put up the capital required to buy up large amounts of government bonds. The purchase of these bonds provided Latin American governments with the credit they needed and provided the banks in New York and the City of London with handsome intermediation fees. Still, the risks of the investment were ultimately born by these dispersed investors.
Since these small and dispersed investors found it difficult to organize among themselves — and since gunboat diplomacy and military invasion had been delegitimized as a crisis resolution mechanism in the wake of WWI, and there was still no equivalent to the IMF to come to the rescue of private creditors — the debtor countries were in a relatively powerful position to default on their loans once they hit the hard times of crisis in the 1930s. In a word, the small and dispersed private bondholders were powerless: they simply could not resist default.
The Structural Power of Wall Street
This contrasts markedly with the sovereign lending regime of the 1970s. By 1982, bank syndication had largely replaced bond finance as the main form of lending to governments. This time around, Wall Street banks syndicated loans to Latin American governments, bringing together numerous banks to put up adequate amounts of capital, but concentrating the debt firmly on the balance sheets of some of the biggest and largest US-based banks. Suddenly, the bulk of Latin America’s debt was held by some of Wall Street’s most powerful banks.
This, combined with the existence of the IMF — which had been set up in the wake of WWII and was now being reformed into a neoliberal handmaiden of the Reagan administration — changed everything. A wave of defaults by the Latin debtors now threatened the very stability of the global financial system, while the syndicated nature of lending allowed the banks to organize a closely-knitted “creditors’ cartel”. Colluding with the US government and the IMF, the banks isolated the debtors through a case-by-case approach to debt negotiation, pitching a united creditor front against a series of helpless individual debtors.
As a result, the new financial structure allowed the big Wall Street banks to exert enormous power over their debtors, without even having to resort to lobbying or other direct forms of exercising political influence. By the 1980s, the power base of the big banks had become structural in nature: if the debtors failed to pay up, the bankers could credibly threaten that they would cut the debtors off from the global financial system altogether simply by immediately withdrawing all outstanding investments and refusing to extend any new credit.
This ability to withhold and withdraw credit — which would have had dramatic consequences for the ability of Latin American governments to import food or oil, for instance, or to continue funding basic social expenditures — gave the Wall Street banks a unique form of structural power over debtor governments. Working together closely with the US Fed, the Treasury Department and the IMF, large bailouts were organized that imposed highly punitive conditions on the debtors, while always insisting on full repayment for the banks.
The Argentine Exception of 2001
If anything, Argentina in 2001 proved to be an exception to this evolving rule. While the Latin American debt crisis of the 1980s and the East-Asian financial crisis of the late 1990s had both revolved around an increasing concentration of lending in an ever-shrinking oligopoly of powerful Wall Street banks, lending to Argentina in the late 1990s had once again taken the form of bond finance. Argentina’s creditors, in other words, were mostly small and dispersed individual investors, like ordinary middle-class households in Italy.
When the Argentine crisis initially hit, the Wall Street banks that had exposure to Argentina immediately tried to dump their bonds on secondary markets — selling them on at lower face value to hedge funds and to those same small investors in Europe. Unaware of the risks they were taking on, for instance, many Italian pension funds simply poured the life savings of millions of middle-class Italian families into the risky Argentine bonds that the Wall Street banks were now trying to get rid off. The results were catastrophic.
By December 2001, it had become clear that Argentina’s debt load had become both economically and politically unsustainable. Widespread social unrest was undermining the legitimacy of the ruling elite, and the introduction of the corralito — which imposed draconian withdrawal limits on bank deposits — led to a social explosion that threatened to destabilize the entire state apparatus. Still, as Paul Blustein records in his account of the crisis, Wall Street bankers had to convince Argentine policymakers of the inevitability of default.
So rather than the Argentine government imposing a dramatic default on powerful Wall Street banks, as both the populist propaganda of the Kirchner government and the uninformed interpretation of the international media would have it, Argentina’s default was actually actively pushed for by Wall Street bankers, who had long seen the collapse coming and had already offloaded their exposure. While Wall Street did suffer some losses, it was the ordinary, dispersed, unsuspecting and therefore powerless bondholders who suffered the brunt of the default.
Structural Power in the European Debt Crisis
In the build-up to the European crisis, by contrast, the pendulum once again swung back to debt concentration in the biggest and most powerful banks. While Greece’s accumulated debt was mostly in the form of sovereign bonds, these bonds were concentrated in some of Europe’s most powerful banks: BNP Paribas, Société Générale and Crédit Agricole of France, Deutsche Bank and Commerzbank of Germany, and ING of the Netherlands. Meanwhile, the same core banks invested heavily in Portuguese and Italian bonds and in Spanish and Irish real estate.
As a result, when the European crisis first hit in early 2010, those players who stood to lose the most were the powerful banks of the core. These banks had become so systemically important to the global financial system that a collapse of one of them would have had dramatic repercussions for the system as a whole. Ironically, this vulnerability gave the banks enormous structural power over the process of crisis management: without even exerting any direct pressure, the banks could virtually outlaw default as a realistic policy response.
In other words, Latin America’s lessons for Europe are more troubling than one would think. When sovereign lending becomes concentrated in the hands of a few systemically important and structurally powerful banks, the interests of debtor nations will tend to be undermined in dramatic fashion — with all the concomitant repercussions for living standards and democratic processes. Rather than expecting an Argentine-style default anytime soon, perhaps what we really should be expecting is another lost decade of austerity and deferred dreams.
Time for a Push?
And yet it would be foolish to give up the struggle — especially when the lives of millions of Europeans depend on it. It is here that the Argentine lessons of 2001-’02 are most instructive and hopeful. In fact, it is not the nature of Argentina’s crisis management but rather the nature of its popular uprising that should be a source of inspiration to those in the European periphery today. What the piqueteros taught us in December 2001, is that the only way to force a capitalist state to respond to its people in times of crisis is by systematically destroying that state.
Of course, the Argentine state eventually survived — thanks in large part to the populist measures undertaken by the Kirchner government — but not before a spontaneous popular uprising had destabilized it to the point where default had become the only option left for its embattled elite. This, then, appears to be Latin America’s lasting lesson for Europe: a crisis-ridden and heavily indebted capitalist state will not simply jump over the edge and surrender to the will of the people. To default on its debts, it will need to be pushed — and we remain the only ones who can do the pushing.