MOODY'S REPORTS: LANDMARK SUPREME COURT RULING ON PESIFICATION HAS BROAD IMPLICATIONS FOR ARGENTINA
New York, March 11, 2003 -- Moody's Investors Service says that the recent ruling by Argentina's Supreme
Court declaring the pesification of US dollar deposits unconstitutional
does not have immediate rating implications given that the country's present
ratings are already at its lowest levels.
In a Special Comment released today Moody's notes that its "current Ca
rating already reflects the severe distress conditions present in Argentina
since it declared a default more than a year ago."
The report, entitled "Redollarization: Implications for Argentine
Banks and Argentina", assesses the various implications of the ruling
for both the sovereign and the banks.
The Moody's analysts said that "redollarization" would create further
losses for the banks, whether it is implemented through a bond scheme
or through cash, as it would result in a currency and exchange rate
mismatch. "This mismatch would need to be covered through some
form of compensation scheme since the banks' own resources have been severely
curtailed by the financial crisis," said Jeanne Del Casino,
a Moody's Vice President and bank analyst.
In a worst case scenario, should cash reimbursement of deposits
be ordered and implemented, it could cause renewed deposit flight
that raises the issue of whether the government would have to return to
more stringent foreign exchange controls, and if not, which
banks would survive. Such a situation, says Moody's,
might also induce additional foreign banks to exit the system.
If the government had to issue additional bonds to compensate the banks,
"it would only make a bad situation marginally worse", according
to Moody's. However, the agency also noted that if assets
also had to be "redollarized", as the system's largest obligor,
the government would be the biggest loser.
"In terms of the macroeconomic impact of the ruling," said Mauro
Leos, Moody's country analyst for Argentina, "we anticipate
that it will be similar in nature to the one observed when the pesification
was first enacted. The ruling represents yet another debt-creating
event that further erodes the possibility of improved credit prospects
for the sovereign".
Moody's concludes that the final impact of the ruling is premature to
assess since the government must still respond to the ruling, its
application, as well as the timing and terms of the "redollarization"
remain up in the air, and because the resolution of such key issues
is likely to be delayed until after the elections.
Following is the full text of Moody's comment:
"REDOLLARIZATION": IMPLICATIONS FOR ARGENTINE BANKS AND ARGENTINA
Supreme Court Rules in Favor of Depositors, Declaring Pesification
of Deposits Unconstitutional
On March 6, 2003, Argentina's Supreme Court ruled on a lawsuit
against Banco de la Nación and in favor of one of its depositors,
the Province of San Luis. The court determined that the conversion
of the latter's US$247 million fixed term deposit to pesos in February
2002 by Decree 214/2002 was unlawful, and that the deposit should
be repaid in the original currency.
The order was to repay the deposit in the Argentine peso equivalent,
but at the market exchange rate (3.1: 1) instead of at the
implied new contractual rate of about 2:1 (1.4 plus the CER
inflation adjustment). This represents a 50% increase in
the cost of repaying the deposit.
What are the risk implications for the Argentine banks and for Argentina?
This landmark ruling has broad, primarily negative, credit
For The Banks:
· "Redollarization" would create further losses for the banks as
a result of asymmetric pesification, that would need to be compensated
through a BODEN-type government bond scheme along the lines of
last year's programs (the most likely and most realistic solution in our
· If cash reimbursement of deposits is ordered, this could
cause deposit flight that might induce additional foreign banks to exit
· Banks could also be subject to new depositor lawsuits as a result
of this ruling
For The Government:
· If bonds are the mechanism for compensation, the government
would need to issue additional debt to cover the mismatch
· If cash payments are ordered, the Central Bank (BCRA) would
have to provide liquidity or some other form of compensation to help the
banks to comply
· Should runs occur, the government could be faced with having
to protect its international reserves by either (A) reverting to more
stringent foreign exchange controls or (B): de facto nationalizing
the banks in the event the major foreign banks decide to leave.
At this juncture, there are numerous unanswered questions that make
it a purely academic exercise to assess the total impact of the new ruling:
The financial impact on the banks remains uncertain, as:
· The government has yet to respond to the ruling
· Uncertain timing and terms for "redollarization" remain up in
· It is still uncertain if the ruling in the Nación-San
Luis case will be applied to other depositors
What is certain, is that any "redollarization" would take time:
· The Nación-San Luis case may be considered a test
case. However, if the two parties do not reach agreement
within 60 days on how or when payment is to be made, the case could
go back to the courts.
· The 60-day grace period also postpones resolution of the
matter until after the elections, so it will be among the new Administration's
first tasks and one of its most challenging, particularly given
the heavy politics behind the issues. The new Administration and
its attitude are unknowns at this time.
· These factors, together with the need for the new Administration
to return to the IMF negotiating table, could keep the debate on
"redollarization" alive through the end of 2003.
Moody's believes that it is likely that bank deposits will eventually
have to be "redollarized", and that the cost of the "redollarization"
will probably be borne by the government. The banks do not have
the resources to meet immediate cash withdrawals at market exchange rates.
Given that their balance sheets are very illiquid, most depend upon
the BCRA or other sources of external support for their day-to-day
operations. The likelihood that the banks' foreign or domestic
shareholders would step up to bear the full cost of "redollarization"
is also extremely low, as they have already taken substantial losses
in 2001 and 2002 and may be unable or unwilling to continue doing so.
Without similar "redollarization" on the asset side of bank balance sheets,
we estimate that the system could suffer additional losses of at least
US$3 billion, depending upon how the "redollarization" mechanism
works (timing, currency, and exchange rates yet to be defined).
It is unclear whether the "redollarization" ruling will eventually be
extended to assets, which would have massive implications for the
government, the system's major debtor. A low percentage of
private sector borrowers would also be able to comply in the short term,
without the aid of some form of restructuring scheme.
There is also a low likelihood that cash payments either in dollars or
in pesos would be ordered or implemented. Argentina's low level
of US dollar reserves relative to its external debt, the fear of
hyperinflation and resulting exchange rate depreciation that would come
about should the Central Bank have to print pesos to help banks meet their
deposit obligations, together with the fear of bank runs,
preclude such a drastic measure. There is a much greater likelihood
that some sort of bond or other form of rescheduling mechanism would be
established to return depositors' funds to them over time and at less
punitive rates. This would make a bad situation marginally worse
for the government, since part of the cost of the crisis that was
being borne by depositors will now be added back to its already dismal
In our view, assuming that the decision for the Province of San
Luis is applied to other banks, the government would have to issue
long term bonds, similar to the BODENs that were issued to compensate
the banks for the asymmetric pesification of their assets and liabilities
in early 2002. Even if loans are "redollarized" as well,
we believe this would render little economic value to the banks at this
point in time, given that their borrowers' repayment capacity has
become substantially weaker overall.
Rating Implications for the Sovereign
The decision by the Argentine Supreme Court is not expected to have significant
rating implications for the sovereign, as the current Ca rating
already reflects the severe distress conditions present in Argentina since
it declared a default more than a year ago.
In terms of the macroeconomic impact of the ruling, Moody's anticipates
that it will be similar in nature to the one observed when the pesification
was first enacted. That is, from the standpoint of the government,
the ruling represents yet another debt-creating event that further
erodes the possibility of improved sovereign credit prospects.
Although several missing elements to the picture prevent a precise estimate
of the fiscal cost of "redollarization" of the deposits, preliminary
estimates can be made in order to reach a conclusion.
In terms of the potential costs involved, the estimate depends on
the universe of deposits that could eventually be affected by the ruling.
At a minimum, calculations may be made based on the stock of time
deposits that were pesified and rescheduled, known as CEDROs.
According to Moody's estimates, the cost to "redollarize" outstanding
CEDROs and revert them to their original dollar value would come to at
least $3 billion. This figure results from comparing the
current dollar value of peso-denominated CEDROs converted at a
market exchange rate of 3.15 pesos to the dollar, with the
original dollar value of the deposits before pesification.
Since, the Argentine banks are not in a position to come up with
the resources required to "redollarize" deposits on their own, the
government would have to provide the backing required. In all likelihood,
the mechanism used to compensate banks would be similar in nature to BODENs,
that is, government bonds that were issued last year to compensate
banks for the asymmetric pesification of assets and liabilities.
A variation on this topic could be that the new "compensation bonds" would
be issued directly and compulsorily to depositors, a feature that
would make them similar to the BONEX plan enacted in the 1990s,
and different in this respect from the BODENs that were exchanged voluntarily
last year for time deposits.
From the sovereign perspective, it makes little difference whether
the new bonds are BODEN-like instruments issued to banks or BONEX-like
instruments issued depositors. In both cases, the impact
on the fiscal accounts would be equivalent and it would result in increased
public sector indebtedness. In terms of the associated fiscal cost,
the amount involved would have only a marginal impact on a public debt-to-GDP
ratio that currently stands at nearly 150% of GDP. By and
large, its significance rests on the fact that it will bring total
government support to the banking system to close to 20% of GDP
With regard to the precise timing of events that will follow, it
is not yet clear what to expect. To begin with, the court
ruling established that the province of San Luis and Banco Nación
have a 60-day period on which to reach an agreement. With
no indication that the outgoing Duhalde administration intends to resolve
this matter before the end of its term, Moody's anticipates that
it will still be on the desk of the next president when he enters office
in late May. Although the ruling sets a judicial precedent,
it does not extend automatically to other depositors. Accordingly,
separate legal processes will have to be initiated and completed before
a resolution is made. Even though a final decision could be delayed
by appeals and court injunctions, Moody's expects that in due time
the precedent set by the ruling will prevail, forcing the government
to face contingent liabilities derived from the "redollarization" of deposits.
In general terms, the Supreme Court's resolution and the events
that have been precipitated by the decision are line with Moody's view
that institutional uncertainty whether legal, political or economic,
remains an enduring feature of Argentina's sovereign credit outlook.
Rating Implications for the Banks
There would be no immediate effect on Moody's global scale ratings for
the Argentine banks, as they already incorporate the risk of "redollarization".
Foreign currency deposits and debt ratings for the banks are at Ca,
the Argentine country ceilings, and the banks are also rated E for
financial strength, the lowest levels assigned by Moody's.
Moody's National Scale Ratings (NSRs) for the Argentine banks also remain
stable, as they are relative rankings within the country that do
not incorporate systemic issues or assess the probability of default.
It should also be noted that Moody's currently has NSRs for only the system's
most important banks. They are also very short term, valid
for only 45 days, and applicable to peso obligations only.
The ratings largely reflect external support considerations, such
as sovereign, provincial, municipal, or private shareholder
In the unlikely event that the banks are ordered to repay "redollarized"
deposits in cash, this would entail much higher losses than they
are currently projecting for 2003 and perhaps create another wave of foreign
bank defections that could force the BCRA to reevaluate its current support
system for the banks. In this case, the absolute NSRs and
relative rankings of the Argentine banks could be affected.
ARGENTINE BANK RATINGS
Bank Foreign Currency Ratings
Bank foreign currency deposit and debt ratings are at Ca, the country
ceilings for Argentina. The ratings also reflect the fact that
the government remains in control of bank deposits because of the need
to control monetary growth. While certain deposit restrictions
have been loosened, the Central Bank has retained the right to keep
a bank from repaying depositors if it still owes funds to BCRA.
Limited access to external funding for refinancing of debt also constrains
bank debt ratings, even though foreign exchange restrictions on
external debt have been lifted. Many of the large banks are also
in the process of restructuring their external debt, however we
would expect them to entail considerable extensions of maturities and
interest rate adjustments.
Financial Strength Ratings
Financial strength ratings for the Argentine banks remain at E since early
2002 reflecting their economic insolvency, illiquidity, and
weak cash flow generating potential (a third year of losses or break-even
performance is expected for most banks in 2003). The system has
been decapitalized in economic terms, while accountingwise,
the banks are reporting positive capital numbers, essentially bolstered
by BODEN compensation schemes and accounting and regulatory forbearance.
All the banks are on some form of life support, depending on the
BCRA for both liquidity and for capital and reserve forbearance.
Government risk represents the bulk of assets, particularly for
the largest banks (70% to 80%).
Jeanne Del Casino
Vice President - Senior Analyst
Financial Institutions Group
Moody's Investors Service
VP - Senior Credit Officer
Financial Institutions Group
Moody's Investors Service