It must be good to be Vladimir Putin, president of Russia. When your country is broke, you can deman...
It must be good to be Vladimir Putin, president of Russia. When your country is broke, you can demand money from the Western nations and the International Monetary Fund. And when your country isn't broke, you can threaten to refuse paying your debts because now you don't need their financial aid. That is precisely Putin's strategy for dealing with the Paris Club, a group of sovereign creditors to whom Russia owes $48bn. Most of this money comes from debts incurred under the old Soviet Union. Forty percent of the total is owed to Germany.
Recently, Russia threatened to withhold its payment to the Paris Club for the 2001 first quarter in a display of defiance. Russian Prime Minister Mikhail Kasyanov seems to think this is a good way to win forgiveness of the debt, or a good portion of it.
The backdrop to this debt standoff is that Russia's economy has begun to grow. The country experienced 7% growth last year and had strong export earnings. It didn't take long for the Putin administration to realise that this new found prosperity could be used as a negotiating tactic.
The logic goes like this: now that Russia is getting back on its feet, and its need for further Western assistance is less acute, it's the perfect time to stiff the Paris Club. Now is this any way for an emerging-market debtor to behave? You bet it is borrow when you are broke, and if you get further in the hole, borrow some more. Don't worry, because there are plenty of chump nations out there plus the IMF to gladly give up the cash. And then for the payoff: if you start to return to good health, argue for debt forgiveness by threatening to default.
There is one other trick. Along the way, you might offer your creditors an equity swap. You get debt relief and they get some kind of equity interest in some state-controlled enterprises in your country. In fact, that is what Kasyanov tried to persuade German Chancellor Gerhard Schroeder to accept last month. Fortunately, he seems aware it's a ruse.
The curse of being an investor in Russia is that your property rights are extremely fragile, if they exist at all. The value of your holdings might be immense one day and worthless the next, because overnight, the government did a deal or executed a restructuring plan, or raised your taxes or cancelled some important license. As an outsider, you are powerless.
So the moral of the story is simple. Don't lend money to nations or people that see no reason why they should have to repay. An exception might be a case in which you can get your hands on some good collateral. Sovereign nations, though, aren't used to the indignities that the private sector faces.
Of course, you might think a country such as Russia must realise it will be held accountable. What about the next time it needs money? No problem not when the major international financial powers are debating debt relief and debt forgiveness for emerging markets. Isn't it logical for the Russians to demand their share?
The premise behind a sovereign debt issue is that the government intends to honour its debts. It backs this with its ability to gather taxes from its citizens. But that means nothing if the sovereign doesn't want to repay or sees a way to cheat.
But it goes both ways. The problem with the Paris Club is that nobody in the group has the guts to make an example of a deadbeat sovereign debtor.
David DeRosa in the Bloomberg New York newsroom
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