Vulture funds

A letter to the Financial Times

Sir, I write to you with respect to Alan Beattie´s “'Vulture fund' in Zambia debt case gain”, February 16. I might not like it too much if a vulture-fund-manager invited any of my daughters out to celebrate a killing in Zambia debt but, having said that, neither am I so sure that the world would be a better place without the vulture funds.

That some can find opportunities in buying uncollectible loans and squeeze fortunes out of them when others have decided to clean up their books, is just part of the circle of life, and part of the same market mechanism which signals how much, or how little, the loans are worth, since the price of a loan indicates the expectations of collecting on the loan and not the expectations of collecting on a “pardoned” loan. Yes, the vulture funds are into an ugly business, cleaning up among corpses, but, by their sheer presence, they might perhaps even help to reduce the number of corpses.

Most, or perhaps all of the scholar papers on the restructuring of sovereign debt, state as the explicit purpose of the whole exercise, that of enabling the countries to regain access to the international capital markets again (something like the torturer waking up his fainted victim) and so, if you really need to pick on one, you might also choose to do so at that moment in the circle when the new born debt-overhang-ridden countries gets thrown out to start defending itself again from the many dogs-of-finance out there.

There is so much written about freeing up the countries in order for them to access the markets while comparatively so little about how they should go about to avoid repeating the same mistakes that, perhaps, I should even frown when it is a regular investment banker who knocks on my door and asks for my daughter. I mean what is some hundred of percents on some few millions when compared to some basis point on a couple of billions.

The Debt Sustainability Analysis (SDA)

Of course the whole Sustainable Debt Levels (SDL) debate is based on some very good intentions, like not saddling the countries with excessive debts, and finding adequate means by which to allocate the IDA development resources between loans and grants. Nonetheless, when reading the many papers about “Debt Intolerance,” most of them ridiculously obscured by complex econometrics, I felt that the World Bank was focusing on the issue from a totally wrong perspective.

Instead of analyzing the relevant issues such as the credit-absorption capacity of countries and of how their credits could better contribute to growth and repayment capacity, the WB now seemed to be appearing in the role of any investment bankers, worried about how much of their credit products they could push. In doing so I felt that the WB was, unwittingly and unwillingly, lending force to the belief that a debt was OK, as long as it was sustainable. In my mind, there cannot be a road more conducive to debt turning unsustainable, than to award credits just because they are sustainable.

My potpourri of sometimes somewhat repetitive and not always congruous objections included among others:

Addiction

SDL analysis is somewhat similar to calculating a sustainable credit line for a compulsive gambler. What politician (anywhere) would resist the multiple temptations of not using an available “allotment” of sustainable credits? Worse, these levels would still be taken only as a minimum, with nothing to stop the rest of the markets pushing even more loans.

The debate on debt sustainability sometimes sounded to me like debating whether you can smoke one, two or three packages of cigarettes a day before smoking kills you. In my case, after not having smoked one single cigarette in more than ten years—and not one single week goes by without being seriously tempted—I am certain that my own “nonsmoking sustainability level” is an absolute zero cigarettes. With respect to public debt, we know there are governments really hooked on public debt and then perhaps their debt sustainability level should be an equally big zero. As it must be very difficult to free someone from a vice with as much addictive power as credits payable by future generations, it might be safer if the Bank and the Fund recommend cutting the habit altogether, cold-turkey, instead of suggesting a life on the border of sustainable (healthy?) levels of debt consumption.

There are cases were SDL calculations are clearly a very valid and needed starting point, as when they are made in relation to the restructuring of debts. Nonetheless, in those cases, attention needs to be focused more on issues such as the amortization profile of the debt, the lowering of interest costs, and the systems put in place to avoid contracting new general nonpurpose debt.

The true purpose of credits

Let us never forget that if credits are correctly awarded and contracted, the whole concept of “debt sustainability” should be a moot issue. New mediocre credits awarded that have small chances to generate repayment capacity, might very well push a country into unsustainability but it is also very possible that new good credits to a country with excessive debt is the only alternative to get it out of unsustainability.

The WB should not be seen as lowering the bar by accepting the concept of unproductive credits as long as they are within certain limits. Instead, the real challenge is to go back to the basics, making effective use of scarce resources, assuring that new credits are productive and, one way or another, generate their own repayment. If this is not so, then the creditor, rightly, even the WB, should also stand to lose as a creditor.

We have been presented a framework for how these debt-sustainable levels are to be determined but in order to mean anything the framework needs to go much further than just determining whether a country can manage public debt of 40, 50, or 60% of its GNP, or of 100, 150, or 200% of its export earnings. Why is there so little analysis about the real causes of its current debt? And why is there so little effort made to ascertain that those causes are truly remedied?

Every dollar of debt that is not used adequately to advance development eats up a dollar of debt-servicing capacity that could be more productively used. In this respect, the use of available space calculated under this framework as a justification for an “increase in poverty-reducing expenditures” or “to meet their Millennium Development Goals” could perversely induce many low-income countries to fill up their credit space without generating the growth they so much need.

The framework, almost as an afterthought, on a case-by-case basis, even when there is no sustainability room left, contains some wording about the importance of accommodating loans designated for specific high-return projects. In fact, the WB should always be looking for those high-return projects that generate poverty-reducing growth.

Moral hazards

One of the yet unsolved mysteries of the world of Public Finance is how politicians can delicately manage the contradiction that arises from declaring all outstanding old public debt to be evil, while simultaneously preaching the virtues of any new credits to their country.

Declaring a debt as “sustainable” (as opposed to self-repayable credit) implies that the debt will be repaid by those coming afterwards. So it would seem that perhaps those in real need of a voice speaking out on their behalf are the future generations.

There is a tough real-world question begging for an answer: What is better: to reach an unsustainable debt level, to have a crisis and get it out of your system, or to condemn yourself and future generations to living forever under the burden of technically correctly calculated sustainable debt levels?

Rewarding countries that have policies that development experts deem to be of poor quality with a higher proportion of concessionality (meaning more grants, fewer loans) screams out the presence of an immense moral hazard. Although reductions in the overall credit volume might in fact mitigate some of the problems caused by excessive debt, the framework has to be crystal clear about what it means, as there are always many parties interested in what it should not mean.

On thresholds

The Bank cares a lot about keeping high standards in procurement, but, out there, in the real world, there are many debt-pushers who just love the addictions they create. Much debt is contracted by nontransparent means, hidden, either in the darkness of smoky-room negotiations or in the technical financial sophistications that make it impossible for any mortal to understand what is going on, especially with so little intelligible data available to their mortal citizens. Odious debt? Yes, there is a lot, but let us not forget that for every penny of odious debt that exists, there is an almost penny by penny match of odious credit. I have written about Odious Debt and about Odious Credits; perhaps it is time for me to write about Odious Thresholds.

Begging for humility

Most of the documents coming out from the Debt Sustainability Analysis (DSA) correctly state that the conclusions should at best serve as rough guidance and indicative guideposts. Nonetheless by including so many references to strong empirical evidence, robustness, and strong analytical underpinnings, they end up anyhow overstating its validity.

The case for more humility and lower expectations with respect to the reliability of the DSA is laid out with crude clarity by the United States General Accounting Office (GAO) in its study of the IMF’s capacity to predict crisis, published in June 2003 (SecM2003-0306). In it, GAO states, among other things, that of 134 recessions occurring between 1991 and 2001, IMF was able to forecast correctly only 11 percent of them, and that it was similarly bad in forecasting current accounts results. Moreover, when using their Early Warning Systems Models (EWS), in 80 percent of the cases where a crisis over the next 24 months was predicted by IMF no crisis occurred. Furthermore, in about 9 percent of the cases where no crisis was predicted, there was a crisis.

Domestic debt

Frequently, just because of the lack of adequate data, there are proposals to disconnect the DSA from the analysis of the domestic debt, an idea which is just plain crazy. There is no way on earth that you can argue, or justify, that a debt-sustainability framework can be developed exclusively for the external public debt of a country, ignoring the domestic.

I guess the above is another prime example of what can happen when we allow the econometrists an excessive influence. Oh we cannot get data? Do not let that stop us! In their desperation, I even heard some of the number-masseurs put forward the weird argument that the assessment of, and the response to, domestic debt in low-income countries, although critical, did not lend itself to a threshold approach. Weird, because they did not seem to notice that, if true, this should cast doubts over the whole DSA framework itself.

Crowding out the private sector

Considering the importance given by the WB to the private sector as a development agent, I was always upset to find so few and sparse references in the DSA to the issue of how public debt crowds out of the private sector from the credit markets. From my point of view, one of the main determinants when calculating debt sustainability should be this factor and indeed if the DSA decrees as untenable any public credit that raises the cost of private debt more than x number of basis points, I might have reacted quite differently to the debate.

Currently defining a country’s debt sustainability in terms of how much public debt it can have before risking default sounds to me like setting the bar unbearably high, since long before that happens, the private sector is probably already long gone.

As a sort of consolation I read somewhere that we Directors had agreed that private external debt was potentially less troublesome than public debt, but this is of course a far cry from declaring as an absolute development need that the private sector should have competitive access to external debt.

Of course there are traders and investors who do have a particular interest in the probability of sovereign risk defaults but, in fact, most ordinary citizens and entrepreneurs are much more interested in making sure that the public debt does not crowd out their own opportunities of accessing credits on reasonable terms and costs. Of course, the Bank and the Fund must know with whom they should team up.

Public debt could sometimes be described as financial emphysema inasmuch as it makes it harder for the private economy to breathe properly. In some cases the secondary hazards produced by public-sector debts, might be so large that they should perhaps be entirely prohibited.

Credit Ratings?

Some of the data and conclusions coming out from the DSA are supposed to be made transparently public, as they indeed should be—to all the market. We have also been told that this information will not develop into a sort of credit-rating system but it is hard to understand why this would not happen. In this respect, the Bank needs to understand better the reactions of the market, because it might very well happen that when the Bank proposes more concessions in response to a low-debt sustainability, other market players might respond by asking for higher interest or shorter repayment terms, so as to make up for the higher risks announced by the Knowledge Bank.

Why consensus?

While we appreciate the worth of a diversity of opinions, I cannot understand how at the same time we give such great importance to having a consensus of opinion between the Bank and the Fund. For instance, on the issue of banking regulations, I have frequently warned that the mentality of a Central Bank regulator who pursues with zealous fervor the avoidance of a crisis, at any cost may lead to the exclusion of other key objectives of a financial system, such as generating growth and distributing income. In this respect, we might on the contrary need the Bank to differ outspokenly from the Fund.

Costs and efforts

Currently there is a lot of frantic activity analyzing debt sustainability, mainly in the Fund. If we add up all the resources used, we might come up with quite an impressive figure, and it would be a shame if all those efforts came to naught just because of a lack of focus. Whatever you do, please rein in all those econometricians who with little or no ideas about debt are having the time of their life, having been given a license to regress on whatever variable they can imagine.

Development

Grants or loans? Neither! Just more open markets, let us trade, in all services as well, and let us do business.

A word of caution about Financial Leverage

If a project is expected to produce 10% in returns and an investor can borrow half of the funds needed at 8% then, on his own investments, he will make 12%. That’s why financial leverage is considered a good thing. Of course if the project then only makes 6% for the investor, as he still has to pay all the interest on the loans, he will see his return drop to 4% and that’s is why financial leverage has risks.

Mixing your capital and debts in such a way as to extract the highest possible profit for a certain level of risk is basically what finance is all about. As good and useful as financial leverage can be for the private sector, its application for the public sector though is far from that straightforward.

The main problem with financial leverage in the public sector is that there is a gap too wide between the immediate beneficiaries and the final payers of the risk. If a private investor does badly he will normally pay for it himself shortly, sometimes even before the investment has taken place, as there are stock markets that evaluate his investment decisions in a flash. However, if it is the public sector, the payee of any loss is an anonymous next generation of citizens or, at the earliest, the next government. When you can reap all the goodies today and have someone else pay for them tomorrow we must know that the stage is set for committing huge mistakes.

That is why I get so angry when financial professionals so haphazardly extol the virtues of debt and believe them applicable across the board.

Extracted from my Voice and Noise

This was detonated by an article published 2003 in El Universal, Caracas: It ended with: 

"Unfortunately, politicians, while condemning past debts, have mastered the magic of simultaneously preaching the benefits of new credits."

And here my first Op-Ed on this topic

PS. We citizens need ethic ratings more than credit ratings 

Basel is just a mutual admiration club of firefighters seeking to avoid a crisis

Published in FT November 18, 2004 The link is gone!

Sir, If a citizen from a developed country wishes to obtain finance from his local bank to buy a pricey retirement home in his local overheated market, then Basel poses no problem.

But should he want to buy a much more affordable home in a developing country and have his bank finance him, then Basel slaps such capital reserve requirements on the bank as to make it an impossibly onerous proposition.

This is just one way by which our bank supervisors in Basel are unwittingly controlling the capital flows in the world.

We also wonder in how many Basel propositions it will take before they start realizing the damage they are doing by favoring so much bank lending to the public sector. In some developing countries, access to credit for the private sector is all but gone, and the banks are up to the hilt in public credits.

Please, help us get some diversity of thinking to Basel urgently; at the moment it is just a mutual admiration club of firefighters trying to avoid bank crisis at any cost - even at the cost of growth.

Odious Credit

I recently wrote about odious foreign public debt, that debt about which there is a current debate in the world as to whether it can be legally repudiated if it is taken on by illegitimate governments or for illegitimate ends. The other side of the coin is odious credit. Please don’t think I’m against banks—quite the opposite. But I respect the role of the financial middlemen too highly to keep quiet when they are not doing their job right. In 1981, the representative of a foreign bank in Venezuela showed me a letter in which his boss instructed him to “give credit to the INAVI, Venezuela’s National Housing Institute. It’s the worst public institution, which means that it pays us the highest rate and, as you know, in the end it’s just as public as the best of them and Venezuela will have to pay up just the same.” Odious credit, isn’t it?

The first thing a good banker should ask a client applying for a loan is what is it for and if the answer is not satisfactory he should reject the application, regardless of the guarantees offered. Simple plain-vanilla fraud of the Parmalat kind will always exist, but the asinine way all their creditors fell into the trap makes one suspect that this is only the first case of systemic risk in the banking system: tempted by the regulators in Basel, banks subordinate their own criteria to those dictated by auditors and credit raters. This development, bad in itself, is even more serious in the case of public credit, where the what it’s for is being replaced by how much can be carried, perversely derived by calculating the level of sustainable public debt.

When I call for the total elimination of foreign public debt (which is feasible and would not require huge sacrifices in an oil rich land like Venezuela) my colleagues often argue that a certain level of debt is good and necessary for the country. This does not convince me, since it makes debt sound like electricity that must be kept at a certain voltage. Because public debt must always be paid back, regardless of whether anybody ever knew what or whom it was for, I’m fighting for the day when the private sector in Venezuela can return to the markets, freely, without having to carry that huge monkey—foreign public debt—on its back.

In my opinion, the Benemérito (the dictator Juan Vicente Gómez (1864–1935) who ruled the country between 1908 and 1935) deserved great credit for ridding Venezuela of her foreign debts He certainly knew that to shake off that vice more than patches or pieces of chewing gum are needed.

From El Universal, Caracas, April 22, 2004

Odious Debt

The following is a translation of "Deuda odiosa" an Op-Ed published in El Universal, Caracas Venezuela March 25, 2004

Odious Debt

One of my recent articles, which focused on the need to protect the environment, concluded by recalling the ancient proverb, “We have not inherited the world from our parents; we have borrowed it from our children.” On that occasion, as always, I thought about Venezuela and I knew that, as borrowers from our children, we have acted like veritable pigs. Not only have we extracted our country’s oil without putting it to much good use, we’ve even mortgaged its future in the process.

Some countries may be in need of foreign loans to get on their feet, but here in Venezuela we ought to know by now that our foreign public debt, be it the debt of yesterday, today, or tomorrow, only serves to fasten us all the more securely to a sinking ship. Foreign public debt is a monstrous obstacle. It keeps our citizens from getting loans (or at least makes loans much more expensive) that could indeed lead to growth in the country and allow the government to satisfy social needs through taxation.

Our only salvation is to learn how to resist the lure of the eternal sirens’ song, which goes “foreign debt taken on by the previous administrations is evil and good for nothing, but rest assured, with us, everything’s going to be different.” How do we—like the ancient Odysseus—tie ourselves to the mast?

There are those, in similar desperation, who argue that since our creditors were accomplices of those administrations, we shouldn’t pay our debts to them. I accept the theory of complicity, at least on the part of the intermediaries, but I think we should punish them much more harshly, by canceling the entire debt and never again taking out another loan.

What can ordinary citizens do who want to and have to go about their daily lives and can’t be continually overseeing the government? The same as any company: they can refuse to provide their management with authorization for contracting debts. Along these lines, a doctrine is now being discussed in the world according to which, if the debt was contracted by an illegitimate government, or for uses that were clearly of no benefit to the country said debt could be declared odious and, as such, would not be legally demandable.

Dear friends, if we are going to do right by our children, our grandchildren, and our great grandchildren, and return the country we borrowed from them in good shape, maybe we should take advantage of such a possibility and declare our foreign public debt eternally odious. Given that threat: Would creditors dare provide us with loans? What would the credit-rating agencies say? Or let us be even more clear about the message and amend our constitution to say that the government of Venezuela has no authority to borrow from foreign sources, that any attempt to do so is illegal, and hence that all such illegal debts will not be repaid. That should stop foreigners from lending us money!

It was followed up by "Crédito odioso", an Op-Ed published in El Universal, Caracas Venezuela April 22, 2004.  "Odious credit"

US GAO Report on IMF’s ability to Anticipate, Prevent, and Resolve Financial Crises.

Dear Colleagues,

Last week, our Corporate Secretariat sent us a document dated June 26, 2003, titled U. S. General Accounting Office: International Financial Crisis … Challenges Remain in IMF’s ability to Anticipate, Prevent, and Resolve Financial Crises.

It is an extraordinary document, as within the context of “According to World Bank estimates, the financial costs to countries that experienced crisis in the 1980s and 1990s exceeded $1 trillion—greater than the total amount of all donors’ assistance to developing countries,” it puts forward statements such as:

“During the 1991–2001 forecast periods, 134 recessions occurred in all 87 emerging market countries. We found that the WEO (World Economic Outlook) correctly forecasted only 15, or 11 percent, of those recessions, while predicting an increase in GDP in the other 119 actual recessions.”

“Our analysis for the 87 emerging countries shows that, for more than 75 percent of the countries, the WEO current account forecasts were less accurate than if the Fund had simply assumed that the next year’s current account would be the same as this year’s. The results are even more dramatic for G7 countries: a forecast of no change was a better predictor than the WEO forecast for six of the seven countries. This demonstrates that, even in stable economies with excellent data, the WEO has done a poor job of forecasting this key crisis anticipation variable.”

“Internal assessment of the Fund’s EWS (Early Warning System) models shows that they are weak predictors of actual crisis. The models’ most significant limitation is that they have high false-alarm rates. In about 80 percent of the cases where a crisis was predicted over the next 24 months, no crisis occurred. Furthermore, in about 9 percent of the cases where no crisis was predicted, there was a crisis.”

I find that the document, presented not by any unknown NGO but by an important official entity of the United States, raises some very serious questions that we cannot, and should not, ignore.

In any normal private environment, unless the forecasters were sons of the founders, they would have been fired. In institutions such as the IMF that predicate accountability, has this ever occurred?

With such an amazingly lousy track record, would the Bank be better served by assuming a contrarian strategy in terms of getting in when IMF announces crisis?

Does IMF’s lackluster performance suggest the need for reviewing the risks of delegating so much authority in today’s financial markets to perhaps equally fallible credit-rating agencies?

Yesterday, we had a Steering Committee and, to my surprise, I did not see even a small informal session planned for the discussion of this document. I can perfectly understand the need of solidarity with institutions such as IMF, but it has to have its boundaries especially as our solidarity with the countries and the poor has to be in the forefront.

The world will take this document in its hand and, once it really comprehends that it is reading what it is reading, suddenly very serious questions could be asked.

Finally, the report includes on its cover the legend: “This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank Group authorization.” As its whole contents, and much more, can easily be found on the GAO’s Web page, I wonder whether we are not better served by including the confidentiality clause only when it is truly confidential, at least in these times of transparency.

Per

Extracted from "Voice and Noise" 2006 

An Unsustainable Sustainability

The latest fashion in the academic world of international finance is to calculate what is known as the Sustainable Debt Level (SDL). As you may have guessed, it has to do with the level of public debt a country can sustain without entering into a crisis. Normally the SDL is calculated based on the size of the economy (GNP) or on a country’s exports.

Whatever scientific approach is given to the SDL issue, it sure seems somewhat obscene to the citizenry of countries where it is evident that public debt engenders low or even no productivity.

If a credit is granted properly, the credit is repaid and then debt levels never become a problem. It is only the bad or mediocre loans that accumulate—those that do not generate their own repayment. So it could be said that what is really being calculated with the SDL is the level of bad debt that a country can get saddled with. Quite frankly, a developing country with real needs cannot afford the luxury of canceling even one cent in interest on a debt level arising from a series of credits that are nonproductive on the average.

From this perspective and since what we really mean is sustaining something that is unsustainable, this question remains: wouldn’t it be better to skip calculating this debt level and try to free ourselves once and for all from these mortgages, instead of condemning future generations to live forever under the weight of an SDL that has been perfectly calculated? How much torture can the torture victim take before passing out?

And who encouraged these countries to go into debt? Ask those who are well-acquainted with the temptation that credits pose to politicians. In China, they say that you wish for your enemies to live in interesting times. In Argentina, because of the suffering provoked by excessive debt, it would seem that what their enemies could have wished upon them was the trust and confidence of international markets.

On the day that our country Venezuela firmly and irrevocably sets upon the path of totally canceling its debt, on this day an enormous opportunity will open for all those private and collective initiatives that need financial oxygen. Unfortunately it will not be easy, since our politicians, while condemning past debts, have mastered the magic of simultaneously preaching the benefits of new credits.

From El Universal, Caracas, June 5, 2003
As translated in my "Voice and Noise" of 2006

And this article lead me here:

The financial handicap

In horse racing, to try to equalize the chances of victory among the competitors, the handicap system is frequently used, which implies putting a greater weight on the horses, which have shown a greater ability to win. The world of finance is not so benevolent, there more weight is imposed on those who, according to the market, have fewer prospects... present greater risk.

Every morning when a Venezuelan goes out to build his future and that of his Homeland, whether he is a public or private servant, he carries on his shoulders the weight of the country risk (CR) that the financial markets have set that day. That CR, which in principle is calculated based on how much more interest the market requires for Venezuela's external public debt, compared to a similar one in the United States, is currently located at 11% - 14%.

CR affects not only the public sector, but permeates the entire economy. Effectively, we see, for example, a private person who wishes to contract external debt and if he does not have external guarantees to offer, he must pay his normal interest rate, plus the CR. In terms of public service rates, the models indicate the need to reward the investor with a normal profit margin, plus the CR.

A high CR is economic contamination, which covers everything and prevents breathing normally. If Venezuela wants to recover from this economic emphysema, there is no better way than to reduce the CR fast and considerably.

Obviously, CR has many causes and many origins, but the main one is generally related to the ability to service the country's public debt.

In this sense, I guarantee you that if we only manage to spread the amortization of our public debt over a much longer term and guarantee to the market that this is not done to increase it later, due to its relatively modest size, we could quickly achieve that our debt was classified as investment grade, which would reduce the CR considerably.

All it takes is a little will and drive. If the discordant parties insist on preferring to fight suffocated and short of breath, then so be it. However, I am convinced that the oxygen that reducing the CR would produce would benefit both the Government and the opposition, not to mention the rest of our country, which needs and deserves it so much.

Translated from El Universal

The Riskiness of Country Risk

How horrible it must be to work as an air-traffic controller! Any slight error can provoke an unimaginable human tragedy. No wonder these professionals burn out so rapidly. I “suppose” the same must happen with the country-risk assessors, those people who carefully pass judgment as to what the country risk is for any given nation.

The all-important mission of these risk evaluators is twofold. The first that for which they are actually paid consists of analyzing whether or not the debtor nation will ultimately be able to honor its obligations. This determines whether or not pension funds, banks, and insurance companies will be willing, or even allowed, to invest in that country’s sovereign debt instruments. The second, even more important than the first, is to send subtle signals to the governments of these nations in order to help them improve their performance.

What a difficult job this is! If they overdo it and underestimate the risk of a given country, the latter will most assuredly be inundated with fresh loans and will be leveraged to the hilt. The result will be a serious wave of adjustments sometime down the line. If on the contrary, they exaggerate the country’s risk level, it can only result in a reduction in the market value of the national debt, increasing interest expense and making access to international financial markets difficult. The initial mistake will unfortunately turn out to be true, a self-fulfilling prophecy. Any which way, either extreme will cause hunger and human misery.

What a nightmare it must be to be risk evaluator! Imagine trying to get some shuteye while lying awake in bed thinking that any moment one of those judges, those with the global reach that have a say in anything and everything, determinates that a country has become essentially bankrupt due to your mistake, and then drags you kicking and screaming before an International Court, accused of violating human rights. If I were to be in the position of evaluating country risk, I would insure that the process is totally transparent, even though this takes away some of the shine of the profession and obligates me to sacrifice some of my personal market value.

How lucky we are that we are neither air-traffic controllers nor sovereign-risk evaluators! However, since we can easily become victims of their missteps, it behooves us, if only because of our survival instinct, to make sure that both do their jobs correctly.

We have seen in recent Country Reports how, after having introduced a myriad of information into the black box of methodology, as if by magic, a credit qualification is produced. Many of these reports seem to me like the pronouncements of film critics. It would seem that, more often than not, the individual evaluator is determining more how much he likes the ways or forms the Directors of a nation try to honor its obligations than on producing an honest and profound financial analysis of the country’s capacity for servicing its debt correctly.

In his book The Future of Ideas: The Fate of the Commons in a Connected World (New York: Random House, 2001), Lawrence Lessig maintains that an era is identified not so much by what is debated, but by what is actually accepted as true and so is not debated at all. In this sense, given the risk that the perceived country risk actually becomes the real country risk, it is best not to assign an AAA rating blithely to the risk qualifiers—perhaps not even a two-thumbs-up.

El Universal, Caracas, September 26, 2002

Daily Journal, Caracas, September 27, 2002

Included in "Voice and Noise" May 2006.

About bad trust and good distrust

About bad trust and good distrust 

Once again, the international financial classification agencies are speaking out about Venezuela and everyone is trembling. Its results constitute for many foreigners and, unfortunately, also for some Venezuelans, a primary source of information about the country. The debate on concepts, such as trust and international capital mobility, begins again. I take this opportunity to present again some evidence, reflections and conclusions in this regard.

Evidence 1: There is no doubt that the vast majority of actors in the short-term speculative capital market respond, to all types of events, like a stampeding herd of buffaloes, entering or leaving a country. The above causes high volatility in these funds, which are correctly called swallow capitals.

Reflection 1: As in so many other fields, in finance, the rule also governs that errors committed by many of the participants and therefore shared, are forgiven, while those, committed alone, are punished. As a result of this, the professionals who manage these funds and who wish to save their own professional prestige will be prone to go with the flow, that is, their actions will obey more to fashionable financial criteria and not to what may be indicated. your own experience or instinct.

Conclusion 1: According to the above, it is perfectly irrelevant that professionals are “geniuses”, since other reasons guide their actions.

Evidence 2: The global debt crisis of 1982 caught many bankers with their pants down, indecently exposing huge amounts of bad loans. More recently, we can name the obvious errors contained in the reports on Asia 18 months ago.

Reflection 2: I remember my astonishment at the reverence with which, in 1983, the “qualified” opinions of those same bankers, who had so recently demonstrated the limitations of their genius, were heard. The same thing happens today. Could it be that the human need to seek order in the world drives us to attribute magical knowledge to a group, which they brazenly exploit?

Conclusion 2: The truth is that the world is very naive when it places a good part of its economic destiny in the hands of people with “such a good resume” but such a “bad track record.”

Evidence 3: The volumes of swallow capital present in the market are gigantic, when compared with the economic magnitudes of many countries, which is why they can cause great havoc.

Reflection 3: Given the magnitude and volatility of these funds, it is expected that the main damage will occur at the entrance and exit doors, where it would be logical to anticipate a certain crowding.

Conclusion 3: Knowing the existence of quite successful methods (Chile), to manage, in a somewhat more orderly manner, the entry and exit of these funds to the country, the fact that nothing similar has been developed in Venezuela, It is another evidence of the government's apathy that punishes us.

Evidence 4: Economic decisions made by long-term investors, both foreign and domestic, take time to execute. For example, the decision to open a factory or to build a hotel or to plant a forest is not made overnight. On the contrary, swallow capitals react in seconds, via purchase and sale orders and electronic transfers. Its economic impact is, therefore, much more immediate and explosive.

Reflection 4: I believe that the most important economic signals for a country emanate from long-term actors, such as the hotelier from Cumaná, the rice farmer from Calabozo and the industrialist from Guacara. However, the urgency and immediacy represented by the pressures of the swallow capitals probably means that the latter manage to attract too much of the attention of the economic authorities.

Conclusion 4: As long as the economy (and politics) obeys, to a greater degree, the young man with gelled hair and suspenders who rules the short term, ignoring long-term signals, the path to economic disaster will remain clear of obstacles

Evidence 5: Venezuela has received an extraordinary amount of resources over the last 25 years, in the short and long term, and they have been of no use. Venezuela, in recent years, has received important long-term funds and they have not been of much use either.

Reflection 5: If we do not know how to manage the resources granted in the long term, what are we doing trying to attract short-term resources?

Conclusion 5: As long as a viable economic development model and a government system that inspires confidence have not been established, the country should not be interested in swallow capital at all, even if it has an efficient gatekeeper to regulate the entry and exit.

Evidence 6: “Credit rating” agencies, despite being used by many diverse actors, such as banking and insurance regulatory entities, with long-term interests, in reality, work mainly for bankers and investors who wish to take liquid positions at short term.

Reflection 6: For someone interested in the long term, for example, a young citizen, the opinions of a “credit rating” agency can be quite irrelevant. Also, know that not every expression of distrust produces bad results.

Consolation 1: Venezuela, in recent years, has not been subject to an invasion of swallow capital as large as it could have been. Imagine the chaos that would occur if some $20 billion of hot money had entered the country and today they were anxiously seeking its way out. The interest rates needed to contain such a herd would have to exceed four digits.

Consolation 2: Do you remember the story of the anguished debtor who finds sleep when with “I can't pay you” he transfers his insomnia to the banker? In our case, something similar happens. When the Venezuelan score goes down, personally, I sleep better, safe in the knowledge that they will not be giving so many resources, on behalf of myself, my daughters and future descendants, to governments that insist on wasting them.

Conclusion 6: The day our governments (during non-electoral times) pay more attention to the opinion of their humble subjects, instead of the opinion of the glamorous international agencies, that day we will have a greater chance of getting out of this situation of ours. , which I can only classify and, forgive my English, as a “standard moody and poor”.

https://perkurowski.blogspot.com/1998/02/speaking-about-trust-and-distrust.html

https://radicaldelmedio.blogspot.com/1998/10/sobre-confianza-mala-y-desconfianza.html

The Bad Habit Of External Public Debt

I am amongst those who believe that one of the most important reforms we can bequeath to future generations of Venezuelans would be that of forcing the country to begin a gradual but real amortization of its external public debt. When the latter reaches zero, we should then constitutionally prohibit new indebtedness.

I consider this perfectly justifiable due to a) the dreadful experience we have had in the past with our public debt; b) the fact that even the slightest improvement in the country’s economic climate incites the international financial sector to press more loans into our hands; and c) the fact that it must be very difficult for our leaders to resist the temptation of reaching out for those new resources.

The arguments are simple and unsophisticated. As such, they are of little help in the battle against the thesis, universally accepted, that foreign debt is absolutely necessary in order to maximize the development of a nation. This thesis is even considered applicable in countries like Venezuela, which receive resources from sources other than debt that amply surpass its capacity to digest them efficiently.

I obviously believe in access by the private sector to the international capital markets. If there were no public external debt, the market conditions in Venezuela would be very different from those we have today. Today’s conditions could be summarized as being 3% over a country risk factor of 20%. It is difficult to take on debt in Bolívares at 70% interest even when there is the “hope” that inflation or devaluation will erode the real cost of the debt. It is virtually impossible to contemplate debt in Dollars at 23% interest when taking into account that inflation in the United States is somewhere around 2% per annum and the world threatens to hit us with recession.

Today, every politician agrees with the thesis that we should shrink the size of the public sector and reduce the number of public employees. The majority of them are in favor of the “bit-by-bit” method, arguing that these layoffs should be implemented only when the private sector creates the offsetting job opportunities. The classic case of the chicken or the egg!

The private sector will only be able to be the motor of development when the mortgage of the external private debt that indirectly taxes its activities is removed. We cannot expect the help of banks and the international financial entities with this task. For decades, we have heard their calls for the reduction of the public sector while, with the same breath, they request the Republic’s guarantees in order to lend resources to the private sector.

One of the main worries the common Venezuelan citizen harbors is that solutions to the mismanagement of our current public debt, such as the partial sale of PDVSA or Citgo, will only contribute to the continuation of the orgy of bad administration of the State. I am sure that if we managed to implement a credible constitutional prohibition that will assure the population that our national debt crisis will not be repeated, it would be possible to reach a consensus.

The key word, of course, is “credible”. If we have learned anything from our past experience with modern democracies, it is that they have an immense capacity of altering their course in order to satisfy short term aims. Today we may applaud the prohibition mentioned above. Tomorrow they would probably look for our applause to lift the same prohibition.

A proposal such as this one, evidently has many natural enemies. On top of our leaders that like to win votes by using easy money, we also find the bankers that wish to place their resources, easily, with high yields and with “safety”.

When we say “safety” we mean that in our unreal world, a banker that lends funds to a private sector company that then goes broke due to the government’s erroneous policies puts his job at risk while the banker that only lends to the government, thereby abetting those very same policies, normally does so without risking his personal hide.

There are other enemies, not necessarily natural ones. These maintain that is in unpatriotic to limit the State’s attributions. These enemies can be recognized by the ease with which they maintain in the same breath that the actual debt is bad but that future debt is good. We remind these people that to govern while recognizing human failings and thereby avoiding further damage cannot possibly be unpatriotic.

To continue to believe egoistically that the next government, or the one after that, will not repeat the same errors is surely treason. If there is one nation in the world that can attest to this fact, it is Venezuela. The immense resources from the country’s oil production has not contributed much to the country. Certainly, the debt it has contracted has not contributed at all.

Speaking about trust and distrust

International financial risk rating entities are once again issuing their results for Venezuela. And once again, everyone begins to tremble. There is confidence! Ooops, there is no confidence! The debate is once again on the table and I take advantage of this to share some of my reflections on this issue with the readers.

It could be that I am not exact in my appreciation, but then again, when dealing with something as subjective as confidence, it shouldn’t really make much difference. In 1982, the then Minister of Finance decided that the country should be paying interest rates well below those being required by the international banking community in order to renegotiate part of Venezuela’s foreign debt. This decision blocked the restructuring of our foreign debt and together with the crisis in Mexico and other indebted nations combined to unleash the events which resulted in the devaluation of Black Friday of February 1983.

Obviously, the Minister was severely criticized. I considered this criticism to be unjust since, as far as I was concerned, the Minister was in reality a hero of the nation; almost enough so as to merit a statue in some important plaza. In my opinion, his actions, which generated international distrust, saved the country from billions of dollars in debt, which would have bloated the amounts actually accounted for after the disaster. Few heroes can be proven to have undertaken such important deeds for the good of the nation.

In reality, to inspire confidence in others should be of no concern for the country, while it has not been able to find or generate an economic and administrative model which inspires the confidence of its own people. Trying to do so simply confuses the search for in depth solutions. 

In addition, the persons for whom instruments of measurement are designed do not include those foreigners whose confidence we really seek. Rating agencies rank a country’s measure, principally the latter’s ability to service its debt. As such, their market is comprised of bankers and investors who simply wish to make a short-term financial investment. Nothing of special importance to the country.

Those foreigners who could really interest us are the ones who come to the country with resources, the ones with the intention of remaining here for the long-term, to put up factories, cultivate the land, generate employment and maybe even raise a Venezuelan family. That is to say, the one whose objectives are one and the same as those of the nation. The opinions and confidence of these people are not measured at all.

In addition, both the methods and measuring instruments as well as the professionals actually doing the measuring, probably continue to be the same. They are the same ones that not very long ago argued that it was impossible for a country to be bankrupt, thereby justifying stratospheric limits for indebtedness with such enthusiasm that both bankers (who by the way proved to be unprofessional in most cases) and the common Venezuelan, upon hearing this siren song, joined forces and created the mix-up of the century.

For those of you who may have any doubts about this, I suggest you look at the ranking of six months ago. In those listings, the majority of the Asian countries looked like nothing short of marvel of creation. Haven’t you recently heard all of the crying over the Asian financial crisis?

We must evidently listen to the opinions of the credit agencies. Their measurements reflect many variables of great importance for the well being of the country. Unfortunately they also are the principal source of information about the country for many foreigners. In other words, to lie awake at night worrying about ranking doesn’t make sense.

You may remember the story about the anguished debtor who could not sleep, but found a way of finally getting a night’s rest by transferring his insomnia to his banker with the simple words “I can’t pay you”. In this case, something similar occurs. I personally sleep better when Venezuela’s ranking goes down, since I am then sure that lenders will not be making additional resources available (in my name as well as in the name of my children, grandchildren, great-grandchildren and other future debtors) to governments that insist on misspending them.

The day the government, during electoral period, pays more attention to the opinions of its humble subjects than to those of the glamorous international [credit rating] agencies, we will finally stand a chance of making it out of our standard situation. The latter, according to all international norms I know of, can be objectively classified simply as “poor and moody”