Ecuador drops the money ball: President Correa threatens to stiff banks, pay social debt first

Amidst the spreading global financial crisis, a special debt audit commission released a report on Nov. 20 charging that much of Ecuador's foreign debt was illegitimate or illegal.

“We could not only sanction those who are to blame, but also stop paying the illegitimate debt,” said Ecuadorian President Rafael Correa at a ceremony where he presented the findings of the commission, which he appointed.

The commission recommended that Ecuador default on $3.9 billion in foreign commercial debts — Global Bonds 2012, 2015 and 2030 — the result of debts restructured in 2000 after the country's 1999 default.

Although Ecuador currently has the capacity to pay, dropping oil prices and squeezed credit markets are putting President Rafael Correa's plans to boost spending on education and health care in jeopardy. Correa has pledged to prioritize the “social debt” over debt to foreign creditors.

As of August, Ecuador's total foreign debt was $10.3 billion, or 21 percent of its gross domestic product. Just one-fifth of those bonds were issued to raise money for development, while the rest correspond to refinancing costs, according to Hugo Arias, the debt audit commission's coordinator.

Correa, a U.S.-trained economist, has threatened to default on the debt since he campaigned for the presidency in 2006.

THE CITI GROUP CONNECTION

The commission accused Salomon Smith Barney, now part of Citigroup, of handling the 2000 restructuring without Ecuador's authorization, leading to the application of 10 and 12 percent interest rates. The commission evaluated all commercial, multilateral, government-to-government and domestic debt from 1976 to 2006. Commercial debt, or debt to private banks, made up 44 percent of Ecuador's interest payments in 2007, considerably more than the 27 percent paid to multilateral institutions such as the International Monetary Fund (IMF). But the report also lambasted multilateral debt, saying that many IMF and World Bank loans were used to advance the interests of transnational corporations. Ecuador's military dictatorship (1974-1979) was the first government to lead the country into indebtedness.

The commission found that usurious interest rates were applied for many bonds and that past Ecuadorian governments illegally took on other loans. Debt restructurings consistently forced Ecuador to take on more foreign debt to pay outstanding debt, and often at much higher interest rates. The commission also charged that the U.S. Federal Reserve's late 1970s interest rate hikes constituted a “unilateral” increase in global rates, compounding Ecuador's indebtedness.

If President Correa follows the commission's recommendations — which is far from a certainty — Ecuador could default on some portion of its foreign debt, becoming the first Latin American country to do so since Argentina in 2001.

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