Ecuador declares default on foreign bond debt, sets off speculation about the fall-out

President Rafael Correa's decision to default on foreign bond payments has set off a debate over the consequences as well as speculation that other Latin American countries will follow Ecuador's lead. In his Friday decision, Correa vowed to fight "monster" debt-holders in court in one of most aggressive moves against investors in the region in many years. 

Correa, a U.S.-trained economist and avowed socialist, refused to make a $31 million interest payment due on Monday on 2012 global bonds, saying the debt was contracted illegally by a previous administration. "I gave the order not to pay the interest and to go into default," Correa said. "We know very well who we are up against — real monsters."

"If we have to face international litigation due to this, we will," he added at a news conference in the OPEC nation's largest city of Guayaquil. The default is unlikely to have a knock-on effect in other Latin American countries' debt policies even if some, such as Venezuela, have pledged to investigate any irregularities in their own debt, Wall St. economists said.

Retired Quito attorney Ron VanDercreek says he finds it curious that the strongest reaction to Correa's announcement comes from the U.S. "First, I have to say that I disagree totally with Correa's decision. Ecuador can afford to pay its debt even though most of it was incurred by corrupt governments."

"Beyond that," VanDercreek says, "I have to admit that I get some amusement from the U.S. experts who are hot and bothered by all this. I mean, here are the guys who walked in lock-step with the Clinton – Greenspan – Bush prescription for disaster who are complaining the loudest about our problems. Their own country is teetering on the brink of disaster and they are calling Correa idiotic and Ecuador a banana republic. These guys dropped the ball in making the call in their own backyard and now they want to lecture a little Latin American country? It's true, we are a banana republic, but I suggest that that term may apply more aptly today to our big brother to the north."  

Correa, who had often threatened to default, will offer bond-holders a tough restructuring deal. Last month, Ricardo Patino, a top debt adviser to Correa, said investors should expect a reduction of more than 60 percent in the nominal value of the global paper in any negotiations. Ecuador will for now keep servicing debt of about $5.8 billion owed to multilateral organizations and other countries, Patino, the minister for politics, said. But Patino, who was on a trip to the United States to make Ecuador's case that much of its debt is illegal, did not rule out stopping such payments.

Although the default decision comes against the backdrop of a global financial crisis, Ecuador received record income from oil exports for much of the year and has enough funds to make the payment. Correa's policy is driven by ideological rejection of such debt deals, according to economists.

Correa, whose political slogan is "life before debt," is popular among Ecuadoreans for his stance against investors. He has already forced foreign companies to change contract terms in the oil and mining industries and ejected a major Brazilian building company in a dispute over a dam construction as he seeks to increase state income. 

But the default is his harshest move in almost two years in office and is in keeping with a shift toward confrontation in the region between leftist governments and foreign investors. The default will likely lead to drawn-out investor lawsuits against Ecuador, further close off credit lines to the oil- and banana-exporting nation and cause foreign investment into areas such as mining to dry up.

According to VanDercreek, Ecuador will suffer short-term damage. "It's inevitable that there will be some pain but given the current international crisis it probably won't be as bad as it would have been a year or two ago. It definitely won't be what it was in 2000 and 2001. The credit markets are in complete disarray at the moment so it's difficult to say how they will react." He added: "I think it's safe to say that the markets have a whole lot more to worry about right now than Ecuador." 

Photo caption: Correa explaining bond default at Guayaquil press conference