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By Matt O'Brien August 3

Paul Singer, the CEO of Elliott Management, has been suing Argentina
for a decade EPA/REMY STEINEGGER/WEF

It's not every day that Argentina defaults on its debt. It just
seems that way.
Okay, that's not entirely fair. After all, it's been 13 years
since the last time it did. That's not bad for Argentina, which
has now defaulted eight times in its 200-year history. But
this latest one was certainly its strangest. Argentina didn't
default because it couldn't pay its bondholders. It defaulted
because a New York judge wouldn't let it pay its
bondholdersnot unless it also paid the hedge funds that
were holding out for a better deal on its old defaulted debt.
Yes: Argentina was forced to default now, because it
wouldn't pay the bonds it had defaulted on in 2001.
Confused? Well, here's what you need to know.

1. Once upon a time100 years ago, to be exactArgentina

had the fifth-largest economy in the world. But decades of
bad policies, worse governments and general incompetence
turned this one-time powerhouse into a cautionary tale of
default and devaluation. By the 1990s, though, Argentina
thought it had finally found the cure for its congenital
inflation: outsourcing its monetary policy to Alan Greenspan
by pegging the peso to the dollar.
It worked, until it didn't. Inflation came down and foreign
capital came in, but at the cost of making countercyclical
policy impossible. So if a big shock hit Argentina's economy,
it wouldn't be able to cut interest rates to cushion the blow,
because its currency peg meant it could only do that when
the Fed did. And that, of course, is exactly what happened
when Europe's and Brazil's currencies fell so much that
Argentina's exports suddenly became seriously overpriced in
1998.
Argentina needed a weaker peso, but it couldn't get onenot
without abandoning its dollar peg. Instead, it was forced to
cut prices by cutting wages. The problem, though, was that
this only pushed unemployment up and tax receipts down.
And that left Argentina in a catch-22. It had to raise taxes
and cut spending to reassure investors about the deficit, but
that made the slump even worsewhich wiped out any
savings. In other words, austerity was both the cure and the
disease. So it was really just a disease.

By late 2001, it was hard for things to get much worse.

Unemployment was 20 percent, and there was a run on the
pesoalong with the banks that had themas people tried
to turn their money into dollars. The government tried to
stop the run by limiting withdrawals, but this only started
violent protests. So, finally, Argentina did what it's always
done: it defaulted and devalued.
This $100 billion defaultat the time, the largest ever
might have been the most responsible thing an Argentinian
government has ever done. Now, that's not to say there
weren't any costs. It's cut the country off from international
capital markets ever since, and that's limited growth. But
not as much as the alternativea deflationary spiral.
Indeed, Argentina's economy has actually grown pretty
well the past 12 years, despite relapsing into double-digit
inflation.
2. Back in its customary role as a financial pariah, Argentina
tried to make at least a little good on its obligations. In 2005
and 2010, it offered the holders of its defaulted debtwhich
was still trading at deep discountsnew "exchange bonds"
that paid about 35 cents on the dollar of the original ones. It
was an offer they couldn't refuse. If investors said no, they
got nothing. And it's not like they could force Argentina to
pay them more. How many divisions does Wall Street have?
That's why 93 percent of the old bondholders accepted the
new ones.

3. So what were the other 7 percent thinking? Well, they

were mostly hedge funds that had bought up Argentina's
defaulted debt on the cheap, and thought they could sue for
a better deal. A much better deal. They argued that a cookiecutter clause in the old bondswhat's known as pari passu
meant that Argentina had to pay them in full if it paid the
exchange bonds at all.
It's a question of what "equal treatment" means. As Joseph
Cotterillexplains, pari passu clauses just say that borrowers
have to treat all bondholders the same. You can't pay some
back, but not others. Sounds pretty innocuous. But is it? The
hedge fund holdouts said it really meant that Argentina
couldn't force a debt restructuring. That the defaulted bonds
and exchange bonds were really the same, so if Argentina
paid any it had to pay all.
4. It's a clever argument, but cleverness isn't enough to
make a country pay you if it doesn't want to. That's why this
legal dispute has gone from the arcane to the absurd. It's not
just about winning the case. It's about making Argentina
accept that you have.
Take Elliott Management, the most aggressive hedge fund
holdout both in and out of court. It's spent the better part of
a decade suing Argentina to get it to settle for more. And
when that's failed, it's turned to less, well, conventional
methods to bring them to the negotiating table. Back in
2012, Elliott actually got Ghana to seize an Argentinian

boat as partial payment for what it said it was owed. But

even this strong-arm tactic wasn't strong enough to make
Argentina any more cooperative. The boat was eventually
released without a deal.
5. But now the holdouts might finally have what they need
to make Argentina pay up: a New York judge. See, in 2012,
Judge Thomas Griesa ruled that the holdouts were right
about pari passu: Argentina couldn't pay the exchange
bonds without paying the holdouts, too. Now, if that was all
he'd said, Argentina could have continued to ignore it
consequence-free. But there was more. Griesa also declared
that if Argentina didn't start paying the holdouts, any
financial institution that helped it pay the exchange bonds
would be in contempt. In other words, Griesa would prevent
Argentina from paying anyone.
That left Argentina with a choice: It could either pay the
holdouts, or it could default on the exchange bonds even
though it was able and willing to pay them.
6. Argentina chose default. There were billions of reasons to
do so. It owes all the holdouts a total of about $15 billion,
and paying that could createhundreds of billions of new
obligations. That's because the exchange bonds have
"RUFO" (Rights-Upon-Future-Offers) clauses that, until the
end of this year, promise them whatever the holdouts get.

This is a lose-lose-lose situation. The holdouts aren't happy,

because they still aren't getting paid. The exchange
bondholders aren't happy, because now they aren't getting
paid either. And Argentina isn't happy, because it was forced
into a default it didn't wantthough, at this point, it can't
really suffer any reputational damage.
7. There are two ways this can end: a deal with the holdouts
or a deal with the exchange bondholders. In the first case,
the holdouts would get some kind of (maybe backdoor)
settlement, and the exchange bondholders would agree to
waive their RUFO rights, which some have already offered
to do. In the second, the holdouts would get nothing, and
the exchange bondholders would agree to another exchange,
this time for bonds set up exclusively in Argentinaoutside
Judge Griesa's reach.

Or maybe it never ends.

***

This is probably the dumbest default in history. As Felix

Salmon points out, it might have actually made the
exchange bonds worth more. That's because Argentina will
presumablypay them in full at some point, but, in the
meantime, the bonds are earning 8 percent interest on the
missed payments. It's a nice Seinfeldian touch for a fight
that only he could love: it's about nothing. Well, almost
nothing. It's about whether Argentina or Elliott
Management will get a few billion dollars. And that's it.
Argentina's economy is already in recession, and
probably won't get much worse. It'll be finewhich for them
means lots of inflationeither way. So will other countries,
which now have collective action clauses in their debt to
prevent these kind of pari passu cases.
At this rate, Argentina really might default on its debt
everydayat least for awhile. Giddy up.
Matt O'Brien is a reporter for Wonkblog covering economic affairs.
He was previously a senior associate editor at The Atlantic.