Venezuela: What happens in a default?

2017-11-10 15:01
Venezuela's President Nicolas Maduro speaks during a press conference at the Miraflores presidential palace, in Caracas on October 17. (Ariana Cubillos, AP)

Venezuela's President Nicolas Maduro speaks during a press conference at the Miraflores presidential palace, in Caracas on October 17. (Ariana Cubillos, AP)

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Montevideo - Venezuela, locked in a deep economic crisis, is rapidly approaching a default on external debt estimated at some $150bn.

But what is the mechanism that triggers a default and what are the consequences for the South American country if it does?

How does a country default?

A country is in default when it cannot repay due loans - bonds, in financial jargon - or when it can no longer pay interest accrued. The creditors involved may be international institutions like the International Monetary Fund.

In the case of Venezuela, which cut ties with the IMF in 2007, it is borrowing on the financial markets from private investors.

By this weekend, it must repay at least $81m on a bond for state oil company PDVSA, at least $1.47bn interest on various bonds by the end of the year, and about $8bn in 2018.

It has foreign reserves of only $9.7bn.

A "partial default" is not uncommon. Ratings agency S&P has identified 26 similar defaults around the world since 1999, with some countries being repeat offenders.

Who declares a default?

While a bankruptcy court acts in cases of individuals or companies, no such mechanism exists for states.

So governments can self-declare a default by announcing that it will cease repayments on its debt.

The announcement could also come from one of the ratings agencies, which then determine either a partial or full default.

Similarly, a private creditor can publicly disclose that Venezuela has stopped paying it.

Another possibility is an official announcement by the ISDA (International Swaps and Derivatives Association), which maintains a global watch on sovereign debt.

What are the consequences?

The defaulter is immediately cut out of the international financial markets, from which it can no longer borrow. In Venezuela's case, Washington has already banned any new debt transactions in the US market.

Creditors are in theory entitled to seize assets located abroad. Venezuela's state oil company has a subsidiary, the Citgo oil company, in the US that has refining activities and gas stations. Its tankers and oil shipments abroad could also be at risk.

Venezuela's main creditors are China and Russia, but there are also American lenders, attracted by the current high yields on its bonds.

Default exposes it to international sanctions, including commercial retaliation by creditors' countries of residence. Venezuela's reputation will suffer, which can complicate its credit rating for years.

How does restructuring work?

Restructuring a debt means rescheduling repayments and most often, lowering debts or cancelling them altogether. It means the country is in default, but hopes to reach an agreement with its creditors.

President Nicolas Maduro's government has convened a meeting of international creditors in Caracas on November 13 to begin talks. An agreement has already been signed with Russia, but Moscow holds a relatively small portion (approximately $9bn, including debt picked up by the Rosneft oil company) of its debt.

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