How quickly we forget

I don't normally follow bond markets but an article in December 14th Economist cought my attention. Emerging Market bond yields compared to US Treasury rates are pretty much at all time lows. Given current economic growth and the budget surpluses for many of the countries that have defaulted on their debts in the past it is not completely unexpected. However, I am surprised by lack of weight given by markets to historical data. Argentina, Mexico, Brasil have all defaulted on their debt multiple times. Everybody remembers Argentina's default in 2001 which left holders of over $100 billion worth of debt struggling to get their money back. However that was preceded by similar collapses in Mexico in 1982, Brazil in 1998 and many other occasions before that.

Currently the region is going through a period of relative stability, but there are signs that things will not remain that way forever. Most obvious one is increasing influence of Hugo Chavez and recent wins by other leftist populist presidents like Evo Morales in Bolivia. In fact almost all the countries in the region are dealing with popular demands of increasing support of lower income households. In the past these trends resulted in governments running significant budget deficits which eventually caused a debt default during economic downturn. To use Argentina again as an example only four years after its debt default the government spendng is rising faster than its revenue income. Their budget surplus is shrinking and could turn negative again within next couple of years. Mexico is already running a slight budget deficit which could get much worse if populist mayor of Mexico gets elected as president in next year's election.

It is too early to say where and when the next Latin American debt crisis will strike. Right now the economies are doing well and Brasil and Argentina both took steps to pay down their IMF debts. Yet these countries still have significant amount of debt outstanding - Argentina's total debt to GDP is 78%, Brazil is 27 % and Mexico is 18.8%. Economic and political turmoil risk which brought these countries down in the past is not out of the question and should be compensated by higher yield spreads than right now.