Ecuadorian debt crisis and economic implications

¶ … Ecuadorian Debt

What are the probable proceeds of the Debt Swap program for Jack's $50,000?

There are probable proceeds since the university will be getting sucre denominated bonds to show for their original investment. Of course in the long-run, bonds do not match an investment in another market such as stocks, but there are still perks to holding this medium.

First, there is a type of capital preservation. Unless Ecuador completely defaults on the bond payments or the sucre completely loses its total value, the bonds should provide a return equivalent to the amount they originally invested, in this case $50,000.

Second, these bonds will pay interest in intervals and that will continue to provide income for the OSSHE and exchange programs. In other words, the bonds provide ready cash fro a cash poor system.

The bonds may also provide some tax advantages for the programs and university. For example, as Ecuador raises money to lower its foreign debt, they should be providing the interest payments as tax exempt. This can be more advantageous if the DFD or exchange programs have additional tax incentive or shelter to combine to the interest advantages. especially advantageous for those whom are retired or want to minimize their total tax liability.

2) What are the obvious and not-so-obvious risks in participating in the debt swap program for the OSSHE? Which of the explicit variables appear to be the most important to the actual sucre proceeds?

Just as the sucre denominated bonds can be seen as an advantage, they can also be the source of some not-so-obvious risks. Any time a person or business, in this case the university, hold a foreign currency in the form of cash or a denominated investment, they are subject to the nation's currency concerns and risk. In other words, the potential for loss due to fluctuations in monetary exchange rates can turn the investment into a loss very quickly.

In addition, Ecuador has already demonstrated that as a nation they have no problem defaulting on existing national debt scenarios and the sucre denominated bonds will be no exception if the nation is unable to meet debt obligations. Consider that the Ecuadorian government considered a default strategy on a debt instrument that they were using to secure their original debts that they defaulted on. Ecuador must become a complete exporter to pay its bills and that is unlikely possibility -- the nation won't be capable of paying its debts in the future and the University will have to eat the losses just as the original banks did when they sold the debts.

Couple these concerns with expected inflationary concerns and these bonds and the sucre look to be major risks at best. If the bonds were liquid then these concerns would not be as severe, but the without further depletion in bond value, the university would not be able to unload these bonds anywhere. Although Ecuador is an emerging market, the overall liquidity of the nation's sucre and the inflationary fears of the nation should be enough of a major concern to keep Jack from moving forward with the debt swap.

3) If Jack proceeded with DFD swap program, what should be his immediate concerns when gaining possession of the sucre-denominated Ecuadorian government bonds? How will Jack's expectation of inflation alter his bond or cash management for the coming year?

Jack's immediate concern when gaining possession of the sucre-denominated Ecuadorian government bonds is first that a foreign bond is an unenforceable claim. A bond in the United States for example has a legal recourse in the event of the bond's default. But a foreign bond, in this case sucre-denominated Ecuadorian government bonds, offers no protection for the university. If a new regime took over Ecuador tomorrow, Jack may lose all rights if the new government seized or denied foreign assets or claims.