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Friday, March 24, 2023

El Salvador’s $425 million bitcoin experiment isn’t saving the country’s finances

El Salvador bet its economic salvation on bitcoin, but so far the gamble isn’t paying off like President Nayib Bukele hoped it would.

The government’s crypto coffers have been cut in half, bitcoin adoption nationwide isn’t really taking off, and crucially, the country needs a lot of cash, fast, to meet its debt payments of more than $1 billion in the next year. This comes as the price of bitcoin has fallen more than 70% from its November 2021 peak, and more than 55% from the time Bukele announced his plan.

Meanwhile, El Salvador’s economic growth has plummeted, its deficit remains high, and the country’s debt-to-GDP ratio — a key metric used to compare what a country owes to what it generates — is set to hit nearly 87% this year, stoking fears that El Salvador isn’t equipped to settle its loan obligations.

Pair these economic woes with a renewed war on gang violence, and you have all the fixings of a country on the brink.

“On the surface, the whole bitcoin thing hasn’t really paid off,” said Boaz Sobrado, a London-based fintech data analyst.

It isn’t bitcoin’s fault that the government is edging toward financial ruin.

The government has an unrealized paper loss on bitcoin of around $50 million, which the finance minister notes is less than 0.5% of the national budget. In aggregate, the entire experiment (and all its associated costs) have only run the government around $374 million, according to estimates. That’s not nothing — especially considering the fact that El Salvador has $7.7 billion of bonds outstanding — but to an economy of $29 billion, it is comparatively small.

The optics aren’t good, though.

Negotiations have stalled with international lenders in part because they are unwilling to throw money at a country that is spending millions in tax dollars on a cryptocurrency whose price is prone to extreme volatility. Rating agencies, including Fitch, have knocked down El Salvador’s credit score citing the uncertainty of the country’s financial future, given the adoption of bitcoin as legal tender. That means that it’s now even more expensive for President Bukele to borrow much-needed cash.

“In terms of their financial situation, El Salvador is in a very difficult place. They have a lot of bonds that are trading severely discounted,” continued Sobrado.

“The economic policy of the country is essentially magical thinking,” said Frank Muci, a policy fellow at the London School of Economics, who has experience advising governments in Latin America.

“They’ve spooked the bejesus out of financial markets and the IMF,” continued Muci, who tells CNBC that nobody wants to lend money to Bukele unless it’s at “eye-gouging rates” of 20% to 25%.

“The country is sleepwalking into a debt default,” said Muci.

But the millennial, tech-savvy president, who once touted himself as the “world’s coolest dictator” on his Twitter bio, has tethered his political fate to this crypto gamble, so there is a very big incentive to make it work in the long run — and to pay off the country’s debt in the interim. Bukele faces re-election for another five-year presidential term in 2024.

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