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Argentine default to hit Brazil factories, Uruguay resorts

By Walter Brandimarte and Silvio Cascione

RIO DE JANEIRO/BRASILIA (Reuters) - Argentina's debt default threatens to worsen trade tensions in South America, adding to the economic woes of Brazil in a tense election year and causing headaches in Uruguay as the Argentine economy looks likely to plunge deeper into recession.

Brazilian exporters of goods ranging from shoes to cars and busses are reckoning on lower sales, while hotels and other tourist attractions in the hip Uruguayan beach resort of Punta del Este are bracing for a slow summer season after Argentina's refusal to pay holdout bondholders. The default is likely to hurt Argentine purchasing power because inflation, already running above 30 percent, is heading higher.

The pain will be acute in the auto industry: Brazil, the region's biggest economy, sends about 90 percent of its car exports to Argentina, while Uruguay ships about 60 percent across the River Plate to its southwestern neighbor.

"Even before a default, there was a visible fall in exports to Argentina," said Jose Augusto de Castro, president of the Brazilian Foreign Trade Association. "With the default, we're going to have a substantial drop. Who is going to bank the risk of exporting to Argentina?"

For a region already grappling with an economic downturn and rising trade protectionism - it recently backed away from a free trade deal with Europe due to Argentina's reticence - the latest crisis is another setback for regional trade.

Argentina defaulted on Thursday after losing a long legal battle with hedge funds that rejected the terms of a debt restructuring in 2005 and 2010. Besides putting pressure on the peso and boosting inflation, the default could raise local companies' borrowing costs and drain dwindling foreign reserves, now at just under $30 billion.

To be sure, Argentina's troubles are unlikely to translate into a major economic blow to Brazil and Uruguay, the neighbors with which it has the closest business ties. For Chile, the effect is likely to be negligible, given it hardly sends any exports to Argentina, though shares of Cencosud and Falabella , Chilean retailers with Argentine operations, dropped in Santiago.

Still, Brazil exported over $7 billion in goods to Argentina through June this year, or almost 7 percent of its total exports, including petrochemical products, electric transformers and even cutlery. Argentina's woes could nudge an already sluggish Brazilian economy closer to recession, giving President Dilma Rousseff's rivals more ammunition as they campaign to unseat her in October's election.

A deeper recession in Argentina could prompt factories in Brazil to slash output and speed up layoffs, potentially robbing Rousseff of one of her trump cards - a strong job market - while also clouding the outlook for a Brazilian rebound in 2015.

Brazilian companies including petrochemical maker Braskem , transformer maker Weg and knife-maker Tramontina declined to comment on the default.

The default will be a test for a new bilateral car trade pact signed in June between Brazil and Argentina - important markets for Italy's Fiat SpA , Germany's Volkswagen AG and U.S.-based General Motors Co and Ford Motor Co , all of which build cars in Brazil.

The trade pact allows Brazil to export $150 worth of cars for each $100 in autos it imports from Argentina, without paying tariffs. After the default, however, Argentina may struggle to find dollars to pay for its imports.

Weak Argentine demand will also challenge Brazil's largest bus maker, Marcopolo , which has already cut output there by two-thirds in just six months.

A Marcopolo spokesman declined to comment on what the default could mean for its outlook in Argentina. CEO Jose Rubens de la Rosa said on a June conference call that the lingering uncertainty in the country is "clearly" weighing on the company's performance.

"It isn't the first time that this happens in Argentina," he said. "The government has asked us to be patient."

BAD TIMING FOR BRAZIL

Brazilian exports to Argentina have been shrinking over the past few years as the end of a global commodities boom weighed on Argentina's meager dollar reserves, prompting policymakers to impose capital controls and trade barriers.

In a show of solidarity on Tuesday, Rousseff brushed aside Brazil's friendly rivalry with its biggest neighbor and sided with Argentine president Cristina Fernandez, saying that a few "speculators" are putting the "stability and the well-being" of entire nations at risk.

Brazilian Finance Minister Guido Mantega reiterated that view on Thursday and sought to play down the potential effect of Argentina's default on Brazil, saying it was "nonexistent" for now.

In a worst-case scenario, the Argentine default could cost Brazil as much as 0.5 percentage points of growth in 2014, said Robert Wood of the Economist Intelligence Unit. With the Brazilian economy expected to expand just 0.9 percent this year, every decimal point of economic growth matters, especially in an election year.

Shoemakers are particularly pessimistic.

"If we keep up the pace of exports seen in the first half of the year, we'll have a 50 percent drop from 2013," said Heitor Klein, president of Brazil's shoemakers association, which includes listed companies such as Alpargatas and Grendene .

They employ about 340,000 workers in Brazil, but have laid off about 8 percent of their workforce this year due mostly to a weak winter season in Argentina, Klein said.

There's reason for worry in Uruguay, a small country of about 3 million people, less than a tenth the population of Argentina. So linked were both countries' fortunes that when Argentina went bankrupt in 2002, Uruguay was forced to restructure its own debt a year later.

Uruguay isn't facing its own debt problems this time around, but it is bracing for a downturn in tourism from Argentina that may leave its beaches even more deserted.

Argentines have struggled to travel abroad as the central bank imposed strict rules on dollar purchases to protect foreign reserves.

In Punta del Este, hotel managers fear the loss of Argentine tourists, who account for about two-thirds of casino visitors and sun bathers every season.

"If Argentina is doing badly, Punta del Este will do badly," said Fernando Massa, president of the city's hotel association. "Hotels with up to three stars run a serious risk of not surviving."

(Additional reporting by Malena Castaldi in Montevideo; Editing by Todd Benson and John Pickering)

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