By Anthony Faiola and Steven Pearlstein
Washington Post Foreign Service
Monday, December 24, 2001; Page A01

BUENOS AIRES, Dec. 23 -- Argentina's new leaders declared today that the bankrupt country would immediately suspend payments on its crushing foreign debt, setting the stage for the largest default in history.

Lawmakers rose to their feet and cried "Argentina! Argentina!" as Adolfo Rodriguez Saa made the announcement shortly after being sworn in as interim president. The 54-year-old lawyer and provincial governor from the Peronist party replaced Fernando de la Rua, who was forced to resign last week following a popular revolt against his economic policies.

Rodriguez Saa promised that Latin America's third-largest economy, saddled with $132 billion in national debt -- among the highest in the developing world -- would immediately move to renegotiate with creditors. But he said funds earmarked for debt payments will temporarily go toward programs to create 1 million jobs and feed the hungry in a country of 36 million people where 18.3 percent of the population is unemployed and millions have sunk into poverty after four years of recession.

While a default would likely worsen Argentina's economic woes, it is not expected to cause the kind of ripple effect seen after Russia's unexpected default in 1998 or the string of financial collapses that spread through Latin America in the early 1980s. Economists had been predicting for months that Argentina would default, and said the markets had already anticipated today's announcement and made adjustments.

In addition, most of the problems that led to the economic collapse -- including runaway government spending, excessive borrowing and the "convertibility" system that pegged the peso to the dollar -- are confined to Argentina.

"Everyone saw this train wreck coming, so if there were going to be some big market reaction, we would have seen it by now," said Barry Eichengreen, an international economist at the University of California at Berkeley. "And so far the fallout has been remarkably mild."

Through public and private comment, officials from the U.S. Treasury Department and the International Monetary Fund have made it clear in recent weeks that Argentina's debt had become unsustainable. IMF spokesman Bill Murray said today the fund had no intention of turning its back on Argentina. "If Argentina were to present some sort of new plan to us, under the circumstances it is certainly the kind of request that would be treated very seriously," he said.

The U.S. ambassador to Argentina, James Walsh, delivered Rodriguez Saa a congratulatory letter from President Bush today, although it did not address Argentina's debt suspension.

Rodriguez Saa was sworn in this morning after an all-night session of Congress, marking the Peronist party's return to power after two years in opposition. He will be Argentina's caretaker leader until elections scheduled for March 3, in which his party, founded by populist leader Juan Peron in the 1940s, is expected to retain power.

"The Argentine state will suspend the payment of the foreign debt," Rodriguez Saa told Congress in his inaugural address. "The gravest thing that has happened here is that priority has been given to foreign debt while the state has had an internal obligation with its own people."

There were rising concerns today that Argentina was poised to move away from the U.S.-backed free-market reforms embraced by much of Latin America during the 1990s, posing a potential hurdle to the Bush administration's plans to forge a Free Trade Area of the Americas from Tierra del Fuego to the Arctic Circle. Sen. Oscar Lamberto, a Peronist who will lead any renegotiations with creditors, tried to ease those concerns, saying the Peronists recognize "there is a new world order" and that the government would not walk away from its debt responsibilities. Officials said Rodriguez Saa was seeking emergency talks with the IMF and the United States.

About $40 billion of Argentina's debt is held domestically and was recently swapped for new bonds that do not come due for at least another year, meaning today's decision will mostly affect foreign creditors. Peronist officials said they will insist on dramatic reductions in the interest rates the government pays Argentine bond-holders. Such a move, officials said, would save the country at least $6 billion, which could then used to create jobs and fund social programs.

But some of the more radical and influential Peronist leaders were calling for even tougher terms for foreign creditors. Officials said final approval of a debt-restructuring deal may end up in the hands of Congress, both houses of which are controlled by the Peronists.

"Austerity measure after austerity measure brought this country to its limit, and high interest rates on [foreign debt] prohibited growth," Lamberto said. "This is an end to the [economic] model that Argentina has so far followed, and now the country needs the comprehension [of its creditors] to put the economy back on track."

The debt moratorium follows almost a year of attempts by de la Rua to avoid a default through massive bailouts from the IMF and severe austerity measures -- pensions and government salaries were slashed and retirement funds were seized to pay creditors. The IMF cut off a $1.3 billion lifeline on Dec. 5 and demanded further spending cuts.

Popular resistance boiled over into two days of violent protests and looting last week in which 27 people died and hundreds were wounded. The rioting forced de la Rua, a political centrist who favored paying international creditors in full, to resign Thursday.

The Peronists today promised a different kind of austerity. Responding to widespread public disgust with politicians, Rodriguez Saa declared that the salaries of all elected and appointed politicians and state employees would be capped at $3,000 a month, equal to the stipend he will receive. Rodriguez Saa said he also plans to sell such assets as the presidential plane.

Despite the cheers in Congress, a default would herald what is likely to be a deepening of Argentina's recession as companies lose credit and the country struggles to avoid a currency devaluation. Rodriguez Saa said he would fight to hold on to Argentina's much-criticized dollar-peso "convertibility" system, adopted a decade ago. The rigid system -- in which the peso is interchangeable with the dollar -- is credited with halting runaway hyperinflation but is blamed for making the Argentine economy less competitive than those of such neighbors as Brazil, whose weaker floating currency has helped boost exports and foreign investment.

Argentina has clung to the system because most Argentines have debts, from mortgages to corporate loans, denominated in dollars, while their earnings are in pesos. A devaluation, making the peso worth less against the dollar, would bring on a string of bankruptcies.

Rodriguez Saa said he would try to alleviate the government's cash-flow problems by introducing a third currency, perhaps to be named the "Argentino." It could be used to pay for public works projects and state salaries. Several Argentine provinces are already printing such notes because they lack hard cash to cover costs. But some economists said the proposal was only a short-term solution, and that Argentina would eventually be forced to abandon convertibility.

Argentina, home to the descendents of European immigrants and once one of the world's seven richest countries, has a long history of financial fits and starts. The country is plagued by widespread corruption and a lack of national trust in the political system, which fosters a 40-percent rate of tax evasion. Those problems, analysts say, are chronic and must be solved independently of any currency system or economic model before Argentina can begin long-term recovery and growth.

Rodriguez Saa is a veteran Peronist tainted by sex scandals but credited with fiscal austerity in his interior province of San Luis.

Ramon Puerta, the Peronist head of the Senate, was acting president for 48 hours before his party selected Rodriguez Saa.

Rodriguez Saa is expected to vie in upcoming elections with better-known Peronist leaders for the right to complete de la Rua's four-year term, which ends in December 2003.

Pearlstein reported from Washington. Special correspondent Miriam de Paoli contributed to this report.