El Salvador to scale back bitcoin dreams to seal $1.3bn IMF deal

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El Salvador expects to reach agreement with the IMF in the next two to three weeks on a $1.3bn loan programme in return for changes to its pioneering use of bitcoin as legal tender and reductions in government deficits, according to two people close to the talks.

An IMF mission has arrived in San Salvador to finalise details of the agreement with President Nayib Bukele’s government. The deal was expected to unlock another $1bn of lending from the World Bank and $1bn from the Inter-American Development Bank over the next few years, the people said. An IMF spokesperson declined to comment, citing the fund’s policy of not speaking about ongoing negotiations.

The lending package, which would have to be approved by the IMF board, would seal the Central American country’s return to the international financial fold after several years of relative isolation, following its passage of a law in June 2021 making it the world’s first country to adopt Bitcoin as legal tender.

The IMF opposed El Salvador’s adoption of the digital currency, citing risks to financial stability and integrity, and has urged the Bukele government to stop accepting cryptocurrency as legal tender.

Under the terms of the agreement being finalised with the Washington-based fund, El Salvador would drop a legal requirement for businesses to accept bitcoin as payment, making it voluntary to do so. 

The government would also commit to reducing the budget deficit by 3.5 percentage points of GDP over three years with a mix of spending cuts and tax rises, passing an anti-corruption law and increasing reserves from $11bn to $15bn, one of the people close to the talks said. 

Bukele launched a dramatic crackdown in his first term on the violent gangs which used to terrorise El Salvador with murder and extortion. He used state of emergency powers to jail 82,000 suspects indefinitely pending trial and build a giant maximum security prison, the Centre for the Confinement of Terrorists (CECOT).

The murder rate plunged, Bukele’s popularity soared and he was re-elected for a second term this year in a landslide victory with 85 per cent of the vote and almost all seats in Congress.

The Biden administration sanctioned several officials close to the president for alleged corruption and criticised the government during Bukele’s first term but has pivoted more recently to a policy of pursuing closer ties.

Bukele enjoys good relations with US president-elect Donald Trump and with Elon Musk and has attempted to rebrand the tiny and impoverished Central American nation as a surfing and cryptocurrency paradise. He has pioneered the use of bitcoin as legal tender and announced plans to build a “Bitcoin City” powered by geothermal energy on the slopes of a volcano. 

Most Salvadoreans, however, have shunned bitcoin for everyday use, preferring to stick with the US dollar, the country’s other legal currency, and plans for the Bitcoin City remain so far unrealised.

The government has also accumulated cryptocurrency as reserves, with Bukele buying bitcoin on dips in price. Last month he posted on social media that El Salvador’s reserves were worth more than $600mn, a gain of 127 per cent.

“You can call it our first #Bitcoin piggy bank,” he posted.” It’s not much, but it’s honest work.”

In his second term, the president has focused on reviving El Salvador’s economy and seeking foreign investment to boost its fortunes. Banks have turned positive, with the country’s risk rating tumbling from 3,500 basis points above US Treasuries in July 2022 to just 398 basis points last week. 

El Salvador’s sovereign bonds are now trading around face value, with a big rally having closed a steep discount which existed previously. Bukele commented last week on the twin rallies in Salvador bond prices and bitcoin, saying: “This is the first time in history that Bitcoin has driven sovereign bonds up in traditional markets”.