A US judge said Friday a deposit from Argentina towards paying off restructured debt was illegal unless hedge funds holding $1.3 billion in bonds were also paid.
Judge Thomas Griesa warned Buenos Aires that any further such payment attempts would put it in contempt, and said the $539 million sitting in an account of Bank of New York Mellon should be returned.
He told the South American country to expedite negotiations to settle with the hedge funds, who held out from joining the 2005 and 2010 restructuring of Argentina's defaulted debt.
Griesa has ordered Argentina to pay both the holdouts, NML Capital and Aurelius Management, and holders of the restructured bonds at the same time, by a June 30 deadline.
He stressed that banks processing the payments are forbidden to pay one without the other.
"It cannot be done and will not be permitted by this court," the federal judge told a Manhattan court hearing.
"Therefore this payment cannot be made and anybody who attempts to make it will be in contempt of court."
- Argentina blasts 'bizarre' ruling -
Argentina has pledged to make good on its debts and deposited enough in a US bank to cover the principal and interest payments for the restructured bondholders scheduled for Monday.
The country's Economy Ministry lashed out at the "bizarre and unprecedented decision."
"Judge Thomas Griesa is trying to prevent our creditors from receiving what is owed to them," it added in a statement.
"He is abusing his authority. This does not fall under his jurisdiction, because the holders of restructured bonds are not being pursued in court."
On Thursday, Griesa refused to freeze an order for Argentina to pay holdouts.
Griesa on Friday called on the parties to continue with negotiations and told lawyers for Argentina that its request to stay the June 30 payment deadline had not been made appropriately.
Recognizing there was no prospect of a deal before the deadline, he suggested it should not make a difference as long as talks progress under the oversight of the court-appointed "special master," New York lawyer Daniel Pollack.
"If you had continued discussions with the special master you could have solved all the problems you are talking about," Griesa told Argentina's lawyer Carmine Boccuzzi.
"What needs to be done and it can be done now is to figure out a way to get through the weekend and June 30 and maintain the status quo.
He called Argentina's payment on Thursday a "distraction."
"Why haven't the settlement negotiations gone forward? Why aren't they going forward today instead of sitting here in court?" Griesa asked.
With its finances deeply strained by a weak economy, Buenos Aires is reportedly seeking to find a way to avoid having to pay the whole amount up front to the holdouts.
Argentina had been poised to default on its debt for a second time in 13 years, if a payments deal cannot be achieved with the hedge funds by Monday.
On June 16, Argentina lost its final appeal to the US Supreme Court against paying what it calls "vulture funds," bond speculators which in the 2000s refused to participate in a restructuring of the country's bonds after it defaulted on nearly $100 billion in debt.
Around 92 percent of the debt was covered in the restructuring, with those creditors forced to take steep 70 percent writeoffs of the value of their bonds to help the country restructure its finances.
Argentina has argued it is unfair for the restructured bond holders to pay the holdouts 100 percent of the value of their bonds, noting also that no sovereign debt restructuring could go through if holdouts had such rights.
It says being forced to pay the full size of its outstanding holdout bonds at once would overwhelm its weak finances.
NML and Aurelius hold bonds valued at $1.33 billion, and said in a letter to Griesa this week that, with other costs, the maximum the country would have to pay them is $1.65 billion.