What if Milei is wrong about the economy?

Argentines are living on the assumption that their first economist-president, Javier Milei, is right about the economy. That is why they voted for him. So far, so good: people see inflation going down after having gone up since Milei took office. As the INDEC national statistics data indicates, it might struggle to continue slowing down at the same speed from now on. But the public does not see – and does not care – about the theory behind it all.

Milei’s economic programme runs on the premise that the main problem of Argentina’s economy is its fiscal deficit. That explains the ‘chainsaw’ approach during the campaign and his massive spending adjustment in these first seven months in office, focused almost entirely on pensions, public works, and cash handouts to provinces.

Under the President’s vision, once you cut the fiscal deficit, the main source of money-printing is eliminated, and thus the peso regains value. A more powerful peso reduces the gap between the official and parallel exchange rates, which is now around 50 percent after recent market unrest. If that gap tends to zero, you would be able to lift capital controls, the so-called ‘cepo’ that has been clamping Argentina’s economy since it was implemented in late 2011 by then-president Cristina Fernández de Kirchner (and only lifted during 2016-2018, the first period of the Mauricio Macri administration,).

But what if Milei is wrong?

The President wrote on his social media accounts this week that he needed three conditions in place in order to lift the ‘cepo.’ One, to eliminate all interest-bearing liabilities from the Central Bank (to further curb money-printing). Two, to do away with the put options on Central Bank debt (which currently stands at about US$16 billion and equals a sword of Damocles on government finances). Three, that monthly inflation and the monthly devaluation converge at near zero percent.

The way things are going, these conditions might not be in place anytime soon. This lack of visibility is causing market and investor uneasiness. Milei campaigned on a promise to dollarise the economy (and close the Central Bank in the process). He actually said a year ago during the campaign that he “had already negotiated the dollars Argentina needs to dollarise the economy at present market value.” His team, which has since changed, said then that the amount totalled around US$35 billion.

He is not talking about that now, and the economy is again facing a severe dollar shortage trap.

Hard currency is the Achilles’ heel of the Milei programme, as it was for his predecessors in office. Up until June, the Central Bank had purchased US$17.2 billion in the foreign exchange market, following the sharp devaluation of the peso in December 2023. But net reserves increased by less than half of that. In June, the trend turned around, and for the first time since Milei took office, the Central Bank ended the month with a negative balance of US$47 million. This week, after a payment to private bondholders, net reserves are again in the red.

This is, to many observers, the mother of all the country’s problems, more so than the fiscal front Milei boasts of having under control. On Wednesday, the President fired Bioeconomy Secretary Fernando Vilella over differences in managing export duties on the farming sector, the tax that farmers argue dissuades them from selling more of the crop and storing it instead. So far, farmers are estimated to be storing around 30 percent of this year’s produce, both because they don’t want to pay the tax and because they don’t think the official exchange rate they get is good enough.

Much to his frustration, Milei might be left with two very conventional options during the second half of the year: another devaluation or securing a new debt agreement with the International Monetary Fund (IMF) that would mean fresh funds. This is nothing different from what the “caste” has done or would do. The former means inflation would spike again, tarnishing his still-okay public reputation; the latter is a variable he does not entirely handle, as the IMF is reluctant to increase its already high exposure to Argentine debt.

It remains to be seen how Argentines will come to terms with the idea that Milei might not have an instant economic miracle to deliver. Seven months into the administration, the recession is far from over, and if inflation stagnates at a high plateau or, even worse, starts rising again, the effort done so far may seem useless. Milei and his team say they are anchoring inflation through fiscal policy, but what if what keeps prices at bay is predominantly the foreign exchange anchor? That largely relies on the crippling ‘cepo.’

In his May Pact speech in Tucumán this week, Milei said that under his watch, “economic shamanism” would be over, but he also issued a subtle warning: “Of course, that does not mean we will never have economic problems again.” The problems will be here soon; Argentines may hope they had voted for a shaman.