The gift that keeps on giving

If there is a school of thought which argues that the one thing worse than failure is success (inasmuch as nothing kills off an ambition more than its attainment), then the Argentine economy is the gift that keeps on giving – as is Senator Cristina Fernández de Kirchner, come to think of it. In other words, you can spend a lifetime trying to fathom it and still have endless new layers of analysis lying ahead, as the New England economist Dr Hale now confesses. He writes:

“If I had to put my finger on what so fascinates me about the Argentine economy, it would be the sheer insanity. Just over three months ago Argentina was promoted to the status of emerging market (thus joining a select group of two dozen countries, including all five BRICS heavyweights). It has been sinking without trace ever since. A submerged market despite being buoyed up by an extraordinary International Monetary Fund package of US$55 billion – which the Mauricio Macri administration is now reportedly seeking to boost to US$65 billion with almost half falling due immediately. Meanwhile country risk has been jumping up and down like a yo-yo – one moment closer to 800 than 700 and the next nearer 600. And now this week along comes a 2019 budget which actually projects a lower exchange rate for the dollar next year than on the date of submission, despite forecasting a 2019 inflation of 23 percent on top of almost twice that figure this year. Plus negative growth of minus 0.5 percent when nothing could supposedly be worse than this droughtstricken year – is Economy Minister Nicolás Dujovne trying to lose the next elections? Can you make any sense of this, to which question I might add – when are the lunatics going to take over the asylum, which I suspect to be at the heart of market fears?”

My reply:

“This has clearly not been a great year for emerging markets overall (a category including an electorally confused Brazil and Turkey, just to name two examples) but this does not suffice to explain why Argentina’s devaluation has been almost twice as acute as anybody else’s. Argentina might be an emerging market but its stunted capital markets could hardly be more underdeveloped – no private pension funds with bank deposits a single-digit percentage of the economy (which also makes interest rates far too weak an anchor against inflation). Barely five percent of gross domestic product in dollars and even less in pesos, which in turn points to another key factor – the extreme dollarisation of the economy reportedly overtaking even Russia in recent years for greenbacks per capita. This simultaneous lack of capital markets and a national currency reduces this country’s options for living beyond its means to an either/or proposition between the two “Ds” (debt or deficit) and the two “Is” (inflation and the IMF). All these options – debt, deficit, inflation and also taxation – have been stretched to the limit, thus turning the most recent recourse to the IMF into the last resort. In theory the debt option (even if swollen by devaluation to 85 percent of GDP) could be continued for perhaps a couple more years – especially if reduced to just over half GDP by deducting liabilities owed within the public sector – but the current adverse and volatile climate would make this extremely rash.

“The government and most economists have correctly deduced that the only real answer to an unsustainable fiscal deficit is its elimination but are then dismayed when the accelerated pledges in that direction fail to convince the markets. The problem here is not merely a credibility gap arising from a flawed history – the pet phrase of ‘zero deficit’ is misconceived. Firstly, this pledge is invariably limited to the primary deficit when servicing the debt now absorbs around three percent of GDP (i.e. more than the primary deficit has ever been since first emerging from the Kirchner years) and the balance of payments remains heavily in the red – a healthy fiscal surplus, not merely ‘zero deficit,’ thus becomes necessary. Secondly, ‘zero deficit’ in the form of state revenues equalling public spending would not restore the Argentine economy to health because both taxation and public spending are far too high – both need to be drastically downsized.

“Nor are the markets likely to be convinced by the 2019 budget. Your question as to how next year’s exchange rate could possibly be lower than this week’s has a relatively simple answer based on immediate urgencies – if a higher figure were to be given, it would become reality on today’s hysterical markets in a flash. But this leads to another question – why place yourself on a hiding to nothing in the first place with a forecast which nobody is going to believe? I also share your doubts concerning the pessimism as to the persistence of recession – a bumper harvest plus a glut of electoral spending should be more likely to result in some improvement when measured against this disastrous year. Moreover, this same gloomy budget offers a much brighter picture of the balance of trade – moving from a deficit of over US$20 billion this year to under US$10 billion next, thanks to devaluation.

“Nor do I understand the claim to a balanced budget. For a start, the bottom line of 3.7 trillion pesos in revenues and four trillion in public spending does not look like ‘zero deficit’ to me. Critics of austerity should also note that taxation (up 41.8 percent) is more aggressive rather than spending (increased 27.4 percent) more moderate. Entering into more detail, if social spending accounts for almost 70 percent of the budget, I also fail to see how a 32.3 percent increase there can possibly be financed by smaller cuts in much smaller items (-8.6 percent for public works, -18.1 percent for transport subsidies and -15.5 percent in transfers to the provinces, otherwise compensated), even if the 32.3 percent also covers cuts in real terms this year – thus the 2018 pension increase has been rigidly set at 28.83 percent when inflation is already expected to reach 45 percent. But social spending is a temporary remedy which should not become permanent – those receiving money from the state cannot continue to double or treble the taxpayers supporting the system.

“The above does not cover all last week’s news nor answer all your questions, Dr Hale, but were I to do so, I would be contradicting your underlying premise regarding the Argentine economy – the gift that keeps on giving.”