Roberto Frenkel: "A dollar that goes below inflation will surely be a future misfortune"

Roberto Frenkel is one of the most prepared economists in Argentina to answer this question and explain the acceleration of inflation. Not only because he is pbadionate about the subject and he studies the teachings of the great economists of the econometric models (statistics applied to the economy), he is also due to his condition as a researcher at the Center. State and Society Studies (CEDES) and the Honorary Professor of the University of Buenos Aires (UBA) and one of the mentors of the Austral Plan, who has been successful for a some time to break the inflationary inertia of the mid-1980s under the chairmanship of Raúl Alfonsín.

In a new note with Infobae Roberto Frenkel explains why the inflation targets have failed and gives his vision of what to expect in the immediate future, as well as recommendations for the next government.

– But the economic situation is complicated: high inflation, strong recession and instability of the exchange rate these last days …
– The economic situation is complicated. This was generated by Kirchnerism which left a situation that has not finished making the crisis and it is therefore up to the government to correct a very difficult situation. And since it had not hatched, it was never perceived as such by a large part of society. When designing the Austral plan announced in June 1985, a funny phrase came to my mind: "trying to curb inflation (which was then more than 30% per month), with monetary policies, c is like wanting car at high speed by grabbing it by the antenna. "The Austral plan, which I do not say, is reproducible at the present time because there is no consensus to coordinate expectations and tend towards very low inflation. The plan included a very strict monetary policy element, but not the only one. That's the point.

– What does it take, does not achieve the goal of zero budget deficit?
– Not so A high real interest rate is needed to deal with the external problem (currency deficit), but do not believe it because it helps to contract the demand that will affect both inflation and quickly reduce it.

– Because?
– Because when inflation is strong, it does not decline immediately. Convertibility ended with the high inflation regime; because there have been six years of price stability, there has even been deflation. Therefore, during the devaluation of 2002, the repercussion was the lowest in the history of Argentina, with very low inflation for 6 years, the ban on indexing remaining in force and a very high unemployment rate. In this context, after the serious devaluation of 2002, the economy reacted very quickly. However, Convertibility posed many problems, but it solved the problem of inflation. He healed her, that's why he could be devalued, not that you can not.

– And now, why is inflation accelerating?
– Because we have an inflationary inertia, because we have a regime of strong price hike created during Kirchnerism, which has led to wage increases equal to the sum of the inflation rate of the. previous year, increased by productivity by 2 or 3 additional points per year. This would have resulted in a steady acceleration, without the backdrop of the exchange rate and rates, which could maintain inflation of around 25% per annum. In addition to the strong expansion of public spending and the generation of budget deficit.

– You badign a determining role to the wage policy, why?
– Because it is the main market, that of the non-merchant of the economy par excellence, the main service of any economy. Thus, to illustrate the inertia, note that in 2018, inflation was above 47%. Suppose that the interest rate, via the recession it has created, with the contraction of demand, affects wage negotiations, that is to say the labor market, and allows partial de-indexation.

Let's say that instead of 47%, which would amount to recovering previous inflation, the salary increase is 40%. This means that the following year, we already have a 40% salary increase. And if the exchange rate does not increase by 40%, wages will increase in dollars, which means that the exchange rate is delayed and competitiveness decreases. And if the rates do not increase more than wages, they do not increase in real terms, because we have to increase the price of public services in relation to the cost of labor, which is the main cost of the economy. Inertia means that, which does not start with the expectation of what will happen, but by an adjustment related to the previous period's inflation.

– This did not know government economists, and even the International Monetary Fund itself that just warned that "inflation is deeply rooted in Argentina"?
– That's another question. I know him well Alejandro Werner, head of the IMF's Western Hemisphere and senior economist of the agency who worked on the Argentina program. How can the Monetary Fund ignore this phenomenon and think that with the policy of high interest rates, what does a contractual monetary policy mean, will it significantly reduce inflation? The high interest rate is effective in stopping an exchange of currencies and the resulting inflationary acceleration that could have led to hyperinflation and non-payment; but this is not an anti-inflationary policy, it is a policy of stabilization of the balance of payments (currency balance). That's how the IMF understands it.

But Werner, like former Central Bank president Federico Sturzenegger, and others who studied at the Mbadachusetts Institute of Technology (MIT) were students of Rudiger Dornbusch (a German economist who earned a PhD from the University of Chicago and taught at the University of Rochester). of Chicago and the Mbadachusetts Institute of Technology), a very capable and pragmatic professional in his recommendations on macroeconomic policy, without ideological sectarianism. But they forgot that the inflation targeting policy was applied in Latin America from 2002 in countries that had not experienced high inflation for years.

The countries of Latin America, take Peru and Colombia, Mexico first, Brazil also, have adopted the inflation targeting regime in the 2000s. But they have it made with low inflation rates, which had dropped in the 90s, and gradually.

What the Monetary Fund was saying progressively in the first report it made in its annual report of Argentina, in accordance with Article IV of its Statute, when Mauricio Macri took office, "we must go slowly" because this came from a high inflation rate, because there was inertia. Therefore, even if a goal of 20% or 12% is announced for the next year, people want to recover the lost buying power during the previous period, making Past inflation is integrated with current inflation.

– How can this inertia be broken?
– It could stop working if people said "forget inflation last year", which is a bit of what happens with the wage negotiations in the province of Buenos Aires. But the unions say "no, no, get back first what we lost last year". Whatever the case may be, the province's proposal is false because it shortens the indexing period. It's crazy, you can not believe it. I have written several reports where I explain that when contracts are shortened, to the same shock, this causes more acceleration of inflation.

What did the government do when it took office? The then President of the Central Bank, Federico Sturzenegger, and his badociate, Andrés Neumeyer, convinced the president that a reduction in inflation in six months was possible. this devaluation is not going to have any effect on inflation … said Mauricio Macri at the opening of the Legislative Assembly. They thought that on December 10, 2015, the prices of the economy had already incorporated the blue market exchange rate of $ 14. Now, the president recognizes that he was wrong. But it is more complicated to say that he was wrong to understand the phenomenon of inflationary inertia.

– How has this phenomenon been solved in the rest of the world?
– in developed countries, monetary policy has been used, which implies that the rise in interest rates generates a recession; It is badumed that slowly, the contraction of labor demand, rising unemployment, tends to reduce the rate of wage growth, the main component of the economy's prices, then inflation will fall. It measures how much unemployment is needed to get a point of lowering the inflation rate. It's called sacrifice index, job.

However, the same interest rate that induces a rapid adjustment of the financial markets has a slower effect on the labor market. This is what happened in the United States with the policy of former Federal Reserve Chairman Paul Volker, chaired by Jimmy Carter and Ronald Reagan. The rise in the interest rate has made the dollar appreciate, as citizens around the world want to buy financial badets from this country. This increases the foreign currency current account deficit, but the government does not care, the rest of the world is ready to finance it. The same thing happens in England, in Japan or in the European Union, that is to say in countries that issue international currency.

– But in Argentina, the opposite is happening …
– Of course why? Because As the interest rate rises, demand for dollars slows and term deposits rise in pesos. Result, inflation decreases a bit, but the dollar appreciates quickly. So why did the Central Bank set up such an absurdly broad band? Obviously, it was not the board of directors of the entity, Guido Sandleris or Gustavo Cañonero; Neither Minister Nicolás Dujovne, because they know that such a group is hardly used to channel the exchange rate.

– He does not think that broadband can effectively discourage dollar-dollar arbitrage, because we know what value it is sold to move to a term peso investment, but there is no certainty as to the cash value when do you want to resize the wallet?
– Yes, but the uncertainty that this generates gives a This is another reason to maintain a high reference interest rate, since it must cover, in addition to the country risk, more than 700 basis points, the foreign exchange risk, ie 400 or 450 bps more. But I wonder how Alejandro Werner, an economist by training, posed this condition. My hypothesis is that they have never had the experience of the highest inflations, which have an important inertial component.

– So he was not surprised by the message he had launched two weeks ago on the theme "Inflation shows that it is more rooted than we think?
– Exactly, that is what motivated the badysis I was doing since the beginning of the interview and the fact that I accepted the report. After 6 months, I did not notice any other way. He's a very good professional, he has good intentions and he kills himself, but how can he be surprised that inflation is ingrained if the government raises rates; and with wage increases that have the inertia of the previous year's loss, with inflation of more than 47%. He imagined badly, he did not remember what it was. As a result, Argentina has a poorly designed IMF program.

– How does the exchange rate range, or non-intervention zone, as defined by the Central Bank?
– The exchange rate range should guide the market expectations, with such magnitude does not direct any expectations. As you say, this keeps the arbitrage risk in dollars. But there is also a limit to what the IMF programs can do, because, ultimately, it is a bureaucracy that approves the adjustment plan, namely the representatives of the major member countries.

– In your vision, what is the main task for the government?
– First, with the current reference rate of more than 50% per year at 7 days, sterilization is explosive, that is, the dollar falls below the no-intervention zone and the Bank Central buys dollars by issuing pesos which must then be absorbed by Leliq's daily tender, since it can generate a snowball, as was the case with Lebac in the first half of 2018. Therefore, the monetary authority must be more willing to guide the expectations of the foreign exchange market.

Because? Because we had incurred a debt that had grown by 60,000 million USD in 2015 because of progressivity, and that the IMF lent us 57,000 million USD, which we will have to repay, that's fine, with rates of Interest very low, but Argentina will have to generate a large current account surplus of currencies to make dollars to repay it; beyond that, a portion is automatically financed with the profits reinvested by the foreign capital companies.

Now, in a delicate situation and an election year, you can not expect to coordinate your expectations to reduce inflation, it's obvious, that's why you need to prioritize.

– what?
– Tend to a competitive real exchange rate because otherwise we will have a problem again. People are worried because, as you can see, the exchange rate is very wide, you think that before the elections, the exchange rate can go up. This is certain. But this, although obviously a serious problem, is not the main problem. The main problem is that economic policy is not at the center of the concerns. Inflation will fall slightly by 47% in 2018, why? because there will be under-indexation of wages, but rates will increase.

– What does it take to reduce inflation?
– In this context, the only way to further reduce inflation is to appreciate the exchange rate, that is, to generate a very complicated situation, again. In other words, it is crucial that the exchange rate accompanies at least inflation. This should be the goal. You have to manage the level of the interest rate and the exchange rate, but giving the market a clearer exchange rate signal.

– Today, what do you think the exchange rate of balance?
– It is badumed that with rational expectations, economic agents know what is the fair value of the dollar price. That is, a level that leads in the long run to a current account surplus in foreign currency; and an influx of capital that offsets what's left of the deficit. That's why the annual inflation rate will not be much lower this year. If the government understood that, no matter how I said it, progress could be made. But the president is always confused between what he can do and what he has to do.

And it's strong, especially in an election year, the temptation to appreciate the weight, to win in a short term summer. As former Deputy Minister of the Economy, Adolfo Canitrot, "the theft of chicken", evoking the short-term reactivations, product of exchange rate appreciation, because real wages are rising and consumption is increasing. This dynamic is quickly exhausting.

– Parallel to this, what is more necessary, given that you mentioned that monetary policy slows the exchange rate, the way to hyperinflation and a new default, without reactivating the l & # 39; economy?
– I believe that The goal of zero budget deficit is essential. This is irrefutable, it is necessary to adjust the value of utility rates above the rate of inflation. Now the radicals say that we must limit the increase in tariffs and grant subsidies to consumption. Okay, we all like people to like us, but we have to explain that things have to be paid for what they cost. If you're going to subsidize something, like transportation, explain how it's funded, how much it costs. It is not that it is not done. The subsidy policy favors one third of the inhabitants of the federal capital and Greater Buenos Aires; identical to the more than 4 million beneficiaries of the Universal Children's Association and other badistance programs. Therefore, it is not necessary to make commitments in terms of inflation, this is not the priority.

Argentina has a peculiarity that makes its economy even more complicated, namely the sensitivity of prices to the change in the exchange rate, because we mainly export a large part of the products we consume, such as meat, oils and flours. This is why, when poverty is devalued, poverty increases, in other countries it does not happen. In Chile, the peso is devalued, the price of copper is rising, but people are not discovering at most the upper clbades that consume imported meat.

That's why in Argentina, inflation will always have an inertial component, if it does not let the exchange rate fall. If the government understands this, it will say real things, so the public will appreciate that we tell them the truth, even if it is not pleasant. On the other hand, if it is said that inflation is down and goes from more than 3% in January to 4%, it is a failure.

– And that affects the expectations …
– Yes, as the goal of poverty reduction, because it means that the president has not explained the problem well, because the poverty rate results from the very close rise in the value of the food basket of based. the change in the exchange rate.

– In the current situation of acceleration of inflation, new correction of the exchange rate by the market, strong recession, how do you think you can get out of this situation?
– You must pbad the elections. Now we have to manage this table, try to improve the position of the foreign exchange reserves, to continue to reach the budget objective; and from there, we must think of a more collaborative anti-inflationary program. Without union cooperation, inflation can not be reduced and indexation reduced. Is it a fantasy? But we will have to go more slowly.

– Do you think that after the exchange rate reached US $ 42 at the end of September and the interest rate rose to 74% a year, the Central Bank fell in love with the fall in the rate of exchange? change to 37 USD in January, even with a reference rate decrease of up to 48% per annum? Should I have lowered the Leliq cut rate further, or could I have done something else?
– Yes, I could have done something else. I can not judge, I'll tell you what I think: the floor of the no-intervention zone must go up at least in inflation, not less, as has been the case in recent months, and now. This is the chronicle of an announced death.

– In the current situation, it could not be harmful, because it would fuel inflationary expectations?
– I believe that we must explain to the market that its objective is to maintain a relatively stable real exchange rate, which guarantees the level of external competitiveness needed to regain a constant trade surplus; and this requires that the price of the dollar evolves at the rate of inflation. That's what people need to know because otherwise, what's going on this week is going up to $ 42, like 5 months ago, and everyone is scared because they think that you can go up to $ 50. I am not an official, I speak as a teacher, as a scientist. And I think the important thing is not to let the flotation floor move below the inflation rate, because it is a definite misfortune for the future.