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The $ 50 billion deal between the International Monetary Fund and Argentina fails. Earlier this month, a $ 3 billion disbursement was postponed as the IMF and the country's government continued to negotiate in Buenos Aires. The peso prolonged its precipitous fall against the greenback.
The weakness of the reform program of President Mauricio Macri, coupled with the misdiagnosis of the problems of Argentina, is the backdrop of this misery. In December 2015, Macri replaced the left-wing populist Cristina Fernández de Kirchner. It has inherited a rapidly growing public sector, large budget deficits due to massive subsidies for key products, annual inflation of more than 30%, capital controls and currency exchange system. With a narrow majority in the National Congress and in mid-term elections in October 2017, Macri has adopted a gradual approach to reform.
This strategy has yielded few results. The purchasing power of the lower middle class – Mr. Macri's main supporters – has deteriorated with the economy. The government imposed a tax on the holders of non-resident debt issued by the Argentine central bank on April 25, which caused a capital flight and a cascade of events that once again put Argentina and the peso in the tank. According to our measure, the annual inflation rate is now 123%.
In June, Argentina did what it did on several occasions: it called the IMF. The country has launched 20 such programs over the last 60 years. The story does not offer many reasons to be optimistic about the current deal.
Consider the last program, which ended badly in 2001. Horst Köhler, then Managing Director of the IMF, postponed the $ 1.3 billion disbursement scheduled for November 2001, even though Buenos Aires had met the budget target of IMF for the third quarter. IMF delays have fueled a fire. This eventually led to the suspension of the IMF program, the collapse of the economy and general political chaos. With its current carry forward of payments, the IMF is playing with fire again.
The IMF is traditionally obsessed with everything related to public finances: the financing of debt rollovers and the trajectory of deficits. True to its form, the IMF's diagnosis again focused mainly on Argentina's budget deficit. The organization has proposed a loan agreement pending to ensure a gradual closure of the deficit. Although loans are subject to conditions, the IMF has neglected most of Argentina's problems. As a result, the country is committed to applying gradual fiscal tightening and a standard dose of anti-proliferation drugs to the IMF.
Yet Argentina needs sound policies on money and growth. For sound money, we think, along with Nobelist John Hicks, that there is nothing more important than a balance sheet. Consider the collapse in 2001 of the convertibility system of Argentina. This system, unlike a real currency panel, left the Central Bank of Argentina a great discretion, which it used with an imprudent abandonment. Its net domestic assets have fluctuated widely, which is inconsistent with a truly fixed exchange rate. Inevitably, the record announced the coming storm.
Looking at the current balance sheet of the central bank, we find three serious problems. The first is that its monetary liabilities, that is the monetary base, have increased at excessive rates. From 2008 until Mr. Macri took over in 2015, the annual base rate increased by an average of 26%. With the arrival of Mr. Macri, this rate accelerated to 29%. These rates have had the effect of controlling inflation to meet the central bank's inflation targets. It is not surprising that the Argentineans have no confidence in their monetary system.
Second problem: the central bank carries out many activities that go far beyond its traditional monetary functions. The institution plays an important role in directly financing the government and acting as a government agent in providing foreign exchange to meet Argentina's external obligations. This forced the central bank to sterilize the creation of pesos resulting from these foreign exchange transactions. The largest item on the liabilities side of the central bank's balance sheet is the debt issued to absorb excess pesos created as a government agent in the foreign exchange market.
The incestuous relationship between the federal government and the central bank is also reflected in balance sheet assets. The largest asset class is government credit – following the Kirchner government's theft of the central bank's foreign exchange reserves for domestic spending and its replacement with a public debt denominated in pesos. More recently, this is a result of the Macri government's desire to fund excessive government spending programs.
The third problem is simply the gigantic size of the balance sheet. Normally, central bank balance sheets are only slightly higher than the monetary base and are generally between 10% and 25% of the broad money supply. In Argentina, the total liabilities of the bank are almost five times higher than the monetary base. And if that is not enough, the balance sheet of the central bank is wider than the broadest definition of money in Argentina.
The record has been abused for generations. Consider the appalling results. The average annual inflation rates for Argentina in the 1950s, 1960s, 1970s, 1980s and 1990s were 27.6%, 22.6%, 107.3%, 319.2% and 58.1% respectively. . Argentina experienced a wave of hyperinflation in 1989-90, when monthly inflation peaked at 197%. Multiple devaluations of the peso also accompanied this terrible record of inflation.
It is time to make official what Argentines adopt whenever they feel a storm: dollarization. The central bank and the peso should be neutralized and transferred to a museum.
Dollarization would guarantee a rapid return to growth in Argentina. At the same time, it could also solve the problem of over-indebtedness of Argentina. To ensure success, the peso-dollar exchange rate used in the dollarization process should be set at a level that underestimates the deceased peso. This favorable growth rate would make the economy very competitive. Once assured of monetary stability in dollars, the capital would be flooded. Add to that a 20-year debt repayment schedule during which the government would be prohibited from borrowing at home or abroad and Argentina would develop quickly and could become indebted. free.
Mr. Hanke is Professor of Applied Economics at Johns Hopkins University. Mr. Greenwood is Chief Economist at Invesco in London.
