In a run-off in November of last year, Argentina chose a new president, Javier Milei. A self-described anarcho-capitalist, Mr. Milei wielded a chainsaw during election campaigns to get his point across to voters that the government’s expenditures should be shredded. The previous government of Alberto Fernández, a wife-beating Peronist in thrall to Cristina Fernández de Kirchner, the party’s corrupt leader, was printing money to finance the government, resulting in high fiscal deficits (10% of GDP) and run-away debts (90% of GDP). FX controls, imposed to halt capital flight, led to an uncompetitive peso and distorted prices with inflation running at 140% per annum. Clearly, something had to give, thus Argentines chose for radical change.

¡No hay plata! 

Mr. Milei makes a strange figure in politics. He did not have much political experience (he became a MP in 2021) but served as an economist (and a rather “liberal” one, supporting legalization of the human organs trade, for example), TV panelist and tantric sex coach (confiding the public that he enjoys threesomes). His deceased dog, named Conan, with whom he communicates through a spiritual medium, told him to run for president. He promised voters that as president he would swap the peso for the dollar and burn down the central bank. He would reduce the country’s deficit to zero, getting rid of 10 ministries (from 18 to 8), privatize state companies and make a bonfire of red tape. His biography, written by Juan Luis González and published earlier this year, is called “El Loco” (the madman). What is there not to like about Javier Milei?

But a loco is maybe exactly what Argentina needs to win support for the drastic measures required to turn the economy around. Milei’s party, La Libertad Avanza, only got 15% of seats in the lower house so success hinges on Milei’s personal popularity. Fortunately, Argentines tend to embrace plain-speaking populists. He had his work cut out for him. First of all, Milei assembled a competent economic team, led by Luis Caputo as minister of economy and Santiago Bausili as governor of the central bank (reportedly his remuneration package includes free fire insurance). He devalued the peso by over 50% and scrapped electricity subsidies more or less on day one of his presidency. Import taxes were raised and export taxes extended. Government spending was curtailed by firing non-productive bureaucrats and holding down public salaries and pensions, reducing their real value. The primary fiscal balance for 2024 is expected to be +1.7%, helped by a recovery in agricultural exports and a rising surplus in the energy sector (partly thanks to a new investment incentive scheme, called RIGI). The non-sensical dollarization plan was quietly shelfed. Inflation, after an initial surge due to the devaluation, came down to 2.4% in the month November, a 4-year low. Still, next year’s inflation is forecasted at 35% (Bloomberg). Economic growth surprised on the upside with 3.4% in 3Q24 with analysts now forecasting an economic contraction of 3.5% in 2024 but a strong recovery next year. In July of this year, Milei appointed Federico Sturzenegger, a competent economist and former central banker, to deregulate and transform the economy.

So far, so good. Dollar government bond yields came down from 23.7% to 11.0%, according to J.P. Morgan, a clear vote of confidence from international investors. But there are still significant challenges to overcome. The peso’s valuation is one of them. The central bank has adopted a crawling-peg regime with a monthly devaluation of 2%, which is below the inflation rate, making the peso expensive. The free rate (known as the “dólar blue”) is at 1,200/USD compared to the official rate of currently 1,026/USD. This gap needs to be bridged if the government wants to make the peso freely convertible (with the goal to further stimulate the economy by attracting foreign capital and reviving tourism). This is dependent on the trajectory of inflation and economic growth. We are less concerned on growth as Milei already made big strides in this respect and has clear and sound plans for the future (including abolishing import taxes, though labour market reforms still have a long way to go). Implementation of these plans may depend on the mid-term elections coming October; hopefully, he and coalition partners will gain a majority in both houses of congress. Clearly, Milei’s chances of winning elections will dependent on the economic outlook as many Argentines have fallen on economically very hard times (the poverty rate has exceeded 50%; unfortunately unavoidable, in our view) and patience will eventually run out (unemployment may become a more important election topic than inflation). Thus, achieving economic successes are important for his political mandate. Managing inflation is a bigger issue, in our view, and only possible with positive real interest rates (making holding pesos more attractive), but this would obviously incur fiscal costs (higher debt servicing costs). This is a difficult balancing act, but we think that the government should make the peso convertible. It will make the economy more competitive and would be a confident signal to foreigners that the country is open for business. Finally, some of the fiscal savings may not be sustainable in the longer run, for example holding down real wages. The government should replace this with efficient tax policies and effective collection mechanisms.

It is likely that Argentina will agree a new financing program with the IMF next year. We expect that the U.S. will stand behind Mr. Milei’s Argentina (given his friendship with Mr. Trump) and that generous terms (including provision of fresh money which can be used to strengthen the economy and establish an efficient social policy to address poverty but not to support the peso) could help Argentina to lift currency controls somewhere next year. Risky, but when executed properly by his economic team, possible. This is all conditional on El Loco staying the course and not getting sidetracked into culture wars and fights with his friends in congress. A big if, but that would open the road to make Argentina great again…