Argentina’s government is making preparations to default for the 10th time on its sovereign debt since independence from Spain in 1816. A century ago, the country’s GDP per person was higher than Germany’s or France’s and its future looked bright, attracting many migrants from Europe. Argentina possesses a bounty of natural resources, including fertile agricultural land, large shale oil and gas reserves, lithium and the world’s best red meat and wines (Malbec, obviously), just to name a few. Now, its GDP per head is two-thirds of that of puny Uruguay across the Rio de la Plata. Argentina’s decline has been largely self-inflicted and basically comes down to its government spending more than it earns and then monetize the difference instead of structurally reducing the spending gap.
This time, again, we see the same pattern. The government of Alberto Fernández defaulted on USD 65 billion of sovereign debt in May 2020 (after his predecessor, Mauricio Macri, failed to tame fiscal deficits in time). It then negotiated a deal with foreign private investors that was too expensive; bondholders received 55 cents on the dollar with capital payments to start in July 2024, whereas the government still owed USD 45 billion to the IMF. At the time, we predicted that this would result in another default in 3 years’ time or so (see “The Mummy Returns”, November 2020), reckoning that old policies of another Fernández (Cristina, also known as “CFK”, the vice-president who is really calling the shots) would prevail and that the IMF would give in to unrealistic economic projections, fearing to trigger the biggest loan default in its history. And that is, unfortunately, what happened. Of course, the covid-19 pandemic complicated matters (which is why the government should have driven a harder bargain with bondholders) but the core of the problem is, once more, overspending and, then, printing money.
The IMF agreed to restructure its debt profile only in January of this year after long and tense discussions with Martín Guzmán, the economy minister. Part of the deal was that Argentina was required to reduce its fiscal primary deficit to 2.5% of GDP this year and to 0.9% in 2024 and that money printing would slow to 1% of GDP this year and to 0% in 2024. The government exclaimed that all this would be possible without making spending cuts as economic growth miraculously would kick in to improve its finances. In any case, debt repayments would only start after the presidential elections of 2023, neatly deferring the heavy lifting to a new government. The IMF wired USD 4 billion to Buenos Aires at the end of June in the foolish belief that the government still was in compliance with the performance criteria. However, in July Mr. Guzmán resigned, tired of having to continuously resist calls for higher spending and government intervention (i.e. subsidies, price freezes) by CFK’s Kirchneristas within the Peronist coalition. Although markets were not inspired when Mr. Guzmán, a relatively unknown economist from Columbia University, was appointed in 2019, he gained some trust during his time in office (undeservedly, we think). He was replaced by Silvina Batakis, an underwhelming civil servant who in the past served under Daniel Scioli as economy minister of the province of Buenos Aires. She is seen as an ally of CFK and expressed heterodox beliefs on monetary and fiscal policies in the past. Markets predictably reacted badly, sending the unofficial rate of the dollar (referred to as Blue rate) to 335 pesos (or rather, pesitos), more than 2.5 times the official rate of 133. Alberto Fernández quickly shortened Silvina’s career as economy minister, parking her in Banco Nación (apparently no qualifications required for that job!), and appointing Sergio Massa instead. The Blue rate relented somewhat following his appointment and is now trading at 285.
I already can count to 10…
Mr. Massa is a veteran politician, and before being appointed economy minister, for which he doesn’t possess any verifiable qualifications, he operated as the Peronist leader of the lower house in congress. He has presidential ambitions of his own (he unsuccessfully ran for office in 2015) and grabbed this opportunity to claim a “super ministry”, also overseeing manufacturing and agricultural policy. Mr. Massa is considered a moderate Peronist, if something like that exists, but he defended populist and protectionist economic policies in the past when it suited him (he is a so-called “agile” politician, some would rate him as unreliable). He has his work cut out for him. Inflation is exceeding 60% without a peak yet in sight whereas net reserves are running down (USD 3.5 billion as of end of June against an IMF target of USD 6.4 billion). The economy is uncompetitive as export earnings have to be sold at an unrealistically expensive exchange rate. Imports are restricted due to unavailability of foreign exchange, which means that crucial investments are canceled or, at best, postponed. Likewise, foreign direct investments have all but dried up, despite the many attractive opportunities that Argentina theoretically could offer. In any case, investments are ultra-low as business confidence has cratered. Farmers don’t sell their (soybean) inventories for dollars because they are forced to keep the proceeds in pesos at a deeply negative real yield. Government expenditures are high at around 40% of GDP (similar to another big-spender, Brazil, but well above the 27% of Chile and Mexico), whereas spending efficiency is poor (for example, spending on mistargeted electricity and fuel subsidies which mainly benefit the well-off). Nearly 40% of Argentines now live in poverty (ironically, most of them unknowingly voted for poverty by electing Fernández-Fernández in 2019).
The medicine is quite straightforward: restructure debt to a sustainable level, cut spending and subsidies, stop printing money, let the peso float, create a modest social spending program to support the poor by being more efficient in collecting taxes, and liberalize the economy, starting with labour reforms, cutting of red tape and lifting protectionist measures. It will not be pretty but desperate times call for drastic measures.
Austerity…?
Will Mr. Massa deliver? Unlikely, in our view. He doesn’t seem to have a plan or a team to execute. Yes, he said he will make an end to energy subsidies and will refrain from using the money printing press, but without offering any details. In any case, CFK surely will challenge a drastic austerity drive, which she believes is unnecessary. It looks like a mission impossible, in our view, especially with the group of ignorant policymakers surrounding Mr. Massa. Why did he get into this position? Massa has presidential ambitions and is not known for underestimating his own abilities to fix things (despite many failures). He might have thought he can muddle through by doing just enough to get to the primaries next year without getting into a screaming match with CFK. Having burned most bridges with other political groups within or outside the Peronist clique, he might have considered this his best path to the presidency in 2023. But time is running out for Argentina. Of course, we hope he will succeed, but we are afraid that Sergio Massa is unlikely to receive a happy ending…