Argentina – Bursting With Optimism

I was sitting on a Peruvian horse – a Paso Peruano – in a dry riverbed headed 24 miles down valley from Cafayate, Argentina, to Colalao del Valle. The two Argentines I rode between were mixing their basic English with my rudimentary Spanish to make a passionate point.

“We are so excited by [Mauricio] Macri’s election. He has already made major changes that are good and more are coming. I think the future is very bright for Argentina.”

“No matter what you think of Obama, his visit here is a big deal here,” said another Argentine later to a friend, “This opens the door for participating in the global economy.”

Some version of these two conversations occurred over and over again as I spoke with both Salteños and Porteños, two different and usually conflicting groups, during my recent visit to Argentina. I have not seen this level of optimism for a country’s prospects for quite some time.

What’s So Exciting About Mauricio Macri?
The release of pent-up excitement has a lot to do with the last 90+ years in Argentina. As we discussed here in the Daily Pfennig® newsletter two years ago, it has been a long hard road.

Quoting from that prior article, “Before and during the First World War, Argentina made the Top 10 List of richest countries in the world per capita. Vast natural resources and the agricultural powerhouse of the Pampas drove a successful export economy. Staying mostly out of the World Wars certainly was an economic bonanza. Magnificent homes, offices, public buildings, and the famous Recoleta in Buenos Aires still celebrate this golden age.”

Today, the country has fallen to 81st in the world based on per capita gross domestic product (GDP).1 Despite its rich natural resources, prolific agricultural export industry, and diversified industrial base, Argentina’s economy has suffered over the past 100 years from crony government policies, devastating recessions, persistent government deficit spending, sovereign instability, increasing debt levels, high rates of inflation, and falling foreign direct investment.

Since about 1930, the government has traded hands between brutal military rule and populous politicians. The 20th anniversary of the most recent coup on March 24 drew a massive demonstration of remembrance and “never again” to the main plaza in Buenos Aires; 30,000 people are confirmed dead or “disappeared” from that period. There were six military coups between 1930 and 1976.2

And, no matter how wonderfully Madonna sang, the populous political party built around Juan Peron and his wife Evita had a devastating impact on the economy. Under the recent 12-year rule of Néstor Kirchner and his widow Cristina, the economy became progressively more isolated, generated an inflation rate over 30%, and was marked by massive corruption.3 Some estimates show as much as half of the government spending budget was misdirected.

Specifically, official inflation rates – most recently reported at 26.7% for 2015 by INDEC4 (Argentina’s national statistics institute), but believed to be closer to 30% to 40% by private estimates – have been an additional problem dogging the Argentinian monetary authorities – a struggle pitting extensive government spending on social programs against high external debts levels, spending deficits, and declining currency values. The nation’s paradoxical trade policy of using export taxes and high import tariffs to control the free flow of capital and goods has severely affected the flow of foreign direct investment into the economy (Figure #1).

Fig. #1
Foreign Direct Investment In Latin America & The Caribbean (Billions USD)

Source: Economic Commission for Latin America and the Caribbean.

Changes Coming To Argentina
In response to decades of hyperinflation, slow growth, and economic volatility, Argentina’s citizens have spoken with a resounding voice for reform. Argentina’s most recent presidential election in November 2015 found an underdog candidate, Mauricio Macri, claiming a narrow victory over the Peronist Justicialist Party candidate, whose populist ideology has all but dominated the Argentinian political landscape since 1976.5 President Macri’s platform for change, which included the unwinding of economic controls, abatement of unsustainable subsidies, balancing of budgets, mending of relationships with foreign investors, and increasing transparency of dubious government economic accounting, played well with an increasingly frustrated population.

Once assuming office, President Macri’s new finance minister almost immediately removed currency controls implemented by the previous administration in November 2011, an effort employed to restrict access to Argentina’s stock of foreign reserves.6 The control measures, known as el cepo or “the clamp,” all but limited Argentines’ ability to purchase U.S. dollars as protection against persistent domestic hyperinflation. El cepo eventually created a parallel black-market currency exchange system, the blue-dollar rate, where Argentines could exchange pesos at a market-based rate versus the government’s official rate.

Not surprisingly, before the change, the official government exchange rate predictably listed at a substantial premium to the black market rate was, at times, as much as 100% above actual market-based rates. Once these currency controls were lifted, the official peso exchange rate was devalued to levels in line with market rates (Figure #2). Clearly, this was a difficult decision for an economy already beleaguered by high rates of inflation, but a necessary step in unwinding a series of government controls.

Fig. #2
USD/ARS Official Exchange Rate vs. Argentina “Blue Dollar” Rate

Source:; @DolarBlue.

Concurrent with the devaluation of the peso, President Macri reduced or eliminated export tariffs on important agricultural products including wheat, beef, corn, and soya,7 helping to encourage the exportation of products previously hoarded by farmers and producers. Multinational corporations with operations in Argentina will similarly benefit from the lifting of currency controls, allowing them more flexibility in repatriating profits to respective domiciles.8

In another bold step by the new president, Mr. Macri declared a “national statistical emergency” in December 2015, halting the publishing of government economic figures until such time that the National Institute of Statistics and Census of Argentina can report more believable figures. The move should help to regain confidence lost through years of reported economic data that even the International Monetary Fund (IMF) refused to accept as legitimate.9

And, as a parting gesture, the Cristina Kirchner government placed over 1,000 people in government jobs without purpose. President Macri unilaterally fired all of these people.10

Speaking with a friend at a Buenos Aires lunch, another supporter-packing tale came out. A good friend of hers took over one of the ministries. Shortly after assuming power, a review of duties was made. The new minister found over 300 people on the payroll who had never been seen on site, and had no job duties listed. Obvious actions were taken.

One step at a time…

There’s Heavy Lifting Ahead
While President Macri’s aggressive pace of reforms has certainly gained the attention of both the Argentine citizens and the global community, the real challenge for the new president in turning Argentina’s prospects around will be addressing the government’s deficit spending on social programs, trade imbalances, and attracting foreign investment capital into the economy.

The Macri government has inherited a significant budget deficit of 5.8%. The plan is to trim this deficit each of the next several years, and re-allocate what spending remains to productive activity. The first cut will be one percentage point by the end of 2016 to -4.8%, and eventually down to -0.3% by the end of 2019.11

Much of this comes from massive subsidies – typical of a populous government. These need to be dialed down slowly so that the masses can handle the increases and so that the unions do not compromise the freer market approach with unreasonable wage demands. For example, an electricity bill in Buenos Aires that was 25 pesos per month under Kirchner (about $1.80) has been raised 500% and is typical of changes that need to occur.12

President Macri has sought to rekindle relationships with western economies to attract capital, abandoning leftist affiliations with Cuba and Venezuela that had been nurtured by the previous administration. His efforts appear to be working, as the American Chamber of Commerce in Argentina expects $2.3 billion in investments from U.S. corporations over the next 18-months.13 In a further attempt to mend ways with the international investment community, President Macri recently resolved a 15-year-old dispute with hedge fund investors holding claims against Argentina’s 2001 debt default, paying claimants $4.65 billion in cash to resolve the litigation.14 The resolution of this dispute should help to reopen Argentina to capital investment, and permit the country’s return to the international credit markets.

Unquestionably, Argentina has a long road to recovery ahead. Balancing a domestic budget rife with social program spending will be a herculean test for the new president, particularly given the fact that the government remains dominated by members of the previous Peronist regime. Rekindling growth while containing further inflation will also likely require unpopular initiatives. Yet, judging by President Macri’s first 100 days in office, he appears to be the right leader to address these challenges.

Until the next Daily Pfennig® edition…

Onward and upward.

Frank Trotter
EVP & Chairman
EverBank Global Markets Group