Argentina and the IMF’s Love-Hate Relationship, Little to Celebrate in Washington, Gaining Leverag

summary
  • Argentina and the IMF: A bad case of déjà vu
  • Congressional distractions will limit U.S. economic policy
  • Capital markets get drawn into the trade war

Relations between Argentina and the International Monetary Fund (IMF) have been stressed from the beginning. The Latin American nation was not invited to the 1944 Bretton Woods conference that established the IMF. Two years later, Argentina was invited to join, but then-Argentine President Juan Perón declined, calling the body an “imperialist spawn.” Argentina reconsidered and joined the IMF in 1956, marking the beginning of a love-hate relationship that has grown deeper with time.

In its turbulent economic history, Argentina has turned to the Fund on numerous occasions. Some have been successful; others less so. In October 2018, the IMF approved financial assistance to Argentina of $56 billion, the largest loan in the history of the Fund. Everything seemed fine until last month, when the country’s fortunes took a sharp negative turn. It now appears that the IMF may have thrown good money after bad.

Argentina’s current president, Mauricio Macri, came into the office under challenging circumstances but was widely praised for his reformist agenda. He lifted capital controls to borrow more at low interest rates, with the proceeds used to lift the economy. But by the middle of 2018, rising protectionism caused a reversal in sentiment and capital flows. The peso depreciated sharply (it has lost two-thirds of its value versus the U.S. dollar since early 2018), pushing inflation to more than 50% this year.

Weekly Economic Commentary - 10/04/19 - Chart 1

With over $100 billion in foreign debt, well in excess of its reserves, Argentina is facing the risk of default. Its problem is not liquidity, as the government tries to suggest. For most of the past three decades, Argentina has had the lowest total reserves (24% of total external debt) among the major emerging economies. Argentine banks have been tapping into their central bank reserves to fund swelling client withdrawals. The country’s foreign reserve levels, a key target for the IMF, have dipped by $15 billion since mid-August, making adherence to repayment schedules almost impossible.

With pressure mounting, the Macri administration announced a plan to extend debt maturities, including monies owed to the IMF. This step is an admission of financial defeat, one that will be costly for him and for his country. The situation will also prove costly for the IMF, and not just monetarily.

“Argentina is likely headed for its ninth sovereign default.”

Questions are being raised about the IMF’s approach to Argentina. After over 20 bailouts, Argentina’s excessive borrowing and repeated defaults suggest the country’s problems are beyond the IMF’s ability to correct. While the IMF has indicated that it will “continue to stand with Argentina during these challenging times,” it has not yet disbursed the next tranche ($5.4 billion) of funds due under the most recent bailout.

An important condition that the IMF attaches to most of its financial assistance is fiscal austerity. President Macri relied on a gradual approach to bringing public spending down, hoping that steady growth and access to foreign borrowing would lift the economy out of its rut. Unfortunately, things did not go as planned.

The government also failed to rein in inflation, partly owing to its 2018 adoption of “a floating exchange rate regime without intervention,” advocated by the IMF. For most of the 1990s, Argentina had successfully contained inflation through its use of a fixed exchange rate.

Weekly Economic Commentary - 10/04/19 - Chart 2