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Rating Report
Long-term forex rating: BB
Short-term forex rating: B
Republic of Argentina
Local currency rating: BB+
Argentina’s quasi currency board1, or Convertibility Plan, is now in its eighth year. It continues to
attract strong and widespread social and political support, partly because of the still fresh
memories of hyperinflation in 1989-90, but increasingly because of the impressive economic
results it has delivered. Real gdp this year will be almost 60 per cent above its 1990 level – an
average annual growth of 6 per cent, notwithstanding the tequila-induced recession of 1995.
Inflation has been virtually zero for three years. The credibility of the policy regime increased
markedly after withstanding the stress test of the tequila shock, when the government introduced
austerity measures on the eve of presidential elections and the electorate returned the incumbent
President Menem. This strengthened credibility has stood Argentina in good stead over the past
year and is readily demonstrated by the markedly different behaviour of bank deposits and
interest rates this year compared to 1995. September’s peak in interest rates was only half that of
1995 while bank deposits, which fell by almost a fifth in 1995, have merely stopped growing
since August and are still 12 per cent higher than a year ago. This also reflects a key achievement
since 1995 – a much stronger banking system.
All this is important since the coming year will certainly see a change of president and probably a
change of government. President Menem cannot run for a third consecutive term (at least not
without reinterpreting the constitution, which he has declined to do). Meanwhile his Peronist
party is running second in the polls
Real gdp
to the newly formed “Alianza” 1990=100
170
between the centre-right Radicals,
who formed Argentina’s first
160
tequila
civilian regime after the military fell
crisis
150
in 1983 - and the centre-left Frepaso,
140
formed in 1994 by dissident
Convertibility
130
Peronists. The Alianza candidate,
chosen in November primaries, will
120
be Fernando de la Rúa, currently
110
mayor of Buenos Aires. His Peronist
100
opponent is still to be chosen but
90
will probably be Eduardo Duhalde,
governor of Buenos Aires province,
1975 1977 1979 1981 1983 1985 1987 1989 1991 1993 1995 1997 1999
from the traditional wing of the Source: Economy Ministry & Fitch IBCA forecasts
party. The key point is that both
candidates are pledged to uphold Convertibility. Whatever dissatisfaction may sometimes be
1 Quasi currency board for two reasons. Firstly, up to a third of the backing for the monetary base can be provided by
USD-denominated government debt instruments, diluting the strictest definition of a currency board in which base money is
fully backed with gold and foreign exchange reserves. Secondly, Argentina is a dollarised economy in which almost half of broad
money is in the form of USD-denominated bank deposits. Thus, capital inflows may raise money supply directly, without having
to be converted into pesos. Throughout this report the term Convertibility is used interchangeably with the reform process in
Argentina. Strictly speaking, however, some reforms predate Convertibility.
ARGENTINA:12/98:137
expressed with the rigidities of the system, any candidate thought likely to tinker with the system
would rapidly fall from favour. Moreover, only Congress can change the system, which would
require a constitutional amendment. Convertibility is here to stay for the foreseeable future.
The downside of the system, especially for a highly indebted country like Argentina, was
demonstrated forcefully in 1995 and is now being done so again, though to a much lesser extent.
Argentina is highly dependent on foreign capital markets, not only to finance its balance of
payments but also its budget deficit. So when market access is restricted, interest rates rise and
fiscal policy has to be tightened, sufficient to reduce the borrowing requirement, including
amortisation, to what can be financed locally. Although this is an important discipline and indeed
essential for Convertibility to be sustained, it also serves to emphasise that the underlying fiscal
position is still not strong enough. Although the federal budget deficit has come down to almost 1
per cent of gdp, amortisation – both domestic and foreign – is almost three times higher, resulting
in a gross borrowing requirement of USD14½bln this year, equivalent to over 4 per cent of gdp.
Only about a third of this will be financed domestically. The virtual impossibility of confining the
borrowing requirement to what can be financed domestically, particularly in a crisis, is consistent
with market estimates, implicit in capital market yields, which persistently put devaluation risk
above default risk. Both, it should be stressed, are very low, having risen to 2-3 per cent per
annum in September but now only half that amount2.
In practice, however, the government’s efforts to keep to tight fiscal targets, under the auspices of
successive IMF programmes, have always brought increased official financial support at times of
crisis. This backstop of support, underpinned by increased policy credibility since 1995, allowed
Argentina to regain market access within two months of the Russian default compared to five
months after the tequila crisis. Nevertheless, although this demonstrates the strong international
support for Argentina’s policy regime, it also emphasises its reliance on foreign credit and its
vulnerability to any weakening of the policy regime. Mindful of this, the latest IMF programme, a
contingency facility agreed in February, spans a three year period including the first year of the
administration which will take office at the end of 1999. Moreover, the policy framework was
discussed with opposition representatives before its approval.
The federal budget was almost balanced in 1994 but a deficit of 2 per cent of gdp had emerged by
1996 due to recession, on top of some policy loosening through 1994. Although the deficit has
now been halved, this has not been easy, despite 8.6 per cent gdp growth last year. Since
expenditure/gdp has been roughly flat (with non-interest spending/gdp falling) this largely
reflects disappointing revenue growth, despite numerous tax packages, tax reform and efforts to
reduce evasion. With social security reform still costing over 1 per cent of gdp annually, the
underlying position is in small surplus. However, against that has to be set the deficit at
provincial level, which left the consolidated general government in deficit to the tune of around 4
per cent of gdp in 1995-6, though this has probably now fallen to nearer 3 per cent of gdp. The
government introduced a system of triennial budgets last year that envisages continued deficit
reduction in the medium-term. However, it is disappointing that a balanced budget is only to be
achieved by 2001 and that budget balance over the economic cycle is still some way off.
Moreover, after a USD350mln overrun this year, next year’s target has been relaxed by a similar
amount. The worry is not that Argentina’s public debt – at less than 40 per cent of gdp and now
2
The relevant data are provided on page 20.
ARGENTINA:12/98:2
stable – is particularly high. Rather it is that Argentina’s scope for deficit finance is still very
limited so that without a stronger fiscal starting position, policy must continue to be pro-cyclical.
This is a general problem in Latin America but one that that is accentuated under Convertibility.
Although Convertibility encourages fiscal responsibility, which is undoubtedly a strength, fiscal
weakness remains a key constraint on the rating.
High unemployment reflects the other main weakness – still rigid labour markets. Although
unemployment has fallen since its 1995 peak, at over 12 per cent it remains high, albeit including
underemployment. Moreover, last year’s fall of 3½ percentage points took a rate of gdp growth
that will not soon be repeated and a growth in temporary contracts that are now being phased out.
In the 1980s, Chile achieved a fall in unemployment from over 20 per cent to single digits in four
years by combining sustained gdp growth of over 6 per cent per annum with flexible labour
markets. Argentina has had much the same rate of gdp growth in the 1990s but an unemployment
rate that is still 6 per cent higher than in 1991 and now likely to start rising again. The
government has been struggling to achieve labour reform since 1996. However, the measures
finally approved this year fell well short of original intentions and will at best bring little
improvement and could even make matters worse. Without a more flexible labour market,
unemployment will take the brunt of adjustment to economic shocks and could eventually erode
support for the policy regime. Having said that, economic realities mean that de facto reform
continues, even in the absence of de jure reform.
Argentine exports to Brazil have risen from 12 per cent of the total in 1990 to over 30 per cent
now, increasing Argentina’s vulnerability to events in its larger neighbour. Indeed, its
dependence on Brazil long since overtook Argentina’s dependence on particular commodities,
with the export structure now quite diverse. Surprisingly, energy is now the biggest single
commodity export category, slightly ahead of cereals, although the soya complex in all its forms
comes in bigger still at 14 per cent of the total. Dependence on Brazil has been accentuated by
Mercosur, which has been criticised for encouraging undue trade diversion. However, although
developments in Brazil are clearly important to Argentina, their importance can be exaggerated.
Firstly, like Argentina’s exports in general, a large proportion of exports to Brazil are
commodities that are readily diverted. And because of Argentina’s still low export share, total
exports to Brazil amount to less than 3 per cent of gdp. Contagion effects have been more
important this year, triggered by the Russian crisis. However, here too there are signs that
markets are learning to discriminate better, witness the speed of Argentina’s re-entry to markets
in October. It is often argued that a collapse of Brazil’s Real plan would risk an end to
Convertibility too. However, this is also an exaggeration. Although in present circumstances this
could bring recession to Argentina rather than just a slowdown, provided present policies
continued, they would attract support from the international community. It would be easier for
the international community to draw a line in the sand in Argentina than in Brazil, because the
policy regime starts with more credibility and the financing requirements are much smaller.
Doubts about the sustainability of the fixed exchange rate have virtually disappeared. Inflation
below international levels began to deliver lower relative prices from 1994 and these are now
almost 10 per cent below their 1993 peak. Moreover, with strong productivity growth and low
nominal wage growth, relative unit labour costs have fallen even faster and may be back to their
1991 level. Export volumes have doubled under Convertibility. Argentina is thus a potent
example of how to achieve a lower real exchange rate, higher competitiveness and strong export
ARGENTINA:12/98:337
growth without a nominal devaluation. By contrast, devaluation in 1995 would have been
disastrous. Nevertheless, there is a valid question as to whether parity with the USD makes sense
long-term. However, although it may, at some future date, seem appropriate to introduce a more
flexibile exchange rate system, e.g. through a link to a currency basket or even a free float, to be
successful this would have to be done from a position of strength, when the change would in
practice have little impact. Such a change is still largely hypothetical.
There has been a trend rise in saving and investment ratios since their lows in the late 1980s/early
1990s. However, they still have a long way to go to regain the levels common in the 1970-80s.
Moreover, investment has risen faster than saving and the current account deficit has widened. Of
course, to a large extent this reflects improved access to foreign capital. However, financing
constraints have begun to bite again and further increases in investment will have to be matched
by higher savings. Rising incomes, pension reform, financial reform etc. are all making a
contribution but it will be a slow process. Sustained increases in these variables, as for most
countries in the region, will be important determinants of the evolution of the rating.
The current account deficit hit 3½-4 per cent of gdp in 1994 and again in 1998 and may be the
maximum the market is prepared to finance. It is difficult to say for sure because both years saw
external shocks that put the deficit into reverse. Earlier this year the IMF raised concerns about
the pace of deterioration of the trade deficit and argued that policy should be tightened. The
authorities felt that the market would achieve this automatically and indeed, that is what has
happened, albeit triggered by an external shock. Adding in amortisation, the gross external
financing need will be USD20bln this year (6 per cent of gdp). Only a third of this is covered by
FDI. The bottom line is that Argentina still has one of the highest gross debt burdens of any rated
sovereign, with a limited ability to absorb higher levels of external debt. Debt ratios are
approaching 40 per cent of gdp and will reach 360 per cent of exports this year because of weak
commodity prices. In net terms the position has stabilised at around 25 per cent of gdp and 220230 per cent of exports. These are
still very high figures, however,
Gross external debt:exports
although the debt:export ratio is high
%
also due to Argentina’s relatively
450
low share of exports. Moreover, this
400
is a narrow definition of net debt
350
that excludes the foreign assets of
private
300
the non-bank private sector which
250
are growing through portfolio
200
public
diversification. And it is important
150
to note the distinction between the
100
public and private sectors. Public
50
external debt has stabilised at 25 per
0
cent of gdp; it is private sector debt
1991 1992 1993 1994 1995 1996 1997 1998 1999
that has risen from virtually nothing Source: Economy Ministry and Fitch IBCA estimates/forecasts
before Convertibility to 14 per cent
of gdp now. Much of that is inevitable but the high starting position of the public debt inevitably
impacts on what increase in private sector debt is sustainable.
Over two-thirds of public external debt is now bonds, up slightly since the Brady deal, with 30
ARGENTINA:12/98:4
per cent of this being foreign holdings of domestically issued bonds. However, less than
USD1bln of this is short-term. Total public external short-term debt is less than USD2bln. By
contrast, short-term private sector debt is much bigger, at an estimated USD27bln with just over
half of this inter-bank. However, Argentine banks have amongst the highest liquidity
requirements in the world and have a roughly balanced net external position.
Argentina continues its efforts to lengthen the maturity profile of its debt and the average life of
new issues exceeded 14 years in both 1997 and 1998. However, there is a near-term peak in
public amortisation of USD8bln in 2000. Given that the longest maturity debt currently
outstanding is 30 years, a totally smooth maturity profile would involve annual public
amortisation of less than USD3bln. Although this is perhaps an unrealistic objective, it
nevertheless gives an idea of what still needs to be achieved in public debt management, which
has improved significantly. Meanwhile, the country as a whole will need to roll over as much as
USD7bln of bond debt per annum in the early years of the next decade. The debt service ratio
remains over 40 per cent, second only to Brazil amongst emerging markets. Argentina will
therefore continue acutely vulnerable to loss of capital market access, putting a heavy premium
on policies that command foreign confidence and support and reduce its vulnerability over time.
Political and social setting
The 1990s have brought unaccustomed political and economic stability to Argentina.3 The slide
into hyperinflation in 1989, at the end of the first civilian administration since before the military
coup of 1976, proved to be a watershed. In political terms it traumatised the population and
created a strong consensus in favour of stability, demonstrated by the re-election of President
Menem in May 1995, amid the fallout from the tequila crisis. In economic terms it triggered the
introduction of Convertibility and the intensification of the reforms underpinning it, the benefits
of which are clear from the co-incidence of strong economic growth and falling - now zero inflation for most of the decade.
The first democratic transition in sixty years took place in July 1989 in chaotic circumstances.
Hyperinflation forced outgoing President Raul Alfonsín of the Radical Civic Union (UCR Radicals) to hand over five months early. President Carlos Menem of the Peronist party (Partido
Justicialista – PJ) was elected on a populist platform promising, inter alia, a moratorium on the
external debt. Although the rhetoric was quickly abandoned, his term had a troubled start with the
failure of his initial stabilisation plans and continuing unrest in the army. However, after another
bout of hyperinflation in 1990, his fortunes changed markedly with the appointment of Domingo
Cavallo as Economy Minister and the introduction of the Convertibility Plan in March 1991. The
subsequent dramatic decline in inflation and revival of growth boosted the Peronists in
congressional elections in 1991 and 1993 and allowed Menem to rally sufficient congressional
support for a new constitution, allowing him to seek re-election in 1995.
The 1994 constitution retained the federal structure in which each of the 23 provinces has its own
constitution and elects its own governor and legislators. However, the mayor of the Federal
District of Buenos Aires, previously a presidential appointee, was directly elected starting in
1996. Moreover, the six-year single-term presidency chosen by electoral college was replaced by
a directly-elected four-year presidency with the option of one consecutive renewal. Presidential
3
For a summary of Argentina’s political and economic history, see the May 1997 report.
ARGENTINA:12/98:537
elections are based on the French two-round model, with the difference that winning 45 per cent
of the vote (or 40 per cent if the nearest challenger is over 10 percentage points behind) results in
a first-round victory. As a quid pro quo for UCR support for the re-election amendment,
President Menem agreed to the creation of a Chief of the Cabinet, approved by congress, the
intention being to dilute somewhat the power of the presidency, although little in practice has
changed.
The system under which the 257-seat Chamber of Deputies is elected for staggered four-year
terms, with half the deputies re-elected every two years, was retained. Deputies are elected by
proportional representation from provincial party lists, giving the party leadership considerable
power. Membership of the Senate continues to be determined by provincial legislatures but the
number of senators was raised to 72 – three for each of the provinces and the Federal District.
Two represent the party with the largest number of votes while the new third member represents
the leading opposition group. Terms were reduced from nine to six years but the elections due in
1998 were suspended, with all members instead facing re-election in 2001. Thereafter, one-third
of senators will face election every two years.
In May 1995 President Menem was re-elected in the first round with almost 50 per cent of the
vote. José Octavio Bordon of the centre-left Frepaso coalition, formed in 1994, came second with
just under 30 per cent while the UCR candidate, Horacio Massaccessi, won just 17 per cent - the
partys worst performance since 1916. In simultaneous elections for the Chamber of Deputies the
Peronists won only 23 per cent but still increased their seats to an absolute majority. The
elections were a forceful demonstration of the priority the electorate now attached to stability.
Despite an austerity package unveiled on the eve of the election in response to the tequila crisis,
the continuation of President Menem and especially Domingo Cavallo - the two guarantors of
Convertibility – seemed paramount. However, government popularity eventually did suffer from
deepening recession, straining the personal relationship between Menem and Cavallo.
Encouragingly, when Cavallo was finally dismissed in July 1996, significant pressure on the peso
did not materialise. The defence of Convertibility in 1995 had significantly strengthened its
credibility, making it less dependent on a particular economy minister.
In August 1997 the UCR and Frepaso joined forces as the “Alianza” to fight October 1997’s
congressional and the 1999 presidential elections. This had been discussed on and off since 1995
but the differences between the parties seemed too wide to bridge. Ultimately, however, it was
the only way to beat the Peronists. The Alianza successfully tapped anti-government sentiment,
winning 46 per cent of the vote in 1997 compared to the Peronists’ 36 per cent, raising their share
of deputies to 43 per cent. Although the Peronists remained the largest single grouping they were
reduced to a plurality in the lower chamber, though retaining control of the Senate.4
4
The Senate will not be directly elected until 2001, until when the PJ will retain a majority
ARGENTINA:12/98:6
Composition of Congress after the October 1997 elections*
Total seats in
Chamber of Deputies
% share votes
% share Total deputies
in Oct97 of deputies
in 1995
Partido Justicialista (PJ - Peronists)
Alianza
o/w Unión Cívica Radical (UCR - Radicals)
Frente del País Solidario (Frepaso)
Others
119
110
36
46
46.3
42.8
28
18
Total
257
100
Seats in
Senate
10.9
137
n/a
69
26
25
39
n/a
18
1
14
100
257
72
* Half the Chamber of Deputies is elected every two years. The last Senate election was in 1995.
Source: INDEC, HILFE
The loss of the government’s majority has inevitably led to delays in its legislative programme.
However, at least as big a constraint has been a growing split within the Peronists, brought to a
head by calls from Menem supporters for him to stand for a third term. Although the Constitution
restricts a president to two consecutive terms, it was argued that since President Menem was
elected under the old Constitution, he could technically run for a second term under the new one.
The Supreme Court would have had to judge, which given its domination by Menem appointees5
exacerbated concerns about the weakness of Argentina’s judiciary. Indeed, the opposition
threatened to impeach members of the Supreme Court who voted in Menem’s favour. However,
its opinion was not in fact needed. Although President Menem did announce in July that he
would seek a third term, within the space of a week he ruled himself out of the race when it
became clear that his re-election risked splitting the party. This marks an important step towards
strengthening Argentine institutions although there is still a long way to go. In recognition of this,
Argentina is the first country to agree to the inclusion of judicial and othe second generation
reforms in its IMF programme. A new independent body to appoint judges began work in
November.
Candidates for the October 1999 election are still being selected. The Peronist candidate will be
chosen by primaries in April. President Menem is supporting Ramón Palito Ortega, a popular
singer and former governor of Tucumán province, elevated to social welfare secretary in April.
However, he is polling well behind Eduardo Duhalde, governor of Buenos Aires province and
Menem’s former vice president. He has long seen himself as Menem’s successor and is from the
more traditional wing of the party. Yet by campaigning against a third term for Menem and
bringing the party to the brink of a split, he has alienated himself from a large section of it. A
victory for the more traditionalist Duhalde would probably see structural reforms and particularly
labour reforms pursued with less vigour than under Menem. However, it may ultimately be in
Menem’s interests, if he expects his party to lose next year, to support Duhalde since this could
leave Menem clear to run for re-election in 2003, which the Constitution does permit. Menem
will remain head of the PJ until 2002.
The Alianza candidate, chosen in primaries at the end of November, will be Fernando de la Rúa,
UCR mayor of Buenos Aires. He fought off a strong challenge from Graciela Fernández Meijide,
5
The Supreme Court has 9 members appointed for life by the President, subject to Senate ratification. Although
the PJ and UCR agreed in 1994 that future appointments would be from a mutually agreed list, this will affect
the composition of the Supreme Court only gradually.
ARGENTINA:12/98:737
a Frepaso congresswoman elected to the legislature in Buenos Aires province last year in a high
profile win over Duhalde’s wife Hilda, for the Peronists. Rivalries between the two main parties
to the Alianza intensified in the run up to the primaries and were reflected in tensions between
the two contenders. These could intensify over the next year as the Alianza fleshes out its
manifesto. However, since it currently seems highly unlikely that one of the parties could win the
presidency on its own, the alliance is likely to hold. A split would raise the chances of a Peronist
victory.
To judge from opinion polls the next president will be de la Rúa, whichever Peronist candidate
he might face. The electorate has been in the mood for change for some time so that provided the
Alianza holds together, it is most likely to win. The economic situation is one factor that might
affect the result. Whilst slower growth and rising unemployment will further undermine the
government over the coming year, a forced devaluation in Brazil might well swing votes back to
the government. Although Alianza leaders have pledged to keep Convertibility, the strength of
that pledge is untested. In fact politicians on both sides – Duhalde for the Peronists and former
UCR president Alfonsín - have questioned their parties’ adherence to Convertibility. When
pressed, however, both have couched their doubts in a long-term context. The basic point is that
so much political and economic capital is invested in Convertibility that it is almost
inconceivable any politician would seek to change it, especially in a crisis. It is not a defining
issue between the parties.
The economic model more generally also enjoys cross-party consensus. Although a detailed
economic programme is not available, Alianza spokesmen have confirmed that they would
maintain Convertibility’s main underpinnings, notably a prudent fiscal policy and economic
liberalisation. Policy continuity will be encouraged by the fact that the third year of the IMF
programme, which the IMF discussed with Alianza representatives before it was approved, will
extend into the first year of the next administration. Moreover, the Senate is currently considering
a Fiscal Responsibility proposal which would put a legal limit to the budget deficit. Alianza
objectives are: in the economic sphere, job creation, particularly in small enterprises, better
income distribution and strengthened competition policy; in the social sphere, better education
provision; and at the political level, improved governance through greater transparency and a
more independent judiciary.
The government’s unpopularity, despite obvious economic success, is partly a reflection of high
unemployment. To his credit, President Menem has pushed for labour market reform but
electoral considerations have made meaningful reform difficult (see separate section). Another
important issue is perceived high levels of corruption. Domingo Cavallo has been particularly
critical of the government and was elected to congress in October largely on this issue. He is an
independent candidate for the presidency and with 10 per cent of the vote his endorsement at the
second round stage could be critical. A year ago we drew attention to the Corruption Perception
Index compiled by Transparency International which ranks countries in terms of corruption as
perceived by businessmen. The 1996 survey showed Argentina among the least corrupt countries
in the region, contrary to local perceptions. However, subsequent polls show a deterioration, with
Argentina now ranked the same as Thailand and between Mexico and Venezuela in regional
terms. The deterioration may in part be due to the publicity the issue has achieved and the
government has also taken issue with the subjective nature of the ranking. Nevertheless, for one
of the richer emerging markets it scores surprisingly low – only just above considerably poorer
ARGENTINA:12/98:8
countries such as Egypt and India.
The most striking feature of Argentinas foreign relations under President Menem has been the
warm relationship with the US, in sharp contrast to the situation from 1942 to 1991. Argentina
has withdrawn from the non-aligned movement and ratified nuclear non-proliferation treaties. It
was the only Latin American country to send troops to the Gulf war and was involved in all four
stages of the military intervention in Haiti. Regional political and economic relations also
continue to improve, spurred by Mercosur. Finally, since the 1990 restoration of diplomatic ties,
relations with Britain have steadily improved, as emphasised by President Menem’s recent
official visit to London. The Malvinas/Falklands Islands obviously remain a sensitivity: with
neither side willing to concede over sovereignty the approach has been to agree to differ. This
allowed an agreement in 1995 over oil exploration in the surrounding ocean, though fishing
rights have proved more contentious.
Structural features and reform
Argentina is a relatively rich country. Its gdp per capita of USD9530 (1996 PPP) is second only
to Chile among the major countries in the region and a quarter above the average for all upper
middle income countries. Between 1857 and 1930, six million mainly European immigrants
arrived and together with the rich soil of the pampas and technology-driven improvements in the
agricultural sector made Argentina one of the ten wealthiest countries in the world. The collapse
of the world trading system during the Great Depression and the onset of WWII then set in train a
long period of decline, accentuated by growing political instability and policy mismanagement.
Nevertheless, the legacy of Argentina’s advantageous starting point is still evident today in a
well-educated workforce of above average life expectancy. Its projected population growth of 1
per cent per annum6 is amongst the lowest in the region and per capita incomes have begun to
catch up again.
The reforms undertaken by the Menem
administration since 1989 abandoned
Per capita gdp
1990 prices and exchange rates
most of the failed structure of protection
and state direction built up in the post
1990=100
war period. Average tariffs were reduced
150
from over a quarter in 1989 to around 11Chile
140
12 per cent now – not far above the
region’s lowest – while privatisation has
130
Argentina
been the most ambitious of any country
120
in the region, extending to the state oil
company as well as utilities and the
110
Latin American
transport infrastructure. The proportion
average
100
of value added contributed by non1990 1991 1992 1993 1994 1995 1996 1997
financial public enterprises in 1990-95 is Source: IDB
estimated by the World Bank to have
fallen to just 1.3 per cent, compared to 5 per cent in Mexico and 8 per cent in Chile and Brazil.
FDI rose quickly to almost 2 per cent of gdp in 1992, boosted by some large privatisations.
6
World Bank projection for the period 1996-2010, World Development Indicators 1998
ARGENTINA:12/98:937
Changing structure of gdp
Although it then subsided, growing FDI not
related to privatisation has gradually brought
the figures back to 2 per cent of gdp again.
The only major element of the Peronist
legacy that has proved too politically
contentious for radical overhaul is labour
legislation – although a start has been made
here too (see “Labour market reform”).
1990=100
220
200
construction
180
160
mining
services
140
manufacturing
120
100
agriculture
The reforms are increasingly permitting the
80
re-exploitation of Argentina’s comparative
1990 1991 1992 1993 1994 1995 1996 1997
advantage in natural resources, including
agriculture and minerals. Agriculture is well Source: Economy Ministry
diversified. Large, mechanised farms benefit from a favourable climate and some of the worlds
most fertile soils. However, prior to Convertibility the sector performed well below potential,
reflecting years of under investment, serious phytosanitary shortcomings, as well as heavy export
taxes. Now, access to new technology, fertilisers and agro-chemicals, together with foreign
investment, have lifted production substantially. On the demand side, eradication of foot and
mouth disease has opened the US market to Argentine meat exports for the first time in many
years and expansion of demand in Brazil has also been beneficial. Higher international
commodity prices have also helped, at least until this year. Yet despite all this, the sector has
grown only 2½ per cent per annum since 1990, well behind most other sectors of the economy.
There is a general problem of measurement, given that the national accounts – based on 1986
prices – fail to reflect the major structural and relative price changes of the past decade.
Revisions currently underway are likely to show a more dynamic picture. For the agricultural
sector, national accounts include not only
crops but also livestock, forestry and
Export volumes
fishing. Crop production has almost
doubled since 1990. Nevertheless, the
1990=100
relative sluggishness of agriculture is
400
disappointing, particularly given its
350
importance to exports. Exports have been
300
more buoyant, however. Primary product
energy
industrial
250
manufactures
and manufactures of agricultural origin
200
primary products
have both grown by over 6 per cent
150
annually in volume since 1990. However,
100
agricultural
this is still only half the rate of growth of
50
manufactures
0
manufactured exports in the period. It is
interesting to note that the agricultural
1988198919901991199219931994199519961997
sector has been amongst the least popular Source: INDEC
destinations for FDI.
Construction has been the fastest growing sector, averaging 11.3 per cent annual growth since
1990 and an estimated 25 per cent growth last year alone. This reflects a general investment
boom in all sectors, making up for past neglect, and especially in the privatised utilities. It also
reflects growing access to credit, notably mortgage lending which is a relatively recent
ARGENTINA:12/98:10
phenomenon. Mining has been the
next fastest growing sector. Argentina
Stock of FDI by sector, 1997
has similar geological characteristics
Mining
Agriculture
to Bolivia and Chile and recent
(7.9 per cent)
(0.5 per cent)
exploitation, particularly by foreign
Non-financial
services (9.1 per cent)
investors, is reflected in the virtually 8
per cent annual growth in the sector
since 1990. The potential this has for
exports can be seen from the specific
Finance
Manufacturing
(14.5 per cent)
(35.2 per cent)
example of the energy sector.
Argentina is the third largest oil and
natural gas producer in Latin America
Infrastructure
after Venezuela and Mexico.
(32.8 per cent)
Privatisation and deregulation of the
Source: Centro de Estudios para la Produccion
oil industry have transformed YPF,
the erstwhile state oil producer, into a
world class company. YPF started exporting oil to Chile in 1994 and, given Argentinas large
natural gas reserves relative to consumption, expects to be exporting large quantities of gas to
Brazil early in the next decade. Exports of fuel and energy, including electricity, have tripled in
volume since 1990 and now account for over 12 per cent of exports.
Foreign investors have begun to overhaul many areas of manufacturing, particularly food
processing, and increasingly view Argentina as a desirable site from which to service the rapidly
growing Brazilian market. Manufacturing output growth has averaged over 5 per cent annually
since 1990 and showed over 10 per cent growth at the end of last year. Export volume growth has
been even faster, averaging over 20 per
cent annually since 1992. Such figures
Export
do not suggest any lack of export
%
of
exports
competitiveness (see “Monetary policy
dependence
and the exchange rate”).
35
30
Brazil
Stabilisation in neighbouring Brazil
primary
25
commodities
together with growing integration within
20
Mercosur has made Brazil Argentinas
15
leading export market since 1995, when
it overtook the EU. Most Argentine
10
exports now enter Brazil duty free. The
5
trend is accelerating with Brazil now
0
taking over 30 per cent of Argentine
1989 1990 1991 1992 1993 1994 1995 1996 1997
exports, compared to the EU’s less than
Source: INDEC, Economy Ministry
20 per cent. Argentina is therefore more
highly exposed than before to developments in Brazil. Having said that, exports to Brazil have in
fact been fairly robust to downturns in Brazilian demand in the recent past, though those
downturns have not yet proved to be very prolonged. Moreover, like Argentina’s exports in
general, over a quarter of exports to Brazil are primary commodities and fairly readily diverted.
ARGENTINA:12/98:1137
Export structure, 1997
cereals
11%
other primary
industrial
Trade with Mercosur has been
commodities
manufactures
rising twice as fast as overall trade
10%
31%
and the arrangement has been
criticised for diverting trade; the
auto regime has come in for
fuels & energy
particular criticism with both the
12%
US and EU lodging complaints
with the WTO. Foreign companies
agricultural
have an incentive to set up in both
manufactures
Source: Economy Ministry
36%
countries but imports into
Argentina have to be matched by
exports, in practice to Brazil. This has resulted in substantial offsetting trade flows between the
two. Autos have grown from only 4 per cent of bilateral trade in 1990 to over 20 per cent now.
Nevertheless, stripping out auto trade reduces manufactured export volume growth only slightly
below 20 per cent per annum and does not change the story of generally buoyant manufactured
export growth. A new auto trade regime was recently announced to start in January 2000.
Exports to Brazil now outstrip Argentina’s primary commodity exports, emphasising that primary
commodity dependence is no longer Argentina’s prime vulnerability. Commodity exports are
well diversified. The biggest single category, comprising half the total, is cereals (especially
wheat). However, these amount to only 11 per cent of all exports, slightly less than fuels and
energy. The other half is a mixed bag of commodities including, in order of importance, fish,
fruit, vegetables, soya beans and cotton. Statistical classification is important, however. In fact
the single most important agricultural
export is the soya complex, which in all
Trade shares
its forms (from beans to oil) comprises
14 per cent of all exports. The fall in
goods & services
world commodity prices since the
% gdp
Asian crisis has had an impact on
40
export earnings this year. However, as
35
exports
imports
30
an indication of how Argentina’s export
25
structure has changed, the fall in oil
20
15
prices will have a bigger quantitative
10
effect than the fall in any other single
5
0
commodity price. And although
Brazil
USA Australia
Mexico
Korea
Argentina’s terms of trade have
Argentina India
China
Russia
Canada
declined over the past year, for the first
time since 1991, the decline is nowhere Source: World Bank
near as severe as experienced in the
early and mid-1980s.
At the turn of the century Argentina was the tenth largest trading nation in the world. During the
1920s exports and imports together averaged 35 per cent of gdp. But by the 1970s Argentina had
become a very closed economy with the trade ratio reduced to about 6 per cent by tariffs and
quotas. By 1994 trade reform had started to reverse this trend and openness has continued to
climb, reaching 20 per cent of gdp last year. Nevertheless, these trade shares are still low by
ARGENTINA:12/98:12
international standards. Argentina’s relatively high per capita income suggests that import
penetration still has some way to go. Likewise, a country with Argentinas natural resource
endowment should enjoy an export/gdp ratio of at least 10 per cent and arguably nearer 20 per
cent - on a par with Australia for example. Argentinas low export/gdp ratio has important
implications for its capacity to service external debt and is reflected in a relatively high
debt/exports ratio (see “External debt and debt management”).
Labour market reform
May-98
May-97
May-96
May-95
May-94
May-93
May-92
May-91
May-90
May-89
Unemployment has risen sharply in the 1990s. This contrasts with the experience of the 1980s
when, despite minimal growth, unemployment was fairly stable at around 5.5 per cent. Then,
high and variable inflation permitted real wages to fall. In the 1990s, however, stable prices and
sticky nominal wages have reduced real wage flexibility. With public sector job cuts reducing
demand and rising participation rates (low by Latin American standards even now at 42.4 per
cent in May 1998) contributing to labour force growth of 2½ per cent per annum, unemployment
has borne the brunt of adjustment. Labour costs also remain high, despite some reduction in
employer social security contributions in 1996; fiscal weaknesses have constrained further
reductions. The cost of labour relative to capital has been further raised by trade liberalisation.
Meanwhile, pervasive institutional
constraints discourage hiring and
Unemployment
firing. These include centralised
collective
bargaining;
high,
%
compulsory severance payments;
20
18
and rigid employment contracts. The
16
post-tequila recession made matters
14
worse, raising unemployment to a
12
10
peak of 18.4 per cent in May 19957.
8
This put unemployment at the top of
6
the agenda for President Menem’s
4
2
second term. However, reform has
0
been politically difficult and those
approved this year fall well short of
original ambitions.
Source: INDEC
Proposals were introduced to Congress in late 1996 aimed at decentralising collective bargaining,
reforming severance pay arrangements and cutting non-wage costs. The World Bank estimated
that the reforms could bring unemployment down by 8 percentage points in two years. It is worth
noting that during Chile’s recovery from recession in the 1980s, a fall in unemployment from
over 20 per cent to single digits took 4 years of sustained gdp growth averaging over 6 per cent
per annum and flexible labour markets. Argentina has had much the same growth rate in the
1990s but an unemployment rate that is still 6 percentage points higher than in 1991 and now set
to rise again.
Argentina’s unemployment figures appear relatively high, even by developing country standards partly because
they include informal as well as formal unemployment, contributing over 40 per cent of the total. Figures are
collected in a twice yearly labour market survey in May and October. An August survey was also taken in 1998.
7
ARGENTINA:12/98:1337
Strong congressional opposition, reflecting the important union lobby, prompted President
Menem to impose reforms by decree in December 1996. However, this was subsequently judged
unconstitutional. A protracted period of tripartite negotiation then took place in 1997, finally
resulting in a revised set of proposals sent to congress in July, supported by the main trade union
(CGT) but opposed by business and other union organisations. Further progress was only made
after a new Labour Minister was appointed in December 1997 and when the IMF made labour
reform a key criterion for the September review of the EFF agreed in February 1998.
Congressional approval was given to a watered down version of the reforms in autumn 1998.
With respect to labour costs they include some reduction in severance payments at the extremes
of the seniority spectrum, but the main reduction will come through tax reform, with a reduction
in payroll taxes from 22.6 per cent to 16.1 per cent (balanced by other tax increases, see “Fiscal
policy”). However, the proposed introduction of greater competition to trade union run health
management organisations (HMOs) was shelved. Private competitors already exist and can be
chosen by new entrants to the labour market, but existing workers cannot switch their
contributions, which amount to 6 per cent of gross wages. Increased labour flexibility will be
achieved by permitting company, as opposed to industry level wage negotiations, but only with
the agreement of the union concerned. Moreover, non-modifiable special labour regimes remain
intact, affecting 10 per cent of the work force and ultraactividad, which allows trade unions to
maintain the status quo by refusing to enter negotiations, is largely untouched. New temporary
contracts will also be abolished. These were introduced in 1995 as a way for employers to avoid
the cost of formal contracts. They have since grown to cover 13 per cent of the workforce in
greater Buenos Aires and have generated most recent job growth.8 However, they have been
strongly criticised by the unions and the IMF agreed to their being phased out gradually.
The growth of temporary contracts and of company level negotiations are examples of growing
de facto labour market flexibility despite rigid de jure regulations. Pressure for reform in this key
are will not go away, particularly with the labour market now set to slacken. However, in the
absence of more thorough-going reform, structural unemployment will remain high, raising a
question mark over the sustainability of the financial discipline on which Convertibility relies. As
the sections on fiscal and monetary policy explain, Argentina has little scope for counter-cyclical
financial policy; indeed policy is strongly pro-cyclical. This puts a greater burden of adjustment
on the labour market and, in the absence of greater flexibility, unemployment.
Banking system
The Convertibility Law severely constrains the central bank’s (BCRA) ability to act as lender of
last resort. Normally its ability to print money is confined to the generally small, USD1-2bln of
international assets in excess of those required to comply with Convertibility9 while the provision
of credit to the banking system is limited to a maximum 30 days. The implications of this
constraint were demonstrated during the tequila crisis when the banking system lost almost a fifth
(USD8bln) of its deposits in five months, leading to a severe liquidity crunch and difficulties for
many banks. However, BCRA showed that it had more room to manoeuvre than generally
8 Similar contracts were introduced in Spain in the mid-1980s and have since grown to account for most
employment gains and to cover a third of the workforce.
9
The arithmetic of the Convertibility Law is reviewed in the next section.
ARGENTINA:12/98:14
supposed and helped the banking system weather the crisis surprisingly well. Reserve
requirements were first reduced and then used to direct liquidity where it was most needed –
mainly to smaller wholesale banks with no retail deposit base and the weaker retail banks that
suffered from a flight to quality. BCRA’s charter was also amended to allow rediscounts beyond
30 days in the case of systemic liquidity problems. Last but not least, resort was made to a
provision of the Convertibility Law allowing BCRA to extend credit to banks up to 20 per cent
(now 33 per cent) of base money in an emergency. Nevertheless, the crisis was the trigger for a
much-needed rationalisation and strengthening of the banking system.
The number of banks has fallen from 168 at the end of 1994 to 112 currently. Public sector banks
have almost halved to 18 as provincial banks have been privatised or closed; domestic-owned
private banks have fallen by 40 per cent, through closure and mergers. Significantly, all ten of the
largest private banks are now part foreign-owned with their share of system deposits having more
than doubled from less than 20 per cent to almost 40 per cent, compared to 27 per cent in
domestic private banks and 34 per cent in public banks (as at April 1998). Although the
Argentine system has amongst the highest level of foreign ownership in the region, this is a
general trend in Latin America that has been an important force for stability over the past year.
The two biggest banks are the state-owned Banco de la Nación Argentina (BNA) and Banco de la
Provincia de Buenos Aires, with a combined market share of 26 per cent. Although the
privatisation of BNA has been mooted, it has proved politically difficult because of its extensive,
socially important, branch network outside Buenos Aires. This part of the country is underbanked and is a focus for expansion by many private banks. However, BNA’s branch network is
highly inefficient. There are also concerns about Y2K compliance in all public sector banks and
indeed throughout the public sector, although there is a target for achieving compliance by end1998, to be tested early in 1999. Another state-owned bank – Banco Hipotecario Nacional (BHN)
– is the fifth largest bank and predominantly a mortgage bank, 25 per cent of which is scheduled
to be sold in the first quarter for perhaps USD0.3-0.4bln.
Banking regulation and supervision is BCRA’s foremost priority. Supervision has been tightened
significantly since 1995 and is now amongst the best in the region, based on quarterly reports by
authorised external auditors. The objective is to ensure that the banking system is strong enough
to withstand the volatility inherent in a currency board in a world of volatile capital flows, with a
minimum of official support. From the point of view of the sovereign rating, this reduces the risk
of banking sector problems triggering difficulties for the sovereign. Risk weighted minimum
capital ratios are well above Basle guidelines and well above even the high Argentine legal
minimum of 11½ per cent, having risen from 18.2 per cent on the eve of the tequila crisis to over
20 per cent at mid-1998 for the system as a whole. Liquidity requirements are amongst the
highest in the world, having doubled from 15 per cent of liabilities - mainly in the form of
deposits in BCRA – in 1994 to around 30 per cent now, where they are targeted to stay. The main
increase was the result of BCRA’s negotiation in December 1996 of a contingency repo facility
with international banks for up to USD7.3bln, allowing banks to repo securities rather than
having to sell them into illiquid conditions. Initially utilised for USD6.1bln, subsequent increases
have kept this facility at roughly 10 per cent of deposits. Meanwhile, Legal Liquidity
Requirements (LLRs) have been raised gradually from 15 per cent of liabilities in February 1996
to 20 per cent in February 1998. Slightly more than half are kept with the New York branch of
Deutsche Bank, with the remainder in the form of repos with BCRA. Repos began to be used
ARGENTINA:12/98:1537
more actively in 1995. Essentially they are an undertaking by BCRA to provide liquidity against
government debt in banks’ portfolios. As such they are a liability that must be matched by BCRA
international assets, in exactly the same way as base money. Indeed, much of the increase in
international reserves since 1995 has its counterpart not in base money but in repos (see
“Monetary policy and the exchange rate”).
A privately run deposit protection scheme (SEDESA) was set up in 1995, but currently contains
only USD0.4bln. It is confined to deposits up to a maximum 30,000 pesos paying rates at or
below officially set maxima. Deposits in weaker banks that have been attracted by an interest rate
risk premium are therefore outside the scope of the scheme, limiting potential liabilities. The
authorities are trying to encourage a culture of depositor self-protection. In an interesting
innovation, BCRA this year hired four credit rating agencies, including Fitch IBCA, to rate
individual banks, with their opinions available to the public.
Bad loans rose during 1995 to peak at 23 per cent of total loans in October. The ratio has since
declined consistently, however, and fell below 10 per cent in mid-1998. However, higher interest
rates and slower growth are likely to have halted this improving trend in the second half. The
ratio for public sector banks is roughly twice that of private sector banks and within the private
sector, bigger banks have better ratios than smaller banks. Provisioning has gradually improved
from just over 38 per cent to approaching 50 per cent over the same period. Net of provisions,
bad loans represented 7.6 per cent of total loans in March 1998, down from a peak of 12½ per
cent in late 1995. Profitability was hit last year, and will be hit again this year, by the fall in
prices of securities in banks’ portfolios. The scheduled introduction of stricter mark-to-market
accounting from mid-1998 has therefore been postponed for a year.
Although the banking system is now fairly strong, this does not mean that banks cannot fail;
indeed the implication of the Argentine system of self-reliance is that some always will. A
medium sized co-operative bank - Banco Mayo – was closed in October after a run on deposits.
Exacerbated by the worldwide credit crunch triggered by the Russian crisis, the bank had
problems due to connected lending, which has subsequently been banned. The issue of Banco
Mayo has raised the issue of the preferential treatment of bank depositors in such a situation10. In
most countries, senior unsecured debt and deposits are ranked pari passu in a liquidation.
However, in Argentina, the probability of loss for senior unsecured creditors could be greater
than that for depositors.
Monetary policy and the exchange rate
In 1989 the Menem administration inherited an economy mired in hyperinflation and recession:
consumer prices rose by almost 200 per cent in July 1989 alone. Initial attempts to tame inflation
were unsuccessful and in December 1989 the government announced the Bonex11 plan. Although
this had many orthodox elements, including the scrapping of wage, price and exchange controls
and an attempt to rein in the budget deficit, it also froze all short-term peso bank deposits,
converting them into 10-year Bonex. Although the Bonex plan succeeded in halting
10
See Fitch IBCA comment of December 4th, 1998
Bonos exteriores “Bonex” are USD-denominated domestic government debt originally created in the 1970s.
They are described in more detail under “Fiscal policy”.
11
ARGENTINA:12/98:16
hyperinflation therefore, this was at the cost of destroying confidence in the financial system.
A weak link in Argentine stabilisation plans in the 1980s, as well as lax fiscal policy, was the
lack of a nominal anchor. The Convertibility Law of April 1991 changed this by establishing
parity between the peso and the USD and denying the government the power to devalue, which
can only be done by Congress. The Convertibility Law transformed BCRA into a currency board,
with base money fully backed by international assets – mainly international reserves but also
including certain USD-denominated government bonds up to a maximum of one third of
unrestricted reserves. Amongst other things, this brought inflationary deficit finance to an end.12
The discipline of Convertibility capitalised on the trauma of the 1989 hyperinflation which has
had a lasting impact on inflation psychology. From almost 5000 per cent in December 1989,
inflation fell to single digits in 1993 and has averaged less than 1 per cent per annum since 1996.
As in all currency boards, movements in international reserves have a direct impact on base
money. The fall-out from the Mexican devaluation at the end of 1994, which triggered major
capital flight and falling international
reserves, was therefore a serious stress test
Convertibility backing
for Convertibility. Markets saw the
per cent
authorities having to choose between
100
devaluation and default, since with reserves
90
earmarked to back base money and
80
international capital markets closed, the only
70
way to avoid a public debt default was to
M0/fex reserves
60
reduce the overall financing requirement –
50
BCRA domestic
including amortisation - to what could be
liabilities/foreign assets
40
bond backing
financed domestically – a virtually
30
impossible task. However, on the eve of
20
presidential elections in May 1995, the
10
0
government introduced an austerity budget.
1991 1992 1993 1994 1995 1996 1997 1998
This not only allowed the IMF and other Source: BCRA
official creditors to increase their support,
thereby easing the credit crunch, it also
played an important part in securing the re-election of President Menem. The electorate voted for
the preservation of Convertibility, demonstrating its strong political underpinnings. Although the
downside of recession and higher unemployment was soon to manifest itself, the government and
the electorate judged this to be a smaller cost than the bigger one that would have resulted from
devaluation. The authorities determination to adhere to Convertibility and reinvigorate
structural reform was decisive for policy credibility. Argentina had regained access to the
international bond market by the second half of the year and bank deposits regained pre-crisis
levels by early 1996.
Central Bank balance sheet
USD bln, end period
1991
1992
1993
1994
1995
1996
1997
1998*
12
BCRA also stopped lending to provincial government banks, which hardened the budget constraint on
provincial governments.
ARGENTINA:12/98:1737
Financial liabilities
Monetary base
Letras, repos, treasury deposits
7.7
7.8
-0.1
11.0
11.0
0.0
15.2
15.0
0.2
16.3
16.3
0.0
17.3
13.8
3.5
20.4
14.1
6.4
22.4
16.0
6.4
24.2
14.4
9.8
Financial assets
International reserves
Government bonds
9.0
7.9
1.1
12.3
11.1
1.3
17.2
15.3
1.9
17.9
16.0
1.9
18.5
16.0
2.5
21.5
19.7
1.8
24.3
22.5
1.8
25.6
24.1
1.5
Excess reserves
Bond backing (per cent)
1.3
14.1
1.5
11.6
2.0
12.6
1.7
11.5
1.2
14.7
1.1
8.8
1.9
8.2
1.4
6.2
* September
Source: BCRA
The strict definition of a currency board constrains the monetary base to international reserves.
And except for a brief period during the tequila crisis this strict definition has been fulfilled, and
increasingly comfortably, to the extent that reserves currently exceed the monetary base by twothirds. Moreover, the Argentine system is more flexible than this due to the provision allowing
BCRA to back up to a third of the monetary base with USD-denominated government bonds.
Some of this leeway was used in 1995, with bond backing at 15 per cent at the end of the year.
However, a broader interpretation of BCRA’s operating rules constrains its domestic monetary
liabilities i.e. the monetary base plus government deposits and repos with the banking system, to
its foreign assets, including USD-denominated government debt paper. As the chart on the
previous page shows, this broader constraint is the more binding one, with much less headroom
than under the narrow definition. The divergence between the two operational definitions of
Convertibility is largely because BCRA has, since 1995, chosen to use the increase in
international reserves to provide liquidity support for the banking system through repos, rather
than to increase base money.
A further departure of the Argentine monetary system from the conventional currency board is its
bi-monetary nature. Although the USD is not, strictly speaking, legal tender, it does circulate
freely and USD contracts are legally enforceable. Moreover, citizens can hold USD-denominated
bank accounts and banks create dollars (so-called Argendollars) in the same way as they create
pesos. USD-denominated deposits rose from 45 per cent of total deposits in 1991 to 54 per cent
in 1996-7, with the figure exceeding 55 per cent at times of heightened risk such as in 1995 and
more recently in October 1998. The bi-monetary system leaves the authorities with even less
control over money supply than under a conventional currency board since capital inflows can
add to broad money directly, without being converted into pesos. Potentially it is an advantage at
times of heightened devaluation risk since a switch into dollars can be accommodated
domestically. The fact that this did not happen in 1995 was partly due to memories of the Bonex
plan and partly due to the perceived weakness of the banks. As the economy has recovered, the
gradual increase in banks liquidity requirements13 has helped dampen the relationship between
capital inflows and deposit growth, and credit growth14. Even with strong credit growth in 1997,
banks remained liquid as credit growth lagged deposit growth.
13
Since the tequila crisis, reserve requirements on peso and dollar deposits have been equalised, with both
denominated in dollars. This means that the act of depositors switching from pesos to dollars has no impact on
international reserves
14
The currency board also rules out the sterilisation of capital inflows.
ARGENTINA:12/98:18
The improved credibility of the Convertibility regime since 1995 is clear from the contrasting
behaviour of monetary variables then, and over the past year. In the first quarter of 1995, the
combination of falling reserves and hence base money, and deposit flight, led to a 15.5 per cent
drop in bi-monetary M3, resulting in a liquidity squeeze which drove prime lending rates up to
over 20 per cent in USD and over 30 per cent in pesos. During the Asian crisis, the impact on
monetary variables, though significant,
has been much less dramatic. Bimonetary M3 growth began to slow after
the crisis intensified in October 1997 but
from a very high rate of nearly 30 per
cent. On the eve of the Russian crisis,
monetary growth was still running at 20
per cent annually. However, between
August and October, as market turmoil
spread to Latin America, money supply
fell by 4 per cent. Although some of this
was recovered in November, annual M3
growth has slowed to 11 per cent.15
Banks’ high liquidity has cushioned
credit growth which has fallen less
sharply from just under 20 per cent a year
ago to 16 per cent in the year to November. This is likely to continue slowing, however.
The rise in interest rates over the past year has also been much less than in 1995. Movements in
USD-denominated local rates are strongly associated with the long-term yields on internationally
traded instruments, making for a very quick transmission of sentiment between international and
local markets. Yields on Argentina’s 5 year global bond (8 3/8) reached a low of 7.9 per cent in
July 1997 but then rose to over 10 per cent as speculation against the HKD and BRL reached a
peak in October. Yields then sank back to 8 per cent in July 1998, before backing up to almost 14
per cent in September. They have since fallen back below 10 per cent. Local prime lending rates
in USD are usually 50-100bp less. However, at times of stress local short-term USD rates tend to
exceed yields on internationally traded debt, presumably due to increased corporate credit risk.
Thus USD prime lending rates rose from a low of 7¼ per cent in July last year to almost 10 per
cent last November, then retraced most of the increase, only to approach 14 per cent after the
Russian crisis. They have subsequently fallen back below 10 per cent. However, this compares
with peaks of over 23 per cent during the tequila crisis.
The table summarises market valuations of country risk and devaluation risk implied by the yield
differentials between similar instruments denominated in pesos and USD, traded domestically
and abroad. Country risk is shown by the spread between USD-denominated CDs traded in
Buenos Aires and New York; currency risk by the difference between USD and peso15
Re-monetisation is reflected in a trend fall in velocity. Bi-monetary M3 as a percentage of gdp has risen from a
low of 6 per cent immediately before Convertibility to an estimated 26 per cent this year. This is slightly higher
than in Brazil but well below the 43 per cent in Chile’s more developed financial system, or the similar ratio
prevailing in Argentina in the 1940s. Clearly monetary growth could exceed nominal gdp growth for several
years to come.
ARGENTINA:12/98:1937
Competitiveness
denominated CDs traded locally. At the low
point in July 1997, country risk was
essentially zero, with high market liquidity
frequently pushing local USD rates below US
rates.
Relative unit labour costs
1990=100
210
190
170
150
130
110
90
70
50
Convertibility
197519771979198119831985198719891991199319951997
Source: IMF and Fitch IBCA estimates
Risk measures in selected periods derived from market instruments
tequila crisis
Mar '95
Jul '97
Nov '97
Russia
crisis
Sep '98
country risk1
4.0
-0.1
0.6
2.5
currency risk 2
10.8
0.8
2.9
2.9
per cent per annum
recent low
Asia crisis
1
yield differential between USD denominated CDs in Argentina and the US
yield differential between locally traded peso and USD denominated CDs
Source: JP Morgan
2
Although the spread rose to 250bp during the Russia crisis, this was one third less than during the
tequila crisis. Interestingly, the market has consistently put devaluation risk higher than default
risk. As already noted, in a stress situation, with limited access to domestic and external credit,
Convertibility would force the government to run a budget surplus in order to meet debt
redemptions, since reserves are earmarked. The market judgement is that in such a situation
Convertibility would be too costly to defend. In practice, however, the trade-off has never been
tested to the limit since the policy regime has been strong enough to attract support from the IMF
and other multilateral lenders, reducing the degree of fiscal tightening required.
Strong gdp growth and a widening trade deficit provoked a debate earlier this year about the need
for policy tightening. The IMF, in particular, made it clear that they favoured both a tighter fiscal
policy and some further increase in reserve requirements in order to restrain credit growth.
However, the authorities argued that since agreed fiscal targets were on track, the growth surge
was a purely private sector phenomenon that would continue as long as it could be financed. And
since credit spreads had widened since November 1997, a slowdown in private sector demand
would inevitably follow. Indeed, the first half did see the start of a slowdown. However, IMF
criticism did lead the government to shelve certain spending projects. Moreover, by focussing
markets on the growing trade deficit, it may have resulted in a more cautious attitude by
international credit providers, thereby accentuating the market discipline that Convertibility
imposes. In the event, these influences were overwhelmed by the Russian crisis which has led to
a much more pronounced slowing in demand (see “Short-term outlook” section).
ARGENTINA:12/98:20
The early years of Convertibility saw a major real exchange rate appreciation as inflation took
three years to fall to international levels. This raised concerns about the long-term viability of
Convertibility which relied on a dynamic export sector to allow renewed growth to be combined
with a sustainable current account deficit. The logic of the Convertibility plan was that structural
reforms would bring faster productivity growth and lower labour costs while fiscal reform would
allow government imposed business costs to be reduced. To a large extent this has happened and
export volume, as described earlier, has been buoyant. The real exchange rate began to depreciate
in 1994 and had fallen by 15 per cent by 1996 in terms of relative consumer prices. The strength
of the USD then began to exert upward pressure that continued until the USD weakened in
September 1998. In 1998 on average we estimate that relative consumer prices will be 5 per cent
higher than 1996, with most of this having occurred in 1997. This would leave this measure of
competitiveness about 8 per cent below its peak in 1993. However, relative unit labour costs,
which capture changes in export profitability as well as changes in price competitiveness, show a
rather more favourable picture. We estimate that manufacturing productivity rose by a
cumulative 17 per cent in 1996-7 which, with nominal earnings flat, translates into much the
same reduction in unit labour costs. This compares to 2 per cent per annum growth in US
business sector labour costs. Thus compared to the US, relative unit labour costs may have fallen
by around a fifth. Although other competitors may have experienced lower labour cost growth
than in the US, and even falls, relative unit labour costs overall are likely to have improved
appreciably. Indeed, we estimate they may now be close to where they were in 1991, roughly the
same as the average for the 1980s.
Fiscal policy
When President Menem took office the public sector was running a deficit of 16 per cent of gdp.
With credibility in financial markets exhausted, budget finance relied totally on the inflation tax.
The string of abortive stabilisation plans, culminating in the hyperinflation of 1989/90, finally
convinced Argentina of the overriding importance of fundamental fiscal adjustment. The early
success of the Convertibility plan was primarily due to the determined efforts of the government
to generate a federal budget surplus in 1991-93. Revenues were greatly strengthened by tax
reform, including an extension of and a rise in the rates of VAT and much stricter tax
enforcement. The eradication of inflation and renewed economic growth were also beneficial.
Fiscal trends
per cent of gdp
Federal government
Current revenue
Tax collection
income
VAT
excise
external trade
fuel
social security
other
Other current revenue
1994
1995
1996
budget -------------------------------1997 1998f 1999f 2000f 2001f
17.4
16.2
2.1
6.2
0.8
1.0
0.7
4.8
0.7
1.2
17.4
15.1
2.2
6.2
0.7
0.7
0.6
4.2
0.3
2.3
15.5
14.5
2.3
6.3
0.6
0.8
0.8
3.5
0.3
1.0
16.5
15.0
2.6
6.3
0.5
0.9
1.2
3.3
0.3
1.5
16.8
16.8
16.1
16.0
ARGENTINA:12/98:2137
Current expenditure
wages and salaries
goods and services
social security
transfers
o/w to provinces
o/w co-participated
interest
16.7
2.7
0.9
5.4
6.7
4.5
3.8
1.1
17.3
2.6
0.9
5.6
6.7
4.4
3.6
1.5
16.3
2.4
0.8
5.2
6.5
4.5
3.7
1.5
17.0
2.3
0.8
5.3
7.0
4.7
3.9
1.8
16.9
16.7
15.6
15.2
Capital expenditure(net)
1.0
1.1
1.2
1.0
1.1
0.9
0.9
0.8
Non-financial federal gov't balance
BCRA quasi fiscal position
Overall federal government balance
-0.3
0.0
-0.3
-1.0
0.1
-0.9
-2.0
0.0
-2.0
-1.4
0.1
-1.3
-1.1
0.1
-1.0
-0.9
0.1
-0.8
-0.3
0.1
-0.3
-0.1
0.1
0.0
memo:
Primary balance
Federal balance before soc.sec. reform
Privatisation
0.8
0.0
0.3
0.5
-0.2
0.4
-0.4
-1.1
0.2
0.3
-0.4
0.0
0.8
0.2
0.3
1.3
1.7
2.0
0.2
0.2
0.1
Consolidated general gov't balance
Federal government
Provinces
-2.3
-1.4
-0.9
-4.0
-2.7
-1.3
-3.8
-3.2
-0.6
n/a
n/a
General government debt
Federal government
Provinces
32.1
28.4
3.7
36.3
31.3
5.0
38.5
33.1
5.4
37.5
32.0
5.5
38.2
Source: Economy Ministry; IMF
Privatisation played a major role in cutting losses and improving efficiency. Privatisation receipts
of USD18bn in 1990-93 were used mainly to pay down domestic debt. These reforms delivered a
budget surplus despite a sustained increase in non-interest expenditure on wages, pensions and
transfers to the provinces.
A small budget deficit re-emerged in 1994, however, despite strengthening economic growth.
Declining social security contributions were mainly responsible, however, following pension
reform which became effective in mid-July. Nevertheless, IMF budget targets became
increasingly difficult to meet and the government eventually announced that it would make no
further drawings from its programme. With hindsight the federal government should have taken
advantage of the strong economy to run a fiscal surplus which would have given it greater room
to manoeuvre in the 1995 tequila crisis.
Recession caused the budget deficit to widen in 1995-6. But prompted by crisis and in contrast to
previous administrations, the government acted promptly to raise taxes, clamp down on evasion
and cut wages and salaries, social security and export subsidies. This contained the federal deficit
to 0.9 per cent of gdp in 1995, no mean achievement given the extent of the downturn. However,
the situation worsened in 1996. Despite constant non-interest expenditure, the primary balance
slipped into deficit as revenues continued to decline. Initial projections of a USD3bn federal
budget deficit were eventually doubled to USD6bn or 2 per cent of gdp. At the same time, many
ARGENTINA:12/98:22
provincial governments ran into severe financial difficulties and, unable to borrow from near
bankrupt provincial banks, growing deficits were increasingly financed by arrears. However, this
enabled the federal authorities to inject a new urgency into provincial reform, including the
privatisation of troubled provincial banks and other enterprises. Thus in 1996 the worsening at
the federal level was offset by a marked improvement at the provincial level, and the
consolidated public sector deficit fell to just under 4 per cent of gdp.16
The recession-induced collapse in revenues exposed weaknesses in the federal budget which also
began to be addressed. A Second Public Sector Reform was announced in March 1996,
streamlining public administration and increasing the efficiency of the tax system. Further
revenue and expenditure measures were passed in September 1996. Together with a recovering
economy, public finances began to improve in 1997. A primary surplus was restored and the
overall federal budget deficit fell to 1.3 per cent of gdp, slightly better than the IMF target.
The 1998 objective was a reduction in the federal deficit to USD3.5bln (1 per cent of gdp). The
first half target was over achieved by USD0.2bln (including USD0.1bn of BCRA profits) but as
well as reflecting further spending restraint this was also partly achieved by once off shifting of
tax deadlines. Seasonal factors have traditionally made compliance with targets more difficult in
the second half and with the economy and tax collection slowing, this year has been no
exception. However, the government has endeavoured to keep the deficit reduction programme
on track. Earlier ambitious spending projects (a major highways programme and increased
teachers’ wages) were scrapped and USD1bn in spending cuts were announced in June. The
intensification of financial market turbulence from August then prompted the announcement of a
spending freeze for the rest of 1998. Third quarter targets were met. Nevertheless, pressures
further intensified in the fourth quarter. An additional round of cuts amounting to USD0.3bln was
announced in October, together with USD0.2bln in revenues advanced from 1999. However, as
part of its December review of Argentine compliance, the IMF said that it was concerned at the
increasing resort to accounting devices such as expenditure re-timing and revenue anticipation
which achieved short-term compliance only at the expense of future problems. In the interests of
fiscal transparency and a more sensible negotiation of 1999 targets, the authorities announced
that they would probably fall short of the 1998 target by USD250-350mln. Beginning with the
1998 budget, the government announced a three-year deficit reduction plan with the target for
2000 a deficit of 0.3 per cent of gdp. Adjusting for the cost of social security reform, the
underlying budget would be in small surplus. The 1999 budget, approved in December, retains
the targets for 1999 and 2000 and rolls forward the plan to 2001, when the overall budget is
projected to be in small surplus. For 1999, the objective was a reduction in the deficit to
USD2.7bln (0.7 per cent of gdp). Non-interest spending was to remain unchanged for the third
year running with the USD1bln (2.1 per cent) increase in overall spending entirely due to higher
interest payments. Revenue excluding privatisation was projected to grow by 3.9 per cent, only
slightly below last year’s increase.
With the budget assumption of only a marginal slowing of gdp growth in the process of being
revised down, however, (see “Short-term outlook…”), revenue projections look ambitious.
16
Some of the increase in the Federal deficit also reflected increased transfers from the centre as well as the decision
of eight provinces to transfer their pension funds to the national system, amounting to USD 0.5bln or 0.2 per cent of
gdp.
ARGENTINA:12/98:2337
Meanwhile, spending pressures are rising as the elections approach. After the overshoot of targets
in 1998, 1999 targets have been relaxed by USD300mln, for a deficit of around 1 per cent of gdp.
Nevertheless, public finances are likely to remain under pressure. Further spending reduction will
be difficult since spending is already low and 60 per cent of it is relatively rigid (interest
payments, social security and transfers to provinces). Any further fiscal adjustment is therefore
likely to concentrate on revenue raising.
Revenues are dominated by VAT, which brought in 42 per cent of all tax revenue last year.
Although this is unusual it is deliberate, given the prevalence of tax evasion, as taxes on spending
are easier to collect than income tax. Social security is the next biggest contributor. However,
contributions have declined since the 1994 social security reform, despite a temporary recovery
last year linked to strong employment growth, and the share is now only 22 per cent. Income tax
continues to grow strongly. A
comprehensive tax reform was approved in
Central government spending & tax
December and is intended to be revenue
revenue
% gdp
neutral, trading cuts in payroll taxes and a
40
halving in VAT on food for reduced VAT
35
exemptions and higher excise taxes. The
30
25
reform is also progressive, with indirect
20
taxes reduced for essentials and raised for
15
luxuries. The marginal rate of income tax
10
5
rises slightly from 33 per cent to 35 per
0
cent although original proposals to widen
Argentina Mexico Venezuela Chile Uruguay Brazil
the base were scrapped. A simplification
of taxation of small companies should help
reduce evasion. Another objective is to
Expenditure
Revenue
discourage debt finance by imposing a 15
per cent tax on interest.
A 10 percentage point reduction in payroll taxes will be phased in during 1999 and is
accompanied by changes to revenue-sharing arrangements which allow the federal government to
retain a greater proportion of increased excise taxes. Otherwise the reform would weaken the
budgetary position. The provinces have very limited own-revenue raising powers, receiving the
bulk of their income in the form of co-participation in earmarked federal tax revenues (chiefly
VAT, but also income tax and excise taxes), supplemented by specific transfers, discretionary
grants and royalties. Federal transfers financed over 50 per cent of provincial government
expenditure in 1995. However, the federal government has no control over their spending and
borrowing. This imparts a significant pro-cyclical bias to fiscal policy, with the provinces awash
with federal transfers in good times, encouraging excessive spending, but bereft of resources in
the bad times, necessitating federal government support. The tax structure has created a tension
between the federal government, which has tried to concentrate its marginal revenue raising on
non-shared taxes, and the provinces, which have resisted efforts to change revenue sharing
arrangements.
Privatisation revenues provide some flexibility. Projected at USD1.1bln this year and a
conservative USD0.8bln next year, these largely relate to sales of remaining shares in already
privatised entities. Following the sale of a concession to run the postal service last year, the main
ARGENTINA:12/98:24
entities for sale are the national mortgage bank, BHN, and remaining shares in YPF, both in Q1.
The roadshow for BHN has already commenced and bids have been sought for a 14.99 per cent
share of YPF. The two together could raise over USD2bln, depending on the state of the market.
In the long-term, although the objective of eliminating the fiscal deficit is clearly welcome, the
fiscal position will remain weaker than in 1993, when the budget was last in surplus. The
inability of the government to generate a surplus in 1997, even adjusting for the cost of social
security reform, when growth was at a cyclical peak, is disappointing. Although the authorities
have demonstrated their ability to control spending, public finances and hence overall
creditworthiness would be strengthened by a stronger revenue effort which would enable the
budget, at a minimum, to be balanced over the cycle. A stronger budgetary position in 1997, as in
1994, would have reduced Argentina’s vulnerability to loss of market access in the following
year, reducing the need for fiscal policy to be pro-cyclical.
Convertibility constrains the budget deficit to what can be financed either domestically or from
abroad.17 However, low domestic savings and under-developed capital markets still make
Argentina heavily reliant on external finance, although the growth of pension funds is gradually
easing the constraint. Since the 1994 pension reform, assets under management in pension funds
have grown from nothing to almost USD10bln, with new inflows running at USD0.3bln monthly.
Pension funds currently have just under half their portfolios in government bonds. Mutual fund
portfolios amount to a further USD7bln. Banks have been major buyers of treasury bills and
occasional providers of longer-term finance. In general, however, the government tries to
minimise its demand on local markets, leaving it for private entities less able to access
international markets. Even with access to external finance now more constrained therefore, the
government will tap external markets as and when conditions permit.
The contribution of the budget deficit to the government’s overall financing need, defined as the
budget deficit plus amortisation, has fallen substantially. With the budget deficit declining but
amortisation rising, the budget deficit amounts to less than a quarter of total financing needs and
half of domestic financing needs. The budget deficit plus amortisation of domestic debt amounts
to just over USD8bln both in 1998 and projected for 1999. This year, domestic finance was
budgeted at USD5bln, with the remaining USD3bln adding to the government’s external
financing need. This compares to only USD2bln raised domestically in 1996.
Federal government sources and uses of funds
USD bln
USES
Federal deficit
Amortisation
foreign
domestic
other
1997
14.1
4.5
8.7
6.0
2.7
0.9
1998
14.4
3.5
9.8
5.1
4.7
1.1
1999
15.0
3.0
11.5
5.9
5.6
0.5
SOURCES
New issues
14.1
12.0
14.4
13.0
15.0
9.6
17
BCRA may purchase government bonds at market prices but total holdings cannot grow by more than 10 per
cent per annum.
ARGENTINA:12/98:2537
foreign
domestic (bontes)
M'lateral loans & privatisation
8.5
3.5
2.1
8.0
5.0
1.4
4.6
5.0
5.4
memo:
fiscal deficit as per cent of uses
foreign issues/total sources
31.9
60.3
24.3
55.6
19.7
30.8
Source: Economy Ministry and Fitch IBCA estimates/forecasts
The main domestic financing instrument is the medium-term bonte; short-term treasury bills
(letes) are also issued but the stock has now stabilised. The authorities began issuing treasury
bills of up to one-year maturity, both peso and USD-denominated, in 1994, with the aim of
developing a deeper domestic money market. This is the only short-term debt issued by the
government. The stock was initially limited to USD2bln but has subsequently risen to just over
USD3bln. USD issuance has slightly outweighed peso issuance, particularly at times of market
turbulence when USD issuance is cheaper.18 Since August, for example, all new issuance has
been in USD with all peso letes refinanced in USD. Treasury bonds (bontes) began to be issued
in 1996 and the stock has now grown to just under USD5bln. The stock is entirely USDdenominated although there is a provision to issue in pesos as well. Bontes have allowed a
gradual lengthening of the domestic yield curve. Two-year paper was issued at first, followed by
five year paper from May 1997. In October 1998, in order to satisfy local demand for long-term
paper, the government began issuing 29-year bontes. Issuance is expected to be USD0.1-0.2bln
monthly, amounting to USD1½-2bln by the end of 1999, with yields similar to those on the 2027
global bond.
These two main debt instruments comprise only 30 per cent of Argentina’s total domestically
issued public debt, however. The largest category of debt dates back to the 1991 Debt
Consolidation Law when six series of bocones were issued to pensioners and suppliers (10 and
16 year maturities respectively; a third in pesos and two-thirds in USD) in lieu of arrears.
Issuance continued until 1996 when the stock peaked at just over USD20bln. However, with
amortisation starting in 1997 the stock is now declining, helped by buybacks.
The next biggest debt category is Bonex. These have a much longer history although the only
ones now outstanding are the 10 year 1989 and 1992 issues, amounting to USD2.4bln. They are
USD denominated, Libor-linked, originally created in the 1970s as a vehicle for capital
repatriation. They have never been in default and have always been exempt from exchange
controls, allowing them to trade internationally, even in the 1980s when the sovereign was in
default and exchange controls were otherwise operative. Indeed, this allowed them to be used by
private entities to service their foreign obligations, with corporates acquiring Bonex with local
currency and then selling them for dollars, either in Uruguay or New York. The attraction for the
authorities was that this allowed some semblance of normality to continue in the private sector,
while not involving a claim on international reserves. The so-called “Bonex clause” continues to
be written into foreign bond contracts today, putting an obligation on the issuer to obtain USD
through Bonex (or any other USD-denominated public debt) if normal access to foreign exchange
18
The authorities were able to continue issuing at the time of the Russian crisis whereas during the tequila crisis
issuance was halted.
ARGENTINA:12/98:26
were restricted. The 1989 Bonex were issued as part of the involuntary exchange of fixed rate,
short-term, local currency bank deposits. The 1992 issue was allocated primarily to BCRA and
other public sector financial institutions for capitalisation purposes.
Consolidated gross public sector debt, having risen from 30 per cent of gdp at the start of the
Convertibility plan, has been stable at around 38 per cent of gdp since 1996. The bulk (85 per
cent) is federal debt, overwhelmingly (90 per cent) foreign currency denominated. Almost threequarters is held by non-residents and is discussed more fully later (“External debt and debt
management”). Domestically issued public debt amounts to around USD28bln, or only 25 per
cent of federal public debt. Three-quarters is USD-denominated with only USD7bln equivalent
peso denominated. Half the total is held by foreigners; about two-thirds of the USD debt and
about a quarter of the peso debt. Short-term debt is confined to the USD3.3bln of letes, now
exclusively USD denominated, of which three-quarters is held locally.
Local currency debt normally attracts a higher credit rating than foreign currency debt because of
the sovereign’s ability to raise taxes and, in the final resort, print money to meet local obligations.
However, Convertibility rules out the option of printing money, at least money that is not backed
by international reserves. Thus Argentina’s ability to service its local currency obligations is
more dependent on its budgetary position, which as we have seen is still subject to strain, and its
access to capital markets. As explained above, the bulk of peso-denominated bonded debt is
USD6.9bln equivalent of 10 and 16-year bocones, issued in 1991 and now amortising on a
monthly basis. Adding in USD 1.25bln of euro-peso debt and a part peso-denominated
syndicated loan advanced in early 1998, total federal peso denominated debt amounts to
USD8.6bln equivalent (2.6 per cent of gdp). Annual amortisation amounts to USD0.5bln; for
comparison, new inflows to pension funds are seven times bigger. Amortisation will rise in 2000
as amortisation of bocones increases and outstanding euro-letras mature in 2002 and 2007. With
the maturing of peso-denominated treasury bills since the Russian crisis, there is no short-term
peso denominated bonded public debt.
Looked at in isolation, the peso-denominated public debt is quite manageable. However, there is
clearly a high degree of substitutability between peso and USD-denominated debt, especially in
the treasury bill market. Although peso-denominated amortisation is only USD0.5bln, total
domestic amortisation will be USD5.6bln next year. Adding in the budget deficit, total
“domestic” financing needs amount to USD8.5bln, USD3.5bln of which is expected to be raised
externally. Although local capital markets are growing therefore, the sovereign could not cover
all its domestic financing needs locally. Thus, the ability to service domestic debt is more
dependent on foreign market access than for most sovereigns, arguing for a closer relationship
between the local and foreign currency ratings. This is even more so given the strong links
between domestic debt and external debt which make it difficult to envisage circumstances in
which a default on the external debt did not trigger a default on peso-denominated domestic debt.
Short-term outlook and the balance of payments
The first two years of Convertibility saw domestic demand growing by almost 17 per cent per
annum as private consumption responded to the steep fall in inflation and investment recovered
from very depressed levels. Imports surged, but gdp still grew by over 10 per cent in both years.
Domestic demand growth subsided to a less hectic pace in 1993-94 and exports began to grow.
ARGENTINA:12/98:2737
Gdp growth declined to a more sustainable 6-8 per cent. Recovery was then blown off course by
the tequila crisis with gdp falling 4.6 per cent in 1995. However, exports continued to grow
strongly, reflecting both sustained productivity gains in the traded goods sector and a
transformation in the mind set of Argentine producers, previously wedded to a protected
domestic market.
Gdp growth and its components
per cent
1992
1993
1994
1995
1996
1997
1998f
1999f
Consumption1
13.3
5.7
6.9
-6.1
5.3
7.8
3.7
2.5
Investment
Domestic demand
Net exports2
33.5
16.6
-6.0
16.0
7.6
-1.7
21.8
9.9
-1.9
-16.3
-8.4
4.4
8.3
5.9
-1.8
26.5
11.4
-3.2
9.0
5.2
-0.7
4.0
2.9
-0.8
Gdp
10.3
6.3
8.5
-4.6
4.3
8.6
4.8
2.3
1
includes stockbuilding ; 2 contribution to gdp growth
Source: Economy Ministry and Fitch IBCA estimates/forecasts
Recovery from the recession was surprisingly rapid and strong, reflecting the speedy restoration
of confidence as evidenced by the repatriation of bank deposits and associated fall in interest
rates. Following four quarters of year-on-year declines starting in Q2 1995 and falling to -8 per
cent in Q3, real gdp growth turned positive in Q2 1996 and strengthened rapidly thereafter to
almost 10 per cent by Q4 1996. For the year as a whole gdp grew by 4.4 per cent, virtually
restoring real gdp to its pre-tequila level. Inflation was close to zero, its lowest level since WWII,
reflecting the slack in the economy and the rigours of Convertibility. The recovery gained
momentum in 1997, with gdp growth doubling to 8.6 per cent and peaking at 10 per cent in the
year to Q3. Although consumption continued to make the biggest contribution, the growth
acceleration was more due to investment, which grew by 26.5 per cent (though this includes car
sales in Argentina). Domestic demand grew by over 11 per cent – its fastest since 1992 - with the
external sector’s negative contribution increasing again.
The economy began to slow towards the end of 1997, led by interest rate sensitive sectors such as
construction and autos, responding to the end-October 1997 interest rate spike. The slowdown
has gained momentum during 1998 but first half growth was still over 7 per cent. However, some
of this reflected stockbuilding, included in the consumption figures, which is being reversed in
the second half. Gdp fell in Q3, exacerbated by the further interest rate spike in
August/September, and was up only 2.9 per cent year on year. The current quarter will also be
weak. Higher risk premiums and more constrained credit availability have deterred investment
while the threat of a renewed rise in unemployment will dampen consumer confidence. However,
export volumes appear to have held up quite well this year, rising by 15 per cent in the first half
and an estimated 10 per cent for the year as a whole. By contrast, import growth has slowed
sharply, from 30 per cent in 1997 to 18 per cent in the first half and an estimated 11-12 per cent
for the year as a whole. With imports still growing faster than exports, however, and the level of
imports much higher, there will be a further, albeit smaller, negative contribution of net exports
to gdp growth.
ARGENTINA:12/98:28
The 1998 budget forecast of 5.8 per cent gdp growth was reduced slightly to 5.3 per cent in the
1999 budget projections, published in September. However, this has subsequently been revised
down to 4.8 per cent to reflect the impact of increased financial market stress. The 1999 forecast
of a similar 4.8 per cent has also been acknowledged to be on the high side, with a figure of
around 2½ per cent now the working assumption. Some private forecasts are lower still. Clearly
growth will slow next year, though to an extent that will depend on developments in Brazil and
the world economy more generally.
The revival of consumption in 1991-2 left
the saving ratio at a 20-year low of 15 per
cent, the culmination of a decade and
half’s secular decline. Although it has
increased in every subsequent year except
1996, to reach over 18 per cent now, the
ratio still has a long way to go to regain the
levels of the 1970s and 1980s19. Moreover,
investment has risen twice as fast, from a
low of 14 per cent to around 20 per cent
now. Although renewed access to foreign
capital has allowed the gap to be financed,
a phenomenon not seen in 20 years, the
further rise in the investment ratio required
to sustain annual growth at the desired 5-5½ per cent per annum, will be much more reliant on
raising the saving ratio. This will be a slow process, especially given the history of distrust,
culminating in the confiscation of private sector financial assets in 1989 (the Bonex plan). The
steps taken towards strengthening the public sector accounts will help over time. So too will
social security and pensions reform implemented in July 1994. This ushered in a Chilean style
reform giving workers the option of switching from the public pay-as-you-go system to fully
funded privately managed funds, a move that has proved highly popular. The IMF estimates that
pensions reform could ultimately increase domestic savings by 1-1½ per cent of gdp per annum.
Aggregate supply and demand balance
% of current price gdp
1992
1993
1994
1995
1996
1997
1998f
1999f
Aggregate supply
Of which: imports of goods and services
108.3
8.3
108.2
8.2
109.3
9.3
108.6
8.6
109.5
9.5
110.9
10.9
111.6
11.6
111.6
11.6
Aggregate demand
Exports of goods and services
Gross domestic expenditure
Consumption *
Investment
108.3
6.7
101.6
85.0
16.7
108.2
6.2
102.0
83.6
18.4
109.3
6.7
102.6
82.6
20.0
108.6
8.6
100.0
81.9
18.0
109.5
9.2
100.3
82.7
17.6
110.9
9.2
101.7
82.0
19.7
111.6
9.2
102.3
81.8
20.5
111.6
9.5
102.1
80.7
21.5
-1.6
15.0
-2.0
16.4
-2.6
17.4
0.0
18.1
-0.3
17.3
-1.7
18.0
-2.3
18.2
-2.1
19.3
External balance on goods and nfs
Domestic national savings
19
Saving ratios in the earlier period may have been boosted by high inflation.
ARGENTINA:12/98:2937
* includes stockbuilding
Sources: Economy Ministry; IMF; Fitch IBCA estimates and forecasts
The key counterpart to the increased saving/investment imbalance is the surge in imports
reflecting higher real incomes, renewed access to credit, industrial modernisation, all coming on
top of major import liberalisation. Almost half the variation in the current account deficit since
1991 has been “explained”, in arithmetic
terms, by variations in capital goods
imports and a third by variations in
Terms of trade
consumer goods imports. The 1995
per cent change
recession stopped imports in their tracks
and restored external trade to surplus for
20
the first time since 1991. As imports
15
recovered in 1996-7, however, a modest
10
5
trade deficit re-emerged. This year,
0
import growth has slowed progressively,
-5
led by capital goods. From 15½ per cent
-10
growth in Q1, imports declined in
-15
-20
September for the first time since 1996.
1978 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998
Export volume growth has been sensitive
Source: INDEC
to domestic demand pressure, soaring in
the1995 recession only to fall back in 1996 and 1997. With domestic demand growth halving this
year, this would help explain the fact, already noted, of export volume growth of a likely 10 per
cent this year, similar to last year’s. However, supply factors are also very important, particularly
for agricultural exports. This year’s good harvest is in fact masking the effects of slowing
Brazilian demand. Manufactured exports to Brazil ground to a halt recently, having been growing
by almost 30 per cent annually as recently as the first quarter. Meanwhile, nominal export growth
has been hit recently by commodity price falls. After rising by a cumulative 20 per cent between
1990 and 1996, average export prices have fallen by 10 per cent in the past two years, with the
decline accelerating this year. Nominal export growth has therefore slowed from 32 per cent in
1995 to 11 per cent last year and only 4 per cent in the first half of 1998.20
Current account of the balance of payments
USD mln
Trade balance
Exports, fob
Imports, fob
Non-factor services (net)
Factor services (net)
o/w interest (net)
other
20
1992
1993
1994
1995
1996
1997
1998f
1999f
-1450 -2426 -4238
2238
1622 -2102 -4003 -3624
12235 13117 15839 20964 23811 26356 27252 29609
-13685 -15543 -20077 -18726 -22189 -28458 -31255 -33233
-2257
-2372
-1289
-1083
-2730
-2888
-1081
-1807
-2941
-3258
-1136
-2122
-2222
-3216
-1054
-2162
-2495
-3248
-1326
-1922
-3309
-4190
-1784
-2406
-3600
-5009
-2184
-2825
-3900
-4765
-1615
-3150
Different commodities have different seasonality e.g. wheat is shipped in December-February and soya in
May-July. Thus, with the composition of exports changing from year to year due to relative price shifts, year-onyear comparisons are not as effective as usual in smoothing out seasonality.
ARGENTINA:12/98:30
Transfers, net
661
411
320
432
334
Current account balance
(per cent of gdp)
-5418
-2.4
-7633 -10117
-3.0
-3.6
-2768
-1.0
-3787
-1.3
memo:
export volume growth
import volume growth
terms of trade (per cent change)
trade balance (fob-cif)
-1.4
83.4
5.8
-2638
7.0
15.5
2.5
-3666
25.1
-11.6
0.4
842
6.6
19.4
8.0
50
17.4
26.9
1.5
-5751
347
200
200
-9254 -12412 -12089
-2.9
-3.7
-3.4
11.4
30.1
-2.4
-4094
10.0
11.5
-4.6
-6034
6.0
8.5
4.6
-5784
Source: Economy Ministry; INDEC; Fitch IBCA estimates and forecasts
The combination of weak exports and continuing, albeit slowing, import growth, will double the
trade deficit to USD4bln this year or USD6bln on the often used fob-cif basis. This will be close
to its previous peak in 1994. Reflecting concerns at its level and speed of expansion, the IMF set
an indicative target for the 12 month cumulative trade deficit (fob-cif) of USD 5bln earlier this
year, with any excess to trigger consultations. The figure was soon exceeded although data
revisions subsequently reined in the overshoot. The pace of increase has slowed and is now
consistent with our annual forecast. For 1999 we expect both export and import volume growth
to continue slowing but a modest recovery in export prices should allow exports to grow faster
than imports, leading to a small fall in the trade deficit.
Three-quarters of the deterioration in the current account deficit under Convertibility – from a
surplus of USD4.6bln (3.2 per cent of gdp) in 1990 to a projected deficit of USD12.4bln (3.7 per
cent of gdp) in 1998, reflects the increased trade deficit. However, the invisibles deficit has also
weakened. There has been a trend widening of the non-factor services deficit, interrupted only
briefly by the 1995 recession, in parallel with the general surge in imports. Moreover, after the
reduction in interest payments brought by the Brady deal, the factor services deficit has also been
widening since 1993. However, net interest payments only account for a third of the widening,
interest earnings on the reserves and other foreign assets having kept net interest payments
constant until 1995, although they have since started to rise. More important has been the
increase in profit remittances, reflecting the rise in FDI. Our projections for 1998 see a further
widening in the invisibles deficit, adding 50 per cent to the projected deterioration in the trade
deficit. In 1999, by contrast, we project the invisibles deficit to stop rising temporarily as interest
rates fall. Thus, the reduced trade deficit will be fully reflected in a reduced current account
deficit, which we project at just over USD12bln, equivalent to 3½ per cent of gdp.
IMF estimates of the current account differ substantially from the official figures used here due to
the different accounting treatment of interest income on private Argentine external assets.
Estimates of these assets range as high as USD70bln but hard numbers are hard to come by. The
Argentine authorities estimate investment income some USD2bn higher than the IMF, equivalent
to about 0.6 per cent of gdp. Even bigger data problems plague the capital account and the
authorities are in the process of re-estimating the whole balance of payments back to 1992. The
sum of net resident lending and errors and omission reveal large inflows in the early years of the
Convertibility Plan, consistent with anecdotal evidence of large scale capital repatriation. By
contrast, during the tequila crisis in 1995 there were net capital outflows of almost USD14bln. In
1996-7, although the outflows fell back they remained large. However, given the increase in
ARGENTINA:12/98:3137
identified inflows over this period, it is hard to ascribe this to capital flight. In fact, the increase in
resident outflows in 1997 was partly due to banking sector transactions and partly due to resident
acquisitions of foreign bonds. Little detail is available for 1998. However, net resident lending
appears to have fallen sharply.
The size and volatility of resident flows makes demands a more careful interpretation of our
usual presentation of a country’s external financing requirements. For example, whereas the sum
of the current account deficit and amortisation (the gross financing requirement in the table
overleaf) fell by almost USD7bln in 1995 as the current account deficit fell, this was
accompanied by a swing of twice as much in the opposite direction in net resident flows and
errors and omissions, largely reflecting capital flight. Whereas the gross financing requirement
suggests an easier financing situation, in fact it was much more difficult. However, the fact that
market access was reduced at a time when outflows were increasing explains the ex post fall in
the current account deficit. Similarly, whilst net resident outflows appear to have declined this
year, the position could easily be reversed in the event of a further shock to confidence, such as
renewed problems in Brazil. However, in that event the currency board mechanism would bring
about a bigger reduction in the current account deficit than currently projected.
In the absence of such a shock, we expect FDI to continue to finance around half the current
account deficit and a third of the gross financing requirement. This leaves around USD14bln to
be financed from other sources, or USD21bln if net resident outflows are taken into account.
These figures are of a similar order of magnitude to 1998. Precisely how this financing need will
be fulfilled is difficult to determine in present circumstances. Usually it would come
predominantly from bond markets but there is still considerable uncertainty about the appetite for
emerging market names.
External financing requirement
USD mln
1992
1993
1994
1995
1996
1997
1998f
1999f
Requirement
-9064
-23012
-14700
-7952
-12228
-17661
-20282
-19796
Current account balance
o/w interest payments
-5418
-3388
-7633
-3216
-10117
-4209
-2768
-5402
-3787
-5913
-9254
-7138
-12412
-8184
-12089
-7865
Amortisation payments*
public
private
-3646
-15379
-4583
-5184
-8441
-8407
-6000
-2407
-7871
-5143
-2728
-7707
-5894
-1813
Financing
12169
27492
15261
7883
16010
20723
21970
19670
FDI
Portfolio equity
4013
617
2515
1523
3116
837
4783
-194
5090
2285
6327
2007
6800
1700
6400
1500
IMF
Multilaterals
Bilaterals
1231
475
917
1596
2715
1704
875
845
1880
2410
2236
1185
797
1757
419
449
1851
458
0
3220
600
0
5370
3000
Banks
Non-banks
o/w bonds
116
1713
1619
113
29540
6308
282
7440
5320
201
11206
6356
648
15018
13987
166
22088
14495
750
16400
15364
400
10000
8500
3087
-3594
-12214
-7690
-14
-509
-13944
-3444
-10004
-3535
-12623
-8000
-7500
-7500
-7000
-7000
Other flows (net)
Resident lending (net)
ARGENTINA:12/98:32
Errors and omissions
6681
-4524
495
-10500
-6469
-4623
0
0
Balance (+ = increase in reserves)
3105
4480
561
-69
3782
3062
1688
-126
Memo: FDI as per cent of;
financing requirement
current account deficit
44.3
74.1
10.9
32.9
21.2
30.8
60.1
172.8
41.6
134.4
35.8
68.4
33.5
54.8
32.3
52.9
* includes arrears refinancing under the 1993 Brady deal
Sources: Economy Ministry; IMF; Fitch IBCA estimates and forecasts
At the height of international market turmoil in September, Argentina announced a USD5.7bln
financing package from the World Bank and IDB (USD4.5bln) and domestic institutions,
designed to meet public financing needs through Q1 1999 in the event of continued closure of
international markets. Further efforts are in train to cover needs for the first half and beyond. This
emphasises on the one hand Argentina’s extreme vulnerability to loss of market access but at the
same time demonstrates rather forcefully the advantages of a policy regime that has the
endorsement of the official international financial community. A similar situation prevailed in
1995 when an international financial support package of over USD5bln was arranged in March,
paving the way for the placing of two USD1bln so-called patriot bonds in April (one
domestically and the other internationally) and resumed bond market access in the second half.
In the event, Argentina has been able to raise USD1.85bln from bond markets since mid-October,
including a USD1bln global issue that was substantially oversubscribed. Although our financing
table therefore shows a greater proportion of official finance in 1999 than in previous years, we
have assumed Argentine issuers will be able to tap bond markets on a reasonable scale. In fact the
latest indications from the authorities are for public external bond issues next year of only
USD4.6bln – a 40 per cent decline from last year. This may in fact prove conservative but we
have used a similar assumption for issuance from all Argentine entities, giving a total figure for
bonds of USD8½bln. If, in the event, bond market access is more constrained, we would expect
Argentina to avail itself of more official funding. In particular we have assumed no use of IMF
funds, in line with the authorities’ view that this is a contingency arrangement.
External debt and debt management
Argentina has a history of external debt problems stretching back to the 1930s. A common theme
has been the failure to adjust to changing external circumstances, coupled with a propensity to
over-borrow. Argentina’s most recent debt problems were rooted in the doubling of foreign debt
under the military regimes of 1976-83. This saddled the Alfonsín government with an
unmanageable legacy, only partially mitigated by a series of external debt restructurings with
official bilateral creditors (1985, 1987, 1989 and 1991) and foreign commercial banks (1985 and
1987). By the time President Menem assumed power Argentina had suspended both principal and
interest payments to foreign commercial banks. And although partial interest payments resumed
in mid-1990, on the eve of the Brady deal, Argentina still had major interest arrears.
The Brady deal applied to USD19.3bln of medium- and long-term debt (over 96 per cent of all
foreign bank debt) and USD9.2bln of interest arrears. Argentina secured a reduction of
approximately USD3bln in the face value of the debt and of 35 per cent in the net present value
of interest service. Creditors sustained a capital loss. Banks were able to exchange their nonARGENTINA:12/98:3337
performing loans for fixed interest par bonds (stepping up from 4 per cent in year one to 6 per
cent in year seven) or variable rate (Libor +13/16) discount bonds at a 35 per cent discount to
face value. Both bonds have 30 year bullet maturities and carry a 12-month rolling interest
guarantee: principal is fully collateralised with US Treasury zero-coupon bonds.The split
between par and discount bonds (66:34) implied a bias towards debt service reduction, as
opposed to debt reduction. Interest arrears (USD8.5bln after a cash down payment of USD0.7bln)
were converted into 12-year uncollateralised floating rate bonds (FRBs) at market interest rates.
Formal completion of the Brady deal took place in April 1994 since when all instruments have
been serviced on a timely basis. Parallel negotiations with the Paris Club resulted in an agreement
in July 1992 to reschedule USD2.7bln of principal and interest falling due from July 1992 to
March 1995 with repayments over 13 years commencing in May 1996.
These agreements normalised Argentinas relationship with all its external creditors, opening the
way to voluntary external financing. Since this coincided with Argentina’s re-integration into the
global economy, lending to the non-bank private sector by banks and suppliers has grown rapidly
since then. Official debt figures do not capture this entirely and we have added an official debt
data21. Including this estimate, non-bank private sector debt has grown from 2 per cent to 20 per
cent of the total between 1991 and 1997. Inter-bank debt has also risen sharply and now
External debt
USD blns
1992
1993
1994
1995
1996
1997
1998f
1999f
Gross external debt
per cent of gdp
per cent of fx receipts
70.6
30.8
403.6
71.9
27.9
396.2
85.6
30.4
391.6
97.3
34.8
339.6
108.1
36.3
337.2
119.4
36.9
338.2
132.5
39.4
359.7
143.5
40.9
363.7
By debtor and maturity:
Public sector
official creditors
commercial banks
Brady bonds
euro and foreign bonds
domestic bonds held by non-residents
other
short-term
Private sector
banks
bonds
interbank
non-resident deposits
other
short-term
non-banks
bonds
other
short-term
60.0
16.3
39.7
0.0
0.8
2.3
1.0
2.0
10.6
6.5
0.8
4.1
0.3
1.3
5.4
4.1
1.6
2.5
2.6
53.6
20.3
1.3
24.7
1.3
5.5
0.5
1.8
18.3
8.9
2.0
4.3
1.0
1.5
6.6
9.4
4.8
4.6
5.2
61.3
22.2
1.6
24.5
3.1
9.2
0.7
2.2
24.3
10.8
2.8
5.2
1.7
1.1
7.7
13.5
6.0
7.5
7.5
67.0
26.7
1.7
23.2
6.3
8.1
0.9
2.3
30.3
13.6
2.5
7.2
1.7
2.1
10.8
16.7
7.4
9.3
9.1
73.6
25.8
1.3
21.6
13.0
10.7
1.2
1.9
34.5
15.7
4.0
6.9
1.6
3.1
11.2
18.8
7.9
10.9
10.5
75.0
23.9
1.4
18.4
15.0
14.6
1.8
2.3
44.3
20.5
5.0
7.4
2.8
5.3
15.0
23.8
11.9
12.0
11.4
83.9
25.1
1.4
93.0
30.3
1.4
2.1
48.6
23.4
7.6
7.7
2.8
5.3
15.4
25.2
13.2
12.0
11.5
2.1
50.5
24.7
8.8
7.8
2.8
5.3
15.5
25.8
13.8
12.0
11.5
By creditor:
multilaterals
bilaterals
commercial banks
non-bank private sector:
7.7
9.2
44.0
9.8
11.1
9.8
5.9
45.2
12.1
10.9
7.3
55.2
16.1
11.6
9.6
60.1
17.0
10.0
9.5
71.6
17.5
7.8
9.8
84.3
19.2
7.2
10.2
95.8
22.8
8.8
10.3
101.6
21
Official debt figures otherwise conform to Fitch IBCA preferred definitions, most notably being compiled on
residency basis and therefore including non-resident holdings of domestic debt, of whatever currency.
ARGENTINA:12/98:34
Brady bonds
euro and foreign bonds
obligaciones negociables
other
0.0
1.8
0.9
7.1
24.7
4.6
2.6
13.2
24.5
7.6
3.8
19.3
23.2
11.0
4.7
21.1
21.6
19.6
5.0
25.4
18.4
22.4
9.0
34.4
Short -term:
banks
suppliers
government paper
other
per cent of total debt
10.0
5.4
3.0
0.0
1.6
14.2
13.5
6.6
4.5
0.0
2.4
18.8
17.3
7.7
7.1
0.0
2.6
20.3
22.2
10.8
8.6
0.0
2.8
22.8
23.5
11.2
9.3
0.2
2.8
21.8
28.8
15.0
10.2
0.7
2.8
24.1
28.9
15.4
10.2
0.5
2.9
21.8
29.0
15.5
10.2
0.5
2.9
20.2
Net external debt
public
banks
non-banks
per cent of fx receipts
per cent of gdp
55.5
48.6
2.9
4.1
317.3
24.2
48.1
38.1
3.7
9.4
264.8
18.6
60.8
45.3
5.2
13.5
278.2
21.6
71.5
51.0
7.3
16.7
249.5
25.6
74.9
53.9
5.6
18.8
233.7
25.2
76.2
52.6
2.8
23.8
216.0
23.6
82.9
59.8
0.5
25.2
225.2
24.6
90.8
69.0
-1.3
25.8
230.1
25.9
Sources: Economy Ministry; Fitch IBCA estimates and forecasts
comprises 17 per cent of the total. Corporate debt is roughly half bonds and half suppliers, while
bank debt is more diverse, including inter-bank, bonds and non-resident liabilities, in descending
order of magnitude.
External debt composition, 1997
Suppliers
etc.
15%
Multilateral
15%
Bilateral
7%
Banks
8%
Bonds
55%
Source: Economy Miinistry
The resurgence of private sector borrowing has brought a sharp fall in the proportion of
Argentina’s external debt owed by the public sector from over 90 per cent in 1991 to just over 60
per cent now. Two-thirds is bond debt reflecting the impact of the Brady deal. Most of the rest is
official – either multilateral or bilateral. Brady bonds, while still the largest single category of
public bond, have fallen from almost 80 per cent of all bonds immediately after the exchange to
only 37 per cent now, with other international bonds accounting for 30 per cent. However, nonresident holdings of locally issued USD-denominated debt are now almost as big, comprising 25
per cent of all bonds. Prior to the Brady deal the government had established a modest track
record with two small bond issues as part of the 1987 bank debt rescheduling package.22
22 USD50mln of “New money bonds” and “Alternative participation instruments”.
ARGENTINA:12/98:3537
However, for the most part, bond issuance in 1992-3 was dominated by the more reputable
Argentine corporates. Moreover, even as public issuance subsequently increased, the proportion
of bonds to total external debt remained stable until quite recently. The tequila crisis effectively
closed the bond markets to all Argentine issuers from January to April 1995 and it was only in
the highly liquid market conditions of 1997-8, before markets were closed once again by the
Russian crisis, that bonds approached 60 per cent of total debt.
Short-term debt has ranged between a fifth and a quarter of total debt in recent years with the
bulk of it accounted for by the private sector. Moreover, the figures may be an overestimate since
they assume all bank lending and suppliers credit is short-term. Government short-term external
debt is less than USD2bln. Coverage of short-term debt by reserves has gradually improved
since 1995. Our more comprehensive measure of liquidity, expressing international liquidity
(official reserves and banks’ liquid foreign assets) as a percentage of debt service including sterm debt (see table overleaf) shows a similar trend. The ratio of short-term assets to short-term
liabilities exceeded 100 per cent last year for the first time since 1994.
Argentina’s gross external debt ratios remain among the highest of any rated sovereign. From a
peak of around 400 per cent of exports in the early 1990s the ratio fell to around 340 per cent in
1995 due to an export surge but has remained largely unchanged since then. Indeed, our
projections envisage a renewed increase in 1998. Similarly the gross debt:gdp ratio fell to 30 per
cent in 1994 but has since risen towards 40 per cent. The disappointing overall trend is largely
due to the build up in private sector debt. For the public sector alone, debt:exports fell
continuously up to 1997, although this year may see a small increase. Debt:gdp shows a similar
pattern with the ratio stable at 24-5 per cent of gdp since 1995. Although this gives some degree
of comfort, it is the external debt of the country as a whole that is relevant to the sovereign
ceiling, since all external debt obligations make competing claims on the country’s debt payment
capacity. Thus although the rise in private debt since 1991 is perhaps to have been expected, it
merely serves to highlight the high starting level of public debt which continues to constrain
Argentina’s rating.
Even net debt ratios are high. Fitch IBCA calculations are based on a narrow definition of
extwrnal assets including international reserves, gold, deposit money banks’ foreign assets and
Brady collateral. Non-bank private sector foreign assets are excluded as, on past experience,
these are unlikely to be repatriated in a crisis. Quite the reverse indeed since many of these assets
reflect past capital flight. Nevertheless, it is worth noting that Argentine non-bank assets in BIS
banks totalled USD16.4bln at the end of 1997, equivalent to approximately 70 per cent of nonbank private sector external debt. Their growth more recently is a counterpart to the growing
financial and trade links between Argentina and the rest of the world. Excluding these and other
non-bank external assets, net external debt has fallen to just over 200 per cent of XGS with net
public debt falling to 150 per cent, banks’ net debt now almost zero, but with nbps net debt up
sharply. Net debt ratios will rise this year as export growth slumps and debt growth continues.
ARGENTINA:12/98:36
External debt service
USD blns
1992
1993
1994
1995
1996
1997
1998f
1999f
Debt service
principal
interest
per cent of fx receipts
interest
6.25
2.86
3.39
35.7
19.4
8.92
5.70
3.22
49.1
17.7
8.79
4.58
4.21
40.2
19.3
10.59
5.18
5.40
36.9
18.9
14.35
8.44
5.91
44.8
18.5
15.55
8.41
7.14
44.0
20.2
16.05
7.87
8.18
43.6
22.2
15.57
7.71
7.87
39.5
19.9
66.5
130.2
65.4
122.6
80.4
104.9
99.8
83.2
79.1
86.3
71.7
108.3
61.6
108.8
58.0
116.4
Liquidity (per cent)
s-term debt/international liquidity
Int’l liquidity/debt service+s-term debt
Sources: Economy Ministry; Fitch IBCA estimates and forecasts
Although public external debt is declining as a proportion of total external debt this is not the
case for debt service payments. Federal government amortisation accounts for 60 per cent of total
amortisation and the proportion will approach three-quarters in coming years as federal
amortisation rises to a peak of USD7.9bln in the year 2000, with a bunching of bond maturities.
Bond repayments by private sector borrowers also rise sharply in 2000. Thus, after falling in
1998-9, amortisation by all sectors will increase sharply to almost USD11bln. Interest and
principal payments combined still amount to over 40 per cent of XGS, a proportion that is
unlikely to change significantly for the foreseeable future. These ratios are high even by Latin
American standards and weigh heavily on the sovereign rating.
A key objective of debt management has been to lengthen the average maturity of the debt. The
average maturity of new issues doubled to over 8 years in 1996 and rose further to almost 15
years in 1997. However, 1998 will see a slight fall to just over 13 years, due to market conditions.
Notable issues include 20 and 30 year DEM bonds in September and November 1996
respectively and 20 and 30 year USD bonds in January and September 1997 respectively, the
latter swapped for Brady bonds.
Amortisation schedule for medium- and long-term debt
USD bln
1998
1999
2000
2001
2002
Federal government
other borrowers
Total
4.8
3.1
7.9
5.7
2.0
7.7
7.9
3.2
11.1
6.6
2.3
8.9
6.5
3.6
10.1
IMF
other multilaterals
bilateral
banks
bonds
suppliers
0.7
0.8
1.2
0.4
4.7
0.1
0.8
1.0
1.4
0.3
4.2
0.1
1.3
1.1
1.0
0.3
7.3
0.1
1.3
1.2
0.7
0.3
5.5
0.0
0.8
1.1
0.5
0.3
7.5
0.0
61.0
74.2
71.1
74.1
64.4
memo: Federal amortisation as per cent of total
Source: Economy Ministry and Fitch IBCA estimates
There has also been some diversification away from USD issuance, the proportion having fallen
ARGENTINA:12/98:3737
from three-quarters in 1994 to half in 1997 and little more than a third last year. USD remains the
largest single currency of issue but euro-issues are catching up fast, rising to 28 per cent of the
total this year. Perhaps the most striking indication of Argentinas capital market rehabilitation
was the successful flotation of 2 and then 10-year Argentine Peso eurobonds in December 1996
and February 1997 respectively.
Spreads have been volatile with the low levels achieved in late 1993 still not regained. Spreads
reached historic highs in the midst of the tequila crisis but then fell sharply, interrupted
temporarily by the Asian crisis in October 1997 and by the Russian crisis since August. Low
market prices have from time to time encouraged the authorities to buy back debt and release
collateral. A buyback of USD760mln of Brady bonds took place in March 1998, releasing
USD89mln in collateral and a further
USD0.7bln of Bradys was bought in
Terms of public international bond issues
September. Argentina was the first
emerging market borrower to regain
15
market access in November 1997 and
was also able to resume issuance quickly
10
in October 1998 in the aftermath of the
US interest rate cut – first by augmenting
5
an existing 20-year USD bond by 250mln
and then by issuing DEM500mln of new
0
10-year paper, though at much higher
1992
1993
1994
1995
1996
1997
1998
spreads (660 and 760bp respectively). A
average life (years)
average spread (per cent)
USD1bln 7-year global bond was issued
in November at a spread of 665bp.
Source: Economy Ministry; IMF
The events of 1995 and after the Russian
crisis in 1998 are a reminder of Argentina’s vulnerability to swings in sentiment in international
capital markets and their impact on the real economy. Argentina is not unique among emerging
markets in this respect but Convertibility clearly heightens the economys susceptibility to
external shocks. And coupled with the need to refinance continuing high amortisation, Argentina
is particularly vulnerable to a prolonged interruption of capital flows. For all the improvements in
the rest of the economy, especially since 1995, this remains the overriding constraint on
Argentina’s rating.
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