Argentina´s Snub of Conventional Wisdom Pays Off

A November 8, 2007 article by David J. Lynch in USA Today entitled "Argentina´s snub of conventional wisdom pays off," reported:

BUENOS AIRES — Left for dead by the global financial community in 2002 after defaulting on more than $100 billion worth of debt, Argentina today is enjoying the sixth year of one of the unlikeliest economic expansions in memory.
The economy purrs at a growth rate of better than 8%. The peso, once so suspect that individual provinces printed their own currencies, is sound. And foreign-exchange reserves are bountiful.

"Over the past four years, Argentina has recovered its hope," says Mercedes Marco del Pont, a member of Congress.

Argentina's resurrection is especially compelling measured against the extraordinary depths of the 2001-02 financial crisis. Stiffing international bondholders intensified the worst economic downturn any developed country had experienced since the 1930s, beggared a prosperous middle-class and plunged more than half the population below the poverty line.

But most noteworthy is how Argentina climbed out of its financial hole: by defying the conventional economic wisdom the United States has peddled throughout Latin America for the past generation. President Nestor Kirchner has thrust the state deep into the economy, taxing exports, freezing key prices and shunning the Washington-based International Monetary Fund in favor of deep-pocketed Hugo Chávez of Venezuela. Today, Argentina's turnaround is Exhibit A for those who doubt globalization's one-size-fits-all policy prescription.

"The biggest significance of this recovery is they just rejected the orthodox economic advice … and they've been the fastest-growing economy in the Western Hemisphere over the last five years," says Mark Weisbrot, a left-of-center economist at the Center for Economic and Policy Research in Washington.

Now, as newly elected President Cristina Kirchner prepares to succeed her husband next month as Argentina's chief executive, there are worrying signs about the economic comeback's longevity. Inflation is gathering steam amid widespread allegations that the government is deliberately manipulating official price statistics. Energy shortages, which many analysts link to price controls that have discouraged new investment, are a chronic concern.

Government officials, who continue to operate under an "economic emergency" law, insist they can steer the economy forward without sharp policy changes. Cristina Kirchner has indicated she plans to bring labor and business leaders together to agree on "social pacts" that will control wages and prices, but market-oriented economists are skeptical. "It's a mess of a theory. … This will not work," said Federico Thomsen, an economist here who advises multinational corporations on the local market.

Spurning the IMF

Argentina's current approach is a stark contrast to the 1990s, when an earlier government enthusiastically implemented market-oriented policies known as the Washington Consensus. Then-President Carlos Menem sold off state-owned industries, opened the economy to trade and attacked inflation by linking the peso to the dollar at an artificial 1-to-1 level.

At first, the economy expanded, and inflation, which peaked at an annual rate of 4,923%, cooled to near zero. But amid a recession that began in 1999, Argentina ultimately was forced to abandon its 1-to-1 exchange rate, sending the peso into free fall and impoverishing millions who owed payments on dollar-denominated mortgages and other loans.

In Washington, the IMF blamed the crisis on Argentina's habitual overspending. But many here concluded that the IMF specifically, and free-market policies in general, had failed them. "People came out against the neoliberal policies that got us into this mess. The 1-to-1 exchange rate emptied the country of everything it was worth and drove us into bankruptcy," says Ruben Rosmarino, 51, a cobbler in the working-class La Boca neighborhood.

The post-crisis government of populist President Nestor Kirchner defied the IMF by halting debt payments and levying taxes on exports and financial transactions. The resulting revenue was used to cushion consumers by subsidizing energy prices.

Argentina's comeback really depends on keeping the peso valued to encourage exports, at a rate of roughly 3-to-1 against the dollar. That has boosted shipments of everything from red wine to corn while protecting local industries by making imported products more expensive. Strong growth in Asia also has lifted to historic highs prices of key Argentine commodity exports such as soybeans and wheat.

Amid the bounty, the government has run twin surpluses in its budget and trade accounts, avoiding the country's traditional trap of overspending and debt. By last month, when Kirchner's wife, Cristina, was elected to succeed him, unemployment was less than half the post-crisis high of 22%. The poverty rate had fallen to about 26% from 58%.

"There's no domestic or international reason to think Argentina can't continue to grow at very high rates for the next 10 years," says Marco del Pont.

Seeking foreign investors

Not everyone is convinced. Argentina's business community, while welcoming the robust growth to date, is desperate for the new government to embrace a midcourse correction. They say the post-crisis recovery benefited from industrial capacity that had been built up during the 1990s. With little capacity added since then, the economy is beginning to run up against its limits, they say.

"They need to move to a more orthodox policy to build a better climate for investment," says Manuel Solanet, president of Infupa, a Buenos Aires mergers-and-acquisition firm.

Investment as a share of gross domestic product has almost doubled to 22.6% from its post-crisis low of 12.5%. But that remains below the 25% the government believes it needs for the economy to reach a sustainable long-term growth pattern. And almost two-thirds of recent investment has gone to residential and commercial construction rather than modern infrastructure, such as ports and roads, or new factories.

The construction boom has benefited people such as Issel Kiperszmid, president of Dypsa International, a real estate developer. In 2001, his firm scrambled to stay afloat. Today in his office in the trendy riverside Puerto Madero neighborhood, with its exposed brick and trickling fountain, Kiperszmid oversees construction on 13 separate residential and commercial projects. "I am very optimistic about the future," he says, smiling across a sleek black desk.

About half of the 360 units in his triple-tower Renoir project have been sold, he says. More than half of his buyers in recent years have been foreigners, willing to pay $150,000 to $800,000 for a pied-à-terre in Buenos Aires.

The charms of one of Latin America's most alluring cities are sufficient to attract Kiperszmid's customers. But the government's full-throated populism, and its debt default, has discouraged major corporations from putting down roots here. The past three years, annual foreign direct investment has averaged just $4.8 billion, well below the double-digit levels of the 1990s.

Beatrice Nofal, president of ProsperAr, a year-old government agency charged with boosting investment, concedes Argentina needs an image makeover to compete with more investor-friendly locales. "We're trying to rebuild the reputation of Argentina after the default. … We're working on that. It's a challenge," she says.

To its critics, the government's most glaring failure has been on inflation. With unemployment high and factory utilization low, the economy was able to grow fast in the immediate aftermath of the default without triggering price increases.

Now, however, prices are rising — by exactly how much is under dispute. The government's official statistics agency, INDEC, pegs inflation at about an 8% annual rate. But the government's handling of the supposedly non-partisan office — first seeking earlier this year to devise a new way to measure the consumer price index, then firing the agency head when he balked — has shredded its credibility. Independent estimates of the inflation rate range from 15% to 20%.

"The CPI released by INDEC is no longer reliable (and, as a result, other figures, including measures of economic activity, are now under suspicion)," Barclays Capital wrote in a recent note to investors.

Kirchner also prompted head-shaking last month by publicly demanding that banks lower interest rates. With prices in the fast-growing economy already rising uncomfortably quickly, making credit less expensive seemed exactly the wrong thing to do.

For their part, Argentine officials reject the conventional view that growth in the money supply determines an economy's inflation rate. Instead, they embrace the so-called structuralist view, which holds that inadequate supply of goods (rather than excess demand) lies behind inflation.

Rather than use interest rates as the chief inflation-fighting tool, they concentrate on promoting competition and boosting productive capacity. They also appear willing to live with double-digit inflation if the alternative is slowing the economy.

An economy in transition

As the grumbling grows in Argentina's financial community, some in the government insist that the country shouldn't be judged by the same criteria as fully developed economies such as the United States or European Union. Interest rates, for example, are less important here in determining economic growth because 90% of transactions are conducted in cash.

"This is still an economy in transition. … The plane has not reached its cruising altitude yet," says Martin Redrado, the governor of the central bank.

Officials say that extraordinary measures were needed beginning in 2002 to revive a near-dead economy. An activist state had to employ all sorts of powerful medicine — price controls, presidential jawboning, subsidies — to bend the market to its will. They recognize that, in the long run, Argentina can grow at an annual rate of 5%, not the better-than-8% rate of recent years.

Despite the mounting concerns, no one is predicting an early crisis. Both high inflation and energy shortages are regarded as stiff challenges that will test the new president's political dexterity and policy acumen — but not as disasters in the making.

In a few more years, perhaps as it marks a decade after the 2002 collapse, Argentina may even be ready to pursue more conventional policies. "Argentina is not yet a normal country," says Redrado. "We are trying very hard to be a normal country, (and) we are on the way."