A rchive Date
[ 19-06-2005 ]
Category
[ International Relations ]
sub-Categoy
[ Argentina ]
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[http://www.webfin.com/en/home/columnists/majority_interest/column_detail.html/?id=2301
Majority Interest
Crying for thee, Argentina
Updated: 22/01/02
There was a time when Argentina and Canada, about as far apart as you can be in the western Hemisphere, had a lot in common. Rich in natural resources, vast agricultural lands and potential, small in population, they were continental bookends at the start of the twentieth century.
Things have changed. And lately, for Argentina, things have become much, much worse.
There was a time when Argentina and Canada, about as far apart as you can be in the western Hemisphere, had a lot in common. Rich in natural resources, vast agricultural lands and potential, small in population, they were continental bookends at the start of the twentieth century.
Whereas Canada's economy had the benefit of the surging U.S. market throughout most of the last century, Argentina's major trading partner was problematic Brazil. Canada's political evolution was relatively smooth; Argentina's went from democratic promise to quasi-dictatorship and military junta and has not fully recovered in the decades since.
Policy swung between left and right and, lately, plain desperation.
Along the way, Argentina slipped into several traumatic bouts of inflation. A currency board, tying the Argentine peso to the U.S. dollar, was part of an early-1990s package of reforms. It was designed to not only close the door on inflation but to throw away the key. And it worked, at least in the sense of curbing inflation.
The rigid policy of one-peso-equals-one-dollar ran into several problems. There were the devaluations in the currencies of Argentina's trading partners - Mexico in the mid-1990s, Brazil in early 1999 - making Argentine products relatively expensive. The soaring U.S. dollar meant a soaring Argentine peso, making the competitive situation even worse.
Deflation took the place of devaluation: when the local currency can't fall, local prices must. And Argentine prices have declined in recent years. But deflation is a much slower, more painful and less equitable solution than devaluation. To make matters worse, Argentina was heavily indebted. In 1999, the total debt servicing costs for the country exceeded the value of its exports, meaning Argentina would bleed money even if it didn't import a thing.
The usual fiscal fixes were tried over the next two years. Taxes were raised and spending cut in an attempt to balance the budget (and cut public borrowing) but an enduring and deepening recession kept the deficit from closing. Through it all, Argentina refused to abandon its exchange-rate fix. To do so would ignite inflation. Moreover, the quasi-dollarization, once adopted, could not be easily undone because so much of the economy had become reliant on the one-to-one convertibility of the peso and the dollar.
The second half of 2001 saw an increasingly certain slide into disaster. At the end of December, the end came as Argentina defaulted on US$155 billion, the largest default in world history. That financial markets have, to date, shrugged off the Argentine debacle - unlike, say, the Asian crisis or the Mexican crisis or the Russian crisis, where one devaluation spawned fears of a domino effect of other currencies – says something about how unsurprising the default had become.
The new government is trying to soften the inevitable fallout. It's mandating a devaluation in some sectors and a floating currency in others and ordering the banking system to honour the 'one-peso-equals-one-dollar' fix for small depositors. It's like a partial suspension of the laws of gravity and it will work just as well.
It doesn't matter: on the way to the new reality, some fictions are necessary. The plan's virtue, from the government's short-term perspective, is that it puts much of the cost on the banks and international investors who, it should be noted, have no votes.
What is certain is that Argentina will continue its four-year-old recession. One local estimate suggests the economy shrank at a 15-per-cent annual rate during the fourth quarter. Compare that to Canada's fourth-quarter slippage that was probably in the neighbourhood of one per cent.
It would be wrong to blame the currency fix for Argentina's problems.
Fiscal policy was a mess as well, and mounting debts will eventually ruin any economy, whatever the exchange-rate policy. Still, for the other bookend country, there is a lesson to learn from Argentina's debacle: dollarization is neither costless nor easily reversible. Before trying it, make sure that the potential costs are less than the costs of the original problem. That simply isn't true in Canada.
Tim Whitehead operates an economic consulting firm, Left Bank Economics Inc., near Paris, Ontario
 World Fact Book (CIA)]
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