Business
The IMF and the Argentine Crisis

by Kanes
Argentina imploded in the worst riots in 12 years, on the 19th of December 2001 when about 20,000 people looted hundreds of supermarkets and shops, over 2000 people were arrested, 28 people died and massive demonstrations in the capital Buenos Aires forced the resignation of the Argentine President Fernando de la Rua on the 21st. The cause of the riots was the rapid deterioration of living standards and deepening poverty and austerity on account of the declining industrial production by 10 per cent a year, unemployment rising to 18 per cent, non-payment of salaries to public servants including doctors, teachers and psychiatrists, non-payments of pensions, fall in share prices to a ten-year low and the restriction of cash withdrawal of banks to $ 1000 a month (to prevent a run on the banks). The last straw was the 20 per cent cut in the budget for 2002 — some $ 9 billion — on 18th December, to bring down the fiscal deficit to zero, as prescribed by the IMF, in order to please foreign creditors who were holding back desperately needed loans.

A four-year old slump in Argentine has thrown hundreds of thousands out of work and millions more have suffered big pay cuts. The economy was deteriorating so rapidly that it was estimated that a third of the population lived in poverty and 2000 people were falling below the poverty line each day. The government failed to implement sound economic policies, to curb corruption, to reduce the budget deficits and to control the provinces, which had the power to issue their own currency. Instead, they borrowed heavily, mainly from abroad, until the public debt reached $ 132 billion of which the greater part is foreign debt. In October it surpassed Nigeria as the country with the highest risk rating for investors, based on a survey by the New York investment banker J. P. Morgan and the world feared that it would default on its debts.

Currency Board

The main cause of Argentine’s crisis is the IMF-inspired fixed exchange rate of its currency — the peso — with the US dollar through its Currency Board under which local currency could be issued only against dollars at parity. The Currency Board was introduced in 1991, on the advice of the IMF, to control hyper-inflation (which reached 1345 per cent in 1990) that wiped out the savings of the poor and destroyed trust in the state. The dollar peg helped in bringing down inflation and reviving growth. The dollar then began to strengthen against other world currencies; in April 1995, the dollar rose about 40 per cent against the Euro and 30 per cent against the yen and as a result of the dollar peg the peso too rose in value.

To make matters worse, in 1998 Argentina’s neighbour Brazil floated its currency and depreciated it by 30 per cent in 2000 alone, cutting into Argentina’s exports. As Argentine could not devalue under the Currency Board’s dollar peg, its exports became uncompetitive causing a slump, loss of income and deflation. Although the adoption of a system of floating of exchange rates and devaluation of the peso was the answer, the IMF did not recommend it to Argentine. As more than 90 per cent of Argentina’s mortgages are denominated in dollars, not peso, debt costs remained the same while domestic prices and incomes were falling resulting in the bankruptcy of many businesses.

What the world feared has now happened. The new President Adolfo Rodriguez Saa announced that Argentina would suspend payments on the $ 132 billion debt. This is the biggest debt default in history. The President said that he had no choice but to halt repayment of debts and interest payments in order to pay long overdue state salaries and increase social spending. He stated that he would use the funds previously slated for debt repayment of $ 1.2 billion by the end of this month and $ 20 billion in 2002 for emergency food supplies to the poor areas, social services and creating a million jobs for the unemployed.

"We do not have the money to reach repayments and poor Argentineans are going hungry and can no longer carry the heavy burden of debt" he said. He further emphasized that Argentine needs a new style of government, which did not ignore the poor and needy.

Austerity Measure

"Our main priority now is our people, not our debts" he said. These announcements were hailed by the people with thundering ovation. Large companies also declared that they would default on their debts. The President, however, pledged to maintain the peso-dollar currency peg although the currency reserve is dwindling and the peso changes hands at less than half its supposed value in some parts of Brazil. He fears devaluation as it would bankrupt thousands of Argentineans who earn their salaries in pesos but hold over 90 per cent of their private debt in dollars. He will, however introduce a new currency to operate alongside the peso and meet the international creditors to renegotiate the country’s debt.

As an austerity measure, he capped all salaries including his own at $ 3000 a month — meaning a reduction of more than 150 per cent for most — and decided to sell off the presidential aircraft and all cars used by the public servants. In spite of all these reassurances, widespread opposition to him led to his resignation and Argentina is now having its fifth president in a fortnight.

The fifth President — Eduardo Duhalde wasted no time in announcing the rejection of the "exhausted economic model" of the IMF and refusal to play by the rules of the IMF, in stopping of interest payments on the country’s debt and in devaluing the peso and scrapping the fixed parity to the dollar under the Currency Board System on the 7th of January. The Argentine Congress passed the required legislation ending the peso-dollar parity and granting the President emergency powers to salvage the shattered economy. As soon as the legislation was passed the government announced a dual exchange rate system, floating the peso but setting a fixed rate of 1.40 to the dollar for international transactions.

The legislation while scrapping the decade-old peso-dollar parity system and allowing the president to determine the type of exchange system to be adopted, converts into peso at one-to-one rate debts up to $ 100,000; allows the Central Bank to use its resources to buy and sell foreign currency or issue pesos to do this; commits the central bank to using its reserves to support the monetary base; allows the government to compensate banks affected by the measures, notably by issuing bonds denominated in foreign currency and guaranteed by a tax on petroleum exports; eliminates current legislation that ties public utility rates to the dollar and indexes them to US inflation; authorizes the government to renegotiate public utility contracts and authorizes the government to regulate prices of essential goods and services to protect consumers from "market distortions or actions of a monopolistic nature".

The devaluation of the peso has resulted in a boom in investment in real estate. After enduring hyper-inflation of up to 5000 per cent and a series of other financial calamities in the 1980s, Argentineans are past masters at coping with wild fluctuations in the value of their money. The long anticipated devaluation, which caused savings to plummet in value up to 40 per cent, has provoked a rush to turn threatened bank deposits into real assets. Cars, jewellery and new homes are being snapped up at a dizzying rate as buyers use credit cards and cheques to evade restrictions on bank withdrawals. While real estate prices are rising, shopkeepers have begun marking up prices, possibly leading to inflation once more. Cashing in on the spending spree, Volkswagen has rushed out an advertisement advising potential customers that "the good thing about putting money in your garage is you can take it out whenever you want to!"

The IMF

Two packages in 2001 from the IMF worth $ 36 million and the stereotype prescriptions—spending cuts, pay cuts, deflation and liberalization—did not help very much and the financial crisis deepened in early December when the IMF delayed a crucial disbursement of $ 1.3 billion until the government imposed deep spending cuts and tax hikes. This left the country on the verge of debt default and economic collapse. It was then that the government introduced the austerity programme with 20 per cent cuts in the budget to reduce the budget deficit to zero. The IMF cannot escape culpability for the economic and social collapse of Argentina. More than a year ago, observers had warned that the austerity measures imposed by the government in obedience to IMF advice were likely to lead to a rise in social tensions. The London Guardian commented on the Argentinean crisis as follows:

"The International Monetary Fund’s book of wisdom on how to solve financial crises must be very short. As Argentina descends into chaos, the only word from Washington was the helpful observation by the IMF’s chief economist that the current policy mix was ‘unsuitable’ and how.

But Fernando de La Rua’s government was only following the standard prescription the IMF gives to economies facing financial troubles: slash the deficit, deflate the economy and hope that investor confidence returns.

Some of its nostrums may have been appropriate when Argentina was facing hyper-inflation in the late-1980s. By the end of the 1990s, when the economy was mired in recession and prices were falling rather than rising, the advice not only missed the point but became part of the problem".

"Another observation from this sorry episode is that the countries which have ridden out the past few global financial crises with the most success have thrown away the IMF textbooks and gone their own way. Malaysia imposed capital controls during the Asian crisis in defiance of IMF orthodoxy while in Hong Kong, the authorities nationalized large chunks of the stock exchange. The unorthodox remedies have worked".

The Newsweek of January 14, 2002 has this to say on the Argentine crisis:

"Its not surprising then, that the debacle in Argentina has reopened the debate in many corners of Latin America over the neo-liberal model of economic growth that Washington and the International Monetary Fund touted throughout the 1990s Under de la Rua’s predecessor, Menem, Argentina embraced those policies with unparalleled gusto, privatizing hundreds of state-owned companies and opening the domestic market to imported goods. But, "el modelo" — as the economic programme was dubbed — also hastened the closure of inefficient Argentine factories and companies and the resulting loss of hundreds of thousands of jobs caused many to question the free market gospel... Those lessons have not been lost on Duhalde... Duhalde served notice in his Inaugural Speech as president that he would no longer play by the rules of the IMF. He brought congressmen to their feet with promises to abandon "an exhausted economic model" and introduce new policies that would restore growth..."

Let us hope that the IMF’s "one size fits all" prescriptions of deregulation deflation, liberalization and privatization applied to Argentina and before that to Indonesia will not be applied to Sri Lanka in the guise of structural reforms to create social discontent and embarrass the new government. The proper role of the IMF has been defined by Stanley Fischer, the former first deputy managing director of the IMF itself as follows:

"The role of the international institutions should be to support and advise, not to hector and impose. To that end financial support should not have too many strings attached. For the IMF, this means confining conditions to what is necessary to get the macro economy back on an even keel, and to get financial and other key markets working properly".


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