Toshiro Sugihara
EDGE
Winter Quarter 2003
The Argentine Economic Crisis 1999-2002
Basic
Information About Argentina
Argentina
is a nation located on the East coast of the sothern-most tip of South America.
It occupies an area of 2,766,890 square kilometers, which is approximately
equal to about three-tenths the size of the United States. It has a population
of nearly 40 million people with a growth rate of 1.13%. The populace is 97%
Caucasian (primarily of Italian and Spanish decent) with various indigenous
groups comprising the remaining 3%. Over 90% of the population is Catholic. The
primary language of the nation is Spanish. The national literacy rate is around
96% (CIA).
Argentina
has been a democracy since 1983, before 1983 it suffered from a tumultuous
period during which it fluctuated between democratic and authoritarian rule. It
is currently a constitutional republic with mandatory suffrage of all citizens
over 18 years of age. The current president is Eduardo Alberto Duhalde, who has
held power since he was appointed to the position of presidency on the second
of January 2002 (CIA).
The
Argentinian economy enjoys a well diversified industrial sector along with a
well developed export-oriented agricultural sector . Argentina also benefits
from extensive natural resources and a well educated populace. Major industries
in Argentina include food processing, motor vehicles, consumer durables,
textiles, chemicals and petrochemicals, printing, metallurgy, steel. Argentina
boasts a GDP of $453 billion (2001) with about 6% devoted to agriculture, 28%
devoted to industry and 66% devoted to services. Its primary export partners
are Brazil (25.1% of all exports), the United States (18.7%), Germany (5%), and
China (4.6%). In spite of an economy that by most objective measures ranks
among the strongest in the developing world, Argentina has been plagued by
economic difficulties ranging from hyperinflation in the 1980’s to extremely
high unemployment in the 1990’s. Additionally, there is a large disparity between
the incomes of the wealthy and poor in Argentina. Currently 37% percent of the
population of Argentina lives below the poverty line. The travails of the
Argentine economy reached a climax in 2001 with the banking crisis (CIA). The
purpose of this paper will be to analyze what factors contributed to the
Argentine economic crisis, with a particular emphasis placed on the role played
by the International Monetary Fund.
Overview of the Argentine Economic Crisis
Though
one can trace the roots of the Argentine Economic Crisis far back into the
history of Argentina’s economic development, for the purposes of this paper we
will begin with what is widely considered to be the seminal event that laid the
groundwork for the crisis. This was the 1991 passage of the Convertibility Law
by the Argentine legislature. This law, which was promoted by then President
Carlos Menem and his Minister of Economy Domingo Cavallo, was the centerpiece
of a major economic structural adjustment program designed to cure the ills of hyperinflation
and economic instability that had plagued Argentina during the 1980’s. The
Convertibility Law established the Argentinian Currency Board as an entity
autonomous from the Argentine National Bank. The law charged the Currency Board
with guaranteeing the convertibility of the Argentine peso with the American
dollar at a one-to-one fixed rate. This form of monetary policy, known as
dollarization, was designed to restore investor confidence in the Argentine
currency and to counteract the heavy inflation experienced by the Argentine
peso in previous years. President Menem’s economic policy, including his
Convertibility Law, initially appeared to be a great success. From 1991 to 1994
Argentina enjoyed impressive economic growth. Furthermore, Argentina’s
inflation rate dropped dramatically. It seemed that dollarization was the magic
cure that the Argentine economy had been looking for. But, in 1995 Argentine
suffered some economic setbacks. After four years of growth, Argentina’s GDP
declined by 2.8%, largely due to shocks from the Mexico’s 1994 devaluation of
its peso. In 1995 the US dollar began a period of real appreciation that would
last until 1999 and, due to dollarization, resulted in an equivalent
appreciation of the Argentine peso. From 1996 to 1997 Argentina appeared to
recover from its economic set back in 1995. It enjoyed a robust economic growth
of 5.5% in 1996 and 8.1% in 1997. The Argentine economy also seemed to weather
the storm of the East Asian Financial Crisis of 1997. This lead many analysts
to begin holding Argentina up as an exemplar model of an emerging export
economy (Moussa). But in 1998 latent effects of the Asian crisis, transmitted
through shocks to the Russian and then Brazilian economies, struck Argentina
and caused Argentina to enter a recession from which it has not yet emerged
(CRS).
The
situation was exasperated in January 1999 when Brazil, facing economic troubles
of its own, devalued its currency. This lead to a serious imbalance between the
newly devalued Brazilian currency and the Argentinian peso, which was still
pegged to the American dollar. This shift resulted in an unfavorable trade
imbalance that severely hurt Argentine exports to Brazil, its largest export
consumer. In response to the mounting economic difficulties facing Argentina,
the Argentine legislature in September 1999 passed the Fiscal Responsibility
Law, the first in a series of legislations designed to remedy Argentina’s
economic problems through reducing governmental spending. One month later,
opposition leader Fernando de la Rua, defeated Peronist Eduardo Duhalde (Carlos
Menem’s chosen successor) and assumed the presidency. One of De la Rua’s first
acts as president was to seek financial assistance from the International
Monetary Fund. On March 10 of 2000 the International Monetary Fund agreed to a
$7.2 billion financial package to be spread over three years which was
contingent on fiscal reform and based on the assumption of continued GDP
growth. Three weeks later the government announced $1 billion in budget cuts,
hoping to demonstrate its compliance with the IMF policies and to restore
foreign investor confidence in the economy. Then, in December of that year, the
government announced a $40 billion assistance package provided by multiple
international lenders and coordinated by the International Monetary Fund. Yet,
in spite of the promises of aid and the de la Rua’s government apparently
sincere commitment to cutting governmental spending, Argentina’s economy showed
no signs of improvement. Mounting unemployment levels coupled with reductions
in social programs as a result of the de la Rua government’s committment to
fiscal responsibility led to increasing labor unrest in early 2001. On March
19, Domingo Cavallo, former Minister of Economy under Carlos Menem and key
architect of the Convertibility Law, reassumed the position of the Minister of
Economy. In June 19 of that year the de la Rua government announced that the
peso exchange rate for merchandise trade will be devalued by about %7. This was
the first time that the Argentine government had strayed from the policy of
strict dollarization since the passage of the Convertibility Law. In July,
domestic markets reacted negatively to Cavallo’s new fiscal plans, which called
for a balanced budget. On July 19, Unions called a nationwide strike to protest
further cuts in government spending. On July 29, the Argentine legislature
passed the “Zero Deficit Law,” demanding a balanced budget by the end of 2001.
The International Monetary Fund reacted favorable to this law, augmenting once
again its March 10, 2000 loan package by $7.2 billion. On October 14, the
opposition Peronist party won the mid-term elections, resulting in Peronist
control of both houses in the legislature. On November 6, Argentina enacted a $60
billion debt restructuring, exchanging more short term loans for more long term
ones with lower interest rates. It was perceived by international lenders as an
effective default. Within a month the run on the banks began. Reserves of the
central bank fell dramatically with excessive withdrawals. As an emergency
action, President de la Rua instituted a $1000 per month limit on personal bank
withdrawals. On December 5, the International Monetary Fund decided to withhold
a $1.24 billion loan installment, pointing to Argentina’s failure to meet
fiscal targets outlined by the International Monetary Fund. Two days later
Argentina announced it could not guarantee payment on foreign debt. One week
later unemployment rates reached a new record high and unions once again called
for a national strike. This also coincided with a rash of supermarket looting
and protest against the de la Rua government. On the December 19, open rioting
broke out in major cities throughout Argentina. In the next three days,
Minister of Economy Domingo Cavallo and President de la Rua both resigned from
office. (Standard and Poors) Senate President Ramon Puerta was then named
provisional president on the 23rd of December. The Argentine legislature then
appointed Adolfo Rodriguez Saa as interim president. He lasted four days before
resigning and being replaced by Eduardo Duhalde, who had been defeated by de la
Rua in the 1999 presidential elections. On January 6 of 2002 the newly sworn in
President Duhalde announced that Argentina will give up The Convertibility Law.
Instead, the peso would be devalued by 29% for major foreign transactions and
its value would be allowed to float freely on the world markets for all other
transactions. Duhalde also enacted legislation to renegotiate the public debt
and balance the budget. The government maintained the $1000 withdrawal limit to
prevent a bank run. On January 11, 2002 the government also announced a bank
holiday for two extra days while foreign currency markets opened for the first
time in weeks. During the week of the 11th, the peso fluctuated between 1.7 and
2.05 per dollar on the world currency markets. Later that month, Argentine
officials met with International Monetary Fund representatives and declared
their intention to adopt a floating exchange rate. On February 3rd the
Argentine government officially announced its intention to adopt a floating
rate (Forbes). Argentina continued discussions with the IMF about
reestablishing an aid agreement throughout the month of March. During this time
the peso hit an all time low value of four to a dollar. In June, there were new
anti-government protests. But economic indicators provided evidence that the
economy had stabilized, albeit with very high unemployment and a substantial
foreign debt. Most analysts declared the Argentine economic crisis over
(Forbes).
Analysis of the Role Played by the
International Monetary Fund in the Argentine Economic Crisis of 1999-2002
In
his testimony to the Subcommittee on International Monetary Policy and Trade in
the US House of Representatives, Mark Weisbrot of the Center for Economic and
Policy Research in Washington D.C. stated that the International Monetary Fund
“played a large role in causing the current crisis of Argentina’s economy”
(Congress 2). He made this statement on March 5, 2002 at a “Hearing on the
State of the Argentine Economic Crisis and the Role of the International
Monetary Fund.” This was just as Argentina was beginning to make strides
towards emerging from the malaise of economic chaos that it had struggled
through over the past year. At the time, Argentina’s economic recuperation was
far from guaranteed. As Mr. Weisbrot noted, unemployment remained at the
astronomical level of 22 percent, and objective signs of recovery would not be
forthcoming for months. It was thus with a warranted sense of urgency that Mr.
Weisbrot addressed the House subcommittee. Mr. Weisbrot’s testimony was short
and to the point. The International Monetary Fund (and thus the US Treasury
Department through its “dominant voice in the IMF”) (Congress 2) had to
acknowledge precisely what role it played in causing and perpetuating the
Argentine Economic crisis. He argued that “this is more than setting the
historical record straight: it is necessary to prevent the Fund from causing
further damage” (2). Weisbrot’s essential claim was that the International
Monetary Fund, through its unwavering support of Argentina’s one to one
convertibility policy between the Argentine peso and the US dollar had
substantially aggravated the crisis and prevented the Argentine economy from
averting absolute fiscal collapse. Weisbrot argued that the billions of dollars
provided in loans to the Argentine government only served to prop up a doomed
fiscal regime, and resulted in the massive debt burden that led to Argentina’s
loan default in December 2001. Weisbrot also vigorously argued against the
claim put forward by some analysts that it was unrestrained governmental
spending on the part of the Argentine government that was the primary cause of
the financial crisis. Weisbrot provided data indicating that the Argentinian
government had run primary budget surpluses since 1993. It was only the
increase in interest rates that led to a net fiscal debt increase. Weisbrot
argued that the Fund enacted a lending policy counterproductive to assisting
the Argentine economy, resulting in a greater increase in Argentina’s debt
burden (2).
In his
testimony, Mr. Weisbrot outlined two of the most fundamental criticisms made of
the IMF’s involvement in the Argentine Economic Crisis. The first criticism is
that, in supporting dollarization, the IMF compelled the Argentine government
to maintain an untenable monetary policy to the detriment of its economy.
There is a
great deal of support for this criticism. The Convertibility Law led the value
of the Argentine peso to get profoundly out step with the realities of the
Argentine economy. This led to serious repercussions both in terms of
Argentina’s foreign trade and its capacity to control domestic economic factors
through its monetary policy. Dollarization effectively robbed Argentina of its
capacity to direct its own monetary policy. It prevented it from taking such
simple steps as setting its own interest rates, an ability taken for granted by
almost every economy in the world. Had Argentina’s hands not been tied by its
dollarization program, there is a good chance that the economic crisis would
never have reached the degree it did.
Another effect
of dollarization is that it puts economies at the mercy of changes in the international
economic climate. The profound effect the Asian financial crisis of 1997 had on
the Argentine economy is evidence to this point. Such a policy, coupled with an
insistence on lowering trade barriers that is so often a requirement of
International Monetary Fund aid packages, could mean economic disaster for a
developing nation. Such a dual liberalization policy would rob that nation of
two of the most fundamental protections an economy has from external economic
factors. Given the grave consequences that are so obviously a possible result
of dollarization programs, the question arises of why the IMF would support so
foolhardy a monetary policy. Though it is difficult to explain the great
lengths the IMF went in supporting dollarization in the case of Argentina, it
is easy to comprehend why international lending institutions would support
dollarization in less extreme cases. The great advantage of dollarization is
that offers foreign investors an almost perfect guarantee of the viability of a
nation’s currency. So long as a nation maintains a dollarization program
faithfully, foreign investors may have every confidence in the currency they
are dealing with. This is a great boon to foreign investment and can have very
positive effects on a nation that adopts such policies. Such positive sides of
dollarization were demonstrated in the early success of the Convertibility Law
in bolstering the Argentine economy and curbing inflation. Yet, part of the
problem with dollarization is that to achieve its potential benefits a nation
must be willing to adopt such a program for an extended period. It does nothing
to improve investor confidence (and probably in most cases will worsen it) for
a nation to briefly adopt a dollarization plan and then convert back to floating
exchange rates or some other monetary policy. Thus, dollarization ends up being
a high stakes gamble in which a nation must balance the potential positives of
dollarization against the dangers of abdicating control of its monetary policy
and putting itself at the mercy of international economic changes. Argentina
took this gamble, road the wagon too long, and suffered the consequences.
As referred to
above, the second criticism Weisbrot levels is that IMF loans had little
substantive positive effect on the Argentina’s policy, but rather only served
to add to Argentina’s already serious debt burden. It has long been a criticism
of the IMF that its loan programs do little to help economies but instead tend
to breed a dependency on economic aid. Such a dependency can become a dangerous
cycle. Apparently such was the case in Argentina, where were used to perpetuate
poor fiscal policies that in turn led to a greater dependence on loans, and
eventually led to an insurmountable debt burden. There is credence to the
danger of loans, though it is difficult to make the claim that the
International Monetary Fund, a lending organization, ought to get out of the
business of making loans. The solution of course is wiser loans. This would
require that loans not just be band-aid solutions or parts of cookie-cutter
structural readjustment programs that take little account of the unique nature
of the economies being administered to. They would have to be thoughtfully
considered and nuanced aid packages designed to reinforce economies at their
points of weakness. Clearly, this was not the case in Argentina. A thoughtful
reconsideration of IMF lending policies ought to look at Argentina as an
example of a loan package that proved counterproductive to its goals.
An alternative
perspective of the Argentine economic crisis is put forward by Michael Mussa in
his policy analysis, “Argentina and the Fund: From Triumph to Tragedy.” Michael
Mussa, who was the director of research at the IMF from 1991-2001, claims that
it was the inability of Argentine government officials to run a responsible
fiscal policy that was the primary cause of the crisis (Mussa 15). Mussa also
pointed to factors such as governmental corruption, powerful labor interests,
and nationalized control of sectors of the economy as contributing factors to
Argentina’s economic crisis. Overall, Mussa’s argument is unconvincing. Many
economies share the characteristics listed above and never have experienced an
economic decline like that undergone by Argentina. The distinguishing factors
in the case of Argentina was dollarization and direct IMF involvement. Mussa’s
arguments are interesting in that they shed some light on what the thought
process of the IMF was during the crisis. Mussa’s emphasis on fiscal
responsibility in his analysis helps to explain why the IMF so strongly pushed
the de la Rua government to cut governmental spending, even when those cuts
meant cutting social services to Argentina’s middle and working classes during
their most urgent time of need (Mussa 40).
There are
several important lessons to be drawn from Argentina. First, Argentina
demonstrates the harm that poor fiscal and monetary policy can do to an
economy. Second, it demonstrates great downsides of the neo-liberal policies
employed by the IMF. In its insistence on cutting government spending, its
propping up of dysfunctional monetary policies, and its issuing of ineffective
loan programs, the IMF did much to exacerbate Argentina’s economic crisis.
Argentina’s great error throughout the crisis was that it was too willing to
follow the directions of the IMF. A lesson Argentine leaders should draw from
the economic crisis is not to place their faith in international lending and
trade institutions such as the IMF. Lastly, we should use the example of the
Argentine economic crisis as basis for reconsidering what sort of influence
institutions such as the IMF ought to have on the both our domestic and
international economic systems.
Bibliography
CIA-The Worldfact Book 2002: Argentina 13 Feb. 2003.
Central
Intelligence Agency. 13 Feb. 2003
http://www.cia.gov/cia/publications/factbook/geos/ar.html
Chronology- Events Leading up to Argentina IMF Debt Deal 16 Jan. 2003.
Forbes Magazine.
March 4, 2003
<
http://www.forbes.com/newswire/2003/01/16/rtr850370.html>
Norden, Deborah L. and Roberto Russel. The United States and
Argentina. New York: Routledge,
2002.
Mussa, Michael. “Argentina and the Fund: From Triumph to
Tragedy.” Policy Analysis in
International Economics 67 (2002)
The Argentine Crisis: Chronology of Events After Sovereign
Default Since April 7 June 2002. Standard
and Poors. March 12, 2003
The Argentine Financial Crisis: A Chronology of Events January 31,
2002
CRS Report for
Congress. March 3, 2003
<
http://fpc.state.gov/documents/organization/8040.pdf>
United States Congress, House of Representatives. Subcommittee
International Monetary Policy and
Trade. Hearing on the State of Argentine Economic Crisis and the Role of the International Monetary Fund.
5 March 2002