With interest rates sky-high and the economy heading for recession, Argentina’s President Mauricio Macri is running short of options to stem the slide in the peso, economists say, leaving the battered currency at the mercy of volatility in emerging markets.
Macri’s government has already taken a series of measures to restore confidence in the peso since it came under pressure in May, reviving memories of a painful 2002 economic crisis in Latin America’s third-largest economy.
The peso, which has fallen around 40 per cent so far this year, rivals the Turkish lira as the world’s worst performing currency in 2018.
Argentina’s central bank hiked interest rates to 40 per cent in May, and Macri sealed a $50 billion deal with the International Monetary Fund in June —removing the need for outside funding and briefly steadying the peso. His government has since announced more than $2 billion in budget savings.
But jitters returned in recent weeks as Turkey’s financial crisis roiled emerging markets, after Turkish leader Recep Tayyip Erdogan clashed with US President Donald Trump.
Confidence in Argentina was also shaken by a major corruption scandal in the construction sector, expected to damage economic growth already hit by a drought that crippled vital agricultural production.
The peso has tumbled 8.5 per cent against the dollar in the past two weeks despite Argentina’s central bank again hiking rates to 45 per cent. On Wednesday, the bank was forced to sell $781 million in reserves to support the peso, before tightening reserve requirements a day later.
Such dizzying interest rates and the fiscal measures would normally be enough to halt a currency run but sentiment was being dictated by global events, said Alberto Bernal, chief strategist at XP Investments in New York.
“Seventy per cent of the problems facing Argentina are external in nature,” Bernal said. “Macri needs luck... He needs Trump to go easier against China and Europe. He needs Erdogan to come to his senses and he needs a weaker dollar, which means he needs the US Federal reserve to be a little less aggressive in its policy guidelines.”
A major challenge for Argentina is that interest rate rises have limited impact in fighting inflation because consumers and businesses use little credit after years of financial crises, economists say. Inflation jumped to 31 per cent in June.
On the fiscal front Macri’s options are limited. He has already suspended a reduction in soy export taxes and unveiled other fiscal measures worth around $2.2 billion in savings.
Yet a weakening economy leaves Macri with few policy levers to pull without inflicting further damage. Despite high expectations at the start of 2018, the currency crisis and drought have slammed Argentina’s $640 billion economy into reverse.
Diego Ferro, partner and portfolio manager at Greylock Capital in New York, said that until recently investors had been happy with Argentina’s gradualist approach, but market turmoil had made them impatient for results from Macri’s government.
Some investors are also concerned that political pressures in Argentina will make it difficult to implement reforms. The changes to soy taxes have already proven unpopular with the farm lobby, a key base of his support.
Many ordinary Argentines blame Macri for worsening inflation after cuts to public utility subsidies — a key plank of his economic platform — drove water and heating bills higher.
Economists expect the economy to contract 0.3 per cent this year and grow 1.5 per cent next year, according to the most recent central bank survey.
Macri has defended his gradual approach to reform, saying it was needed to shelter ordinary Argentines from a drop in living standards.
Yet for some, Macri squandered an opportunity for sweeping change after he was elected in 2015 amid frustration with outgoing President Cristina Fernandez’s administration of 12 years of leftist rule. — Reuters
Hugh Bronstein
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