Christine Lagarde has left another economic disaster behind her in Argentina

One of the rules of modern life is that the higher up the chain you are or as Yes Prime Minster put it “the greasy pole” the less responsible you are for anything. A clear example of that is currently Christine Lagarde who is on here way to becoming the next President of the European Central Bank and found her competence being praised to the heavens in some quarters. Yet the largest ever IMF programme she left behind continues to fold like a deckchair. From the Argentina central bank or BCRA this morning via Google Translate.

Measures to protect exchange-rate stability and the saver

There are two immediate perspectives. The first is that we need to translate the announcement which suggests as a minimum a modicum of embarrassment. Next when central banks tell you that you are being protected it is time to think of the strap line of the film The Fly.

Be Afraid, Be Very Afraid

Let us look at the detail.

The measure establishes that exporters of goods and services must liquidate their foreign exchange earnings in the local market……Resident legal entities may purchase foreign currency without restrictions for the importation or payment of debts upon expiration, but they will need compliance from the Central Bank of the Argentine Republic to purchase foreign exchange for the formation of external assets, for the precancelation of debts, to turn abroad profits and dividends and make transfers abroad.

So some restrictions on businesses and here are the ones on the public.

Humans will not have any limitations to buy up to USD 10,000 per month and will need authorization to buy amounts greater than that amount. Transactions that exceed USD 1,000 must be made with a debit to an account in pesos, since they cannot be carried out in cash. Nor will it be allowed to transfer funds from accounts abroad of more than USD 10,000 per person per month. Except between accounts of the same owner: in this case there will be no limitations.

If you are not Argentinian then the noose is a fair bit tighter.

Non-resident human and legal persons may purchase up to USD 1,000 per month and may not transfer funds from dollar accounts abroad.

What about the debt?

We need a bit of reprogramming here after all it has been party-time for bondholders in most of the world. However as Reuters points out not in Argentina.

Standard & Poors announced on Thursday that it was slashing Argentina’s long-term credit rating another three notches into the deepest area of junk debt, saying the government’s plan to “unilaterally” extend maturities had triggered a brief default. The ratings agency said it would consider Argentina’s long-term foreign and local currency issue ratings as CCC- “vulnerable to nonpayment” – starting on Friday following the government’s Wednesday announcement that it wants to “re-profile” some $100 billion in debt.

That’s more than a bit awkward for those who bought the 100 year bond which was issued in 2017. It was also rather difficult for the IMF which seems to have found itself in quicksand.

By the time Treasury Minister Hernan Lacunza said on Wednesday that the government wanted to extend maturities of short-term debt, and would negotiate new time periods for loans to be paid back to the International Monetary Fund, a debt revamp was already widely expected.

We will have to see how the century ( now 98 year ) bond does but after being issued at 85 it traded at 38 last week. In a sign of the times even the benchmark bond which in theory pays back 100 in 2028 did this.

The January 2028 benchmark briefly dropped under 40 cents for the first time ever before edging up to trade at 40.3.

For perspective Austria also issued a century bond at a similar time and traded at 202 last week.

The Peso

Back on August 12th I pointed out that it took 48.5 Pesos to buy a single US Dollar ahead of the official opening. Things went from bad to worse after the official opening with the currency falling into the mid-50s in a volatile market. On Friday it closed at 59.5 and that was after this.

The central bank has burnt through nearly $1 billion in reserves since Wednesday in an effort to prop up the peso. But the intervention did not have the desired impact and risk spreads blew out to levels not seen since 2005, while the local peso currency extended its year-to-date swoon to 36%. ( Reuters ).

If we stay with the issue of reserves I note that the BCRA itself tells us that as of last Wednesday it had US $57 billion left as opposed to this from my post on August 12th.

But staying with the central bank maybe it will be needing the US $66.4 billion of foreign exchange reserves.

I was right and the nuance here is shown by how little of the reserves were actually deployable in a crisis. We know 14% were used and at most 20% have now been used yet policy has been forced to change. That is a common theme of a foreign exchange crisis you only end up being able to use if I an generous half of your reserves before either you press the panic button or someone does it for you.

Interest-Rates

Here we see another departure from the world-wide trend as rather than falls we are seeing some eye-watering levels. Back on August 12th I noted an interest-rate of 63.71% whereas now it is 83.26%. This provides another perspective on the currency fall because you get quite decent return for these times if you can merely stay in the Peso for a week or two.

As for the domestic economy such an interest-rate must be doing a lot of damage because of the length of time this has lasted for as well as the number now.

Comment

As recently as June 7th last year the IMF announced this.

The Argentine authorities and IMF staff have reached an agreement on a 36-month Stand-By Arrangement (SBA) amounting to US$50 billion (equivalent to about SDR 35.379 billion or about 1,110 percent of Argentina’s quota in the IMF).

The amount has been raised since presumably because of the rate of access of funds. If you look at the IMF website it has already loaned just short of 33 billion SDRs. Meanwhile here is some gallows humour from back then.

The authorities have indicated that they intend to draw on the first tranche of the arrangement but subsequently treat the loan as precautionary.

As Christine Lagarde was cheerleading for this she did get one thing right.

I congratulate the Argentine authorities on reaching this agreement

They kept themselves in power with the help of IMF funds. That has not gone so well for the Argentine people not the shareholders of the IMF. There are similarities here with the debacle in Greece where of course Christine Lagarde was heavily involved in the “shock and awe” bailout that contributed to an economic depression. For example as 2018 opened the IMF forecast 2.5% economic growth for it and 2.8% this year as opposed to the reality of the numbers for the first quarter being 5.8% lower than a year before.

Yet as recently as April she was telling us this.

When the IMF completed its third review of Argentina’s economy in early April, managing director Christine Lagarde boasted that the government policies linked to the country’s record $56bn bailout from the fund were “bearing fruit”.

It is not an entirely isolated event as we look at other IMF programmes.

Pakistan Rupee -4.83% seems IMF’s (Lagarde’s) lesser-known second success story. Eurozone you are next up ( @Sunchartist )

But the official view has been given by Justin Trudeau of Canada who has described Christine Lagarde as a “great global leader.”

Podcast

Can the IMF hang on in Argentina?

There was a whiff of ch-ch-changes yesterday as we note the result of the elections held in Argentina.

Argentine voters soundly rejected President Mauricio Macri’s austere economic policies in primary elections on Sunday, casting serious doubt on his chances of re-election in October, early official results showed. ( Reuters)

As ever the politics is not my concern but the economics is and there is rather a binary choice here.

Voters were given a stark choice: stay the course of painful austerity measures under Macri or a return to interventionist economics.

This has more than a few consequences because we have a situation where the economy has nose dived as the Peso plunged and inflation soared. In response the present government negotiated the biggest IMF ( International Monetary Fund) bailout ever. Oh and the none too small matter of an official interest-rate which was 63.71% on Friday which sticks out like a sore thumb in a world which saw 6 central banks cut interest-rates last week alone.

Below is the Reuters view on the consequences for the financial world.

Argentine stock and bond prices were expected to slide when financial markets opened on Monday because Fernandez’s lead far exceeded the margin of 2 to 8% predicted in recent opinion polls.

The peso plunged 5.1% to 48.50 per U.S. dollar following early official results on the platform of digital brokerage firm Balanz, which operates the currency online non-stop.

Financial Markets

There has been a lot of rhetoric about the Peso plunging but we are still waiting for official trading to start as I type this. Balanz are wisely quoting a wide spread of 46.5 to 48.5 versus the US Dollar. I am often critical of wide foreign exchange spreads but in this instance I have some sympathy. Meanwhile I note that China.org.cn is on the case.

But the South African rand and Argentine peso have both fallen significantly against the yuan, with the rand down 9.36 percent year-on-year and the value of the peso falling 37.29 percent.

Maybe there will now be more Chinese tourists.

Moving to bond markets I am reminded that in what seems like a parallel universe Argentina issued a century or 100 year bond in 2017. Now as it was denominated in US Dollars it is not as bad as you might think for holders. Mind you it is bad enough as the price has fallen by 3 points to just above 71. If you are a professional bond investor you are left having to explain to trustees and the like how you have managed to lose money in what has been the biggest bull market in history.You would be desperately hoping nobody turns up with a chart of the Austrian century bond where the price is more like 171. Maybe you could try some humour as show this from M&G Bond Vigilantes from when the bond was issued.

Given the unusual maturity of the bond, the model choked after 50 years. However, we can see that the implied probability of default given these assumptions is already at 97% for a bond maturing in 50 years. Given this, a century bond should not be seen as being much riskier.

If you have a 97% risk of default things cannot get much riskier can they?

The economic situation

The IMF tried to be optimistic at the end of last month but we can read between the lines.

In Argentina, the economy is gradually recovering from last year’s recession. GDP growth is projected to increase to -1.3 percent in 2019 and 1.1 percent in 2020 due to a recovery in agricultural production and a gradual rebuilding of consumer purchasing power, following the sharp compression of real wages last year. Inflation is expected to continue to fall. However, with inflation proving to be more persistent, real interest rates will need to remain higher for longer, resulting in a downward revision to GDP growth in 2020.

As you can see it tries to be optimistic as after all wouldn’t you if you has lent so much money? But the reality of the wider piece was of a slow down in Latin America.

If we go to the statistics office we are told this.

Progress report on the level of activity. Provisional estimates of GDP for the first quarter of 2019
The provisional estimate of the gross domestic product (GDP), in the first quarter of 2019, shows a 5.8% drop in relation to the same period of the previous year. The level of GDP in the first quarter is 2.0% lower than in the fourth quarter of 2018.

The seasonally adjusted GDP of the first quarter of 2019, compared to the fourth quarter of 2018, shows a variation of -0.2%, while the cycle trend shows a positive variation of 0.1%.

As to trade there is good and bad news. The good is that Argentina has a trade surplus so far in 2019 as opposed to a deficit which will be providing a boost to GDP via net exports. Indeed exports are up by around 2% overall although nearly all of this took place in May. But the good news ends there because the real shift in the trading position has been to what can only be called a collapse in import volumes. As of the June figures the accumulated drop was 27.9% for the year so far. That is ominous because it hints at quite a fall in domestic consumption especially if we note what Argentina exports and imports. From the European Commission.

The EU is Argentina’s second trading partner  (after Brazil), accounting for 15.7% of total Argentinean trade in 2016. In 2016 EU-Argentina bilateral trade in goods totalled EUR 16.7 billion.

Argentina exports to the EU primarily food and live animals (65%) and crude materials except fuel (16%) (2016 data).

The EU exports to Argentina mainly manufactured goods, such as machinery and transport equipment (50%) and chemical products (22.6%) (2016 data).

If we switch to inflation then the annual rate of inflation is a stellar 55.8%. However there are signs of a reduction as the monthly rate in June was 2.7%. Of course we get a perspective from the fact that many central banks are desperately trying to get an annual rate of 2.7%. But in Argentina is suggests an amelioration and the year ahead estimate is for 30%.

Comment

There are various perspectives here but let me start with the interest-rate one. At any time an interest-rate of over 60% is a red flag but right now it is more like a double or triple red flag. No wonder the unemployment rate rose to 10.1% in the first quarter of the year. But staying with the central bank maybe it will be needing the US $66.4 billion of foreign exchange reserves.

The next view must be one of terror from the headquarters of the IMF. Back on May 21st I pointed out this.

When the IMF completed its third review of Argentina’s economy in early April, managing director Christine Lagarde boasted that the government policies linked to the country’s record $56bn bailout from the fund were “bearing fruit”.

Oh and the forecast for economic growth in 2020 was 2.1% back then as opposed to the 1.1% of now. That has horrible echoes because there was a time that Christine Lagarde was involved in a big IMF programme for Greece and forecast 2.1% growth next year when in fact the economy collapsed. She of course has put on her presumably Loubotin running shoes and sped off to the ECB in Frankfurt but sadly the poor Argentines cannot afford to do this.

Researchers at two Argentine universities estimate that 35% of the population is living in poverty, up from the official government rate of 27.3% in the first half of 2018.

Should the IMF programme fold get ready for an army of apologists telling us that it was nothing at all to do with Madame Lagarde.

Podcast

 

Argentina is counting the cost of its 60% interest-rates

In these times of ultra low interest-rates in the western world anywhere with any sort of interest-rate sticks out. In the case of Argentina an official interest-rate of 60% sticks out like a sore thumb in these times and in economic terms there is a second factor in that it has been like that for a while now. So the impact of this punishing relative level of interest-rates will be building on the domestic economy. Also the International Monetary Fund is on hand as this statement from Christine Lagarde yesterday indicates.

“I commended Minister Dujovne and Governor Sandleris on decisive policy steps and progress thus far, which have helped stabilize the economy. Strong implementation of the authorities’ stabilization plan and policy continuity have served Argentina well, and will continue to be essential to enhance the economy’s resilience to external shocks, preserve macroeconomic stability and to bolster medium-term growth.

“I would like to reiterate the IMF’s strong support for Argentina and the authorities’ economic reform plan.”

The opening issue is that sounds awfully like the sort of thing the IMF was saying about Greece when it was predicting a quick return to economic growth and we then discovered that it had created an economic depression there. Of course Christine Lagarde was involved in that debacle too although back then as Finance Minster of France rather than head of the IMF. Also the last IMF press conference repeated a phrase which ended up having dreadful connotations in the Greek economic depression.

It’s on track as of our last mission which was, you know, in December.

As the track was from AC/DC.

I’m on the highway to hell
On the highway to hell
Highway to hell
I’m on the highway to hell
No stop signs, speed limit
Nobody’s gonna slow me down

So let us investigate further.

Monetary policy

The plan is to contract money supply growth so you could look at this as like one of those television programmes that take us back to the 1970s.

In particular, the BCRA undertakes not to raise the monetary base until June 2019. This target brings about a significant monetary contraction; while the monetary base increased by over 2% monthly in the past few months, it will stop rising from now onwards. Then, the monetary base will dramatically shrink in real terms in the following months.

So you can see that the central bank of Argentina is applying quite a squeeze and is doing it to the monetary base because it is a narrow measure, Actually it explains it well in a single sentence.

The BCRA has chosen the monetary base as it is the aggregate it holds a grip on.

It is doing it because it can. Although I am a little dubious about this bit.

The monetary base targeting will be seasonally adjusted in December and June, when demand for money is higher.

It is usually attempts to control broad money that end up targeting money demand rather than supply. It is being achieved with this.

the BCRA undertakes to keep the minimum rate on LELIQs at 60% until inflation deceleration becomes evident.

Also there will be foreign exchange intervention if necessary, or more realistically there has been a requirement for it.

The monetary target is supplemented with foreign exchange intervention and non-intervention measures. Initially, the BCRA would not intervene in the foreign exchange market if the exchange rate was between ARS34 and ARS44. This range is adjusted daily at a 3% monthly rate until the end of the year, and will be readjusted at the beginning of next year. The BCRA will allow free currency floating within this range, considering it to be adequate.

Finally for monetary policy then monetary financing of the government by the central bank is over.

As it has already been reported, the BCRA will no longer make transfers to the Treasury.

Fiscal Policy

Another squeeze is on here as the BCRA points out.

Finally, the new monetary policy is consistent with the targets of primary fiscal balance for 2019 and of surplus for 2020.

Yes in terms of IMF logic but the Greek experience told a different story. There a weaker economy made the fiscal targets further away and tightening them weakened the economy in a downwards spiral.

So where are we?

The squeeze is definitely as my calculations based on the daily monetary report show that the monetary base has shrunk by just under 4% in the last 30 days. If we move onto the consequences of this for the real economy then any central bankers reading this might need to take a seat as the typical mortgage rate in December was 48%. To give you an idea of other interest-rates then an overdraft cost 71% and credit card borrowing cost 61%.

If we look for the impact of such eye-watering levels we see that mortgage growth was on a tear because annually it is 54% up of which only 0.1% came in the last month. Moving to unsecured borrowing overdraft growth has been -1.2% over the past 30 days but credit card growth has been 3.5% so perhaps there has been some switching.

Economic growth

This has gone into reverse as you can see from this from the statistics office.

The provisional estimate of the gross domestic product (GDP), in the third quarter of 2018, had a fall of 3.5% in relation to the same period of the previous year.
The seasonally adjusted GDP of the third quarter of 2018, with respect to the second quarter of 2018, showed a variation of -0.7%.

So a weaker quarter following on from a 4.1% dip in the second quarter of 2018 which was mostly driven by the impact of a drought on the agricultural sector. Looking back the Argentine economy did recover from the credit crunch pretty well but the recorded dip so far takes us back to 2011 or eight years backwards.

The IMF points out this year should get the agricultural production back which is welcome.

However,
in the second quarter, a rebound in agricultural
production (expected to fully recover the 30 percent
production lost in 2018 because of the drought)
should lead to a gradual pickup in economic activity.

But if we put that to one side there has to be an impact from the credit crunch. Also whilst this is good.

The recession and peso depreciation are quickly lowering the trade deficit.

It does come with something which has a very ominous sign for domestic consumption.

The adjustment mainly reflects
lower imports, reflecting a contraction in
consumption and investment.

Moving to inflation then here it is.

The general level of the consumer price index (CPI) representative of the total number of households in the country registered in December a variation of 2.6% in relation to the previous month.

Comment

There is a fair bit to consider here as we see a monetary squeeze imposed on an economy suffering from a drought driven economic contraction. Also I have form in that I warned about the dangers of raising interest-rates to protect a currency on May 3rd.

However some of the moves can make things worse as for example knee-jerk interest-rate rises. Imagine you had a variable-rate mortgage in Buenos Aires! You crunch your domestic economy when the target is the overseas one.

Interest-rates were half then what they are now and I have already pointed out what mortgage rates now are. As to what sort of a economic crunch is coming the latest from the statistics office looks rather ominous.

The statistics office’s monthly economic activity index fell 7.5% y/y in November after dropping 4.2% in the previous month.

As to the business experience this from Reuters gives us a taste of reality.

Like many small businessmen, Meloni has found himself caught in a vice. Sales from his plant in the town of Quilmes, 30 km (19 miles) outside the capital Buenos Aires, shrank by just over one third last year as Argentina’s economy sank deep into recession…..

 

Meloni said the plant, which makes fabrics, used to operate 24 hours a day from Monday to Saturday but now just operates 16 hours a day, five days a week. Like many other businesses, Meloni advanced the holidays to his roughly 100 employees with the hope that once summer ends in March, demand will pick up.

It is very expensive to make people in Argentina which keeps people in a job (good) but with lower pay from less work (bad) and if it keeps going will collapse the company (ugly).

Back in the financial world I also wonder how this is going?

About a year after emerging from default, Argentina has surprised investors by offering a 100-year bond.

The US-dollar-denominated bond is offered with a potential 8.25 per cent yield.

Podcast

Here are my answers to questions asked about the Euro area economy