Along with Turkey and fellow South American country Venezuela, the economy of Argentina has been on the front page of the news over the last year for all the wrong reasons. Interest rates are hovering around 66%. Inflation is running at an annualized rate of over 50%. The economy shrank more than 6% during the last 3 months of 2018. Furthermore, 32% of the population is said to be living below the poverty line.
How can this be happening again (remember the Argentinian Peso Crisis of 2001-2002?) to a country that is the third-largest economy in South America, but at one point was richer than all its Latin American neighbors combined?
The origins of the country’s current economic collapse can be traced back to 2007 when Cristina Fernandez de Kirchner, a free-spending liberal, was elected President of Argentina. Among her interventionist policies, her government implemented a controlled exchange rate, which limited the buying and selling of foreign currencies. It also restricted access to US dollars in order to protect the central bank’s US dollar reserves, which had been used for years to prop up the peso. These policies left the economy in default without access to financial markets, a very high inflation rate and one of the most regulated and least free economies in the world.
Along comes current President Mauricio Macri in 2015. Soon after assuming office, Macri lifted the currency controls that were implemented by Fernandez and introduced pro-market reforms (such as cutting export taxes) with the hope of countering Fernandez’s years of protectionism and high government spending. This, he had hoped, would also tackle double-digit inflation, boost the country’s exports which would then spur economic growth.
To the dismay of many of its citizens, Macri also began the process of cutting utility subsidies in hopes of reducing the fiscal deficit. This quickly raised gas and electricity prices by double digits, handcuffing many of the less-wealthy middle-class consumer. Public transportation fees were increased as well, another part of Macri’s austerity program to increase government revenues and balance the budget.
So far, Macri’s policies have not had their intended effect.
Argentina’s high cost of labor and strong unions (known for going on strike) have continued to scare off foreign investors. The big foreign “bricks-and-mortar” investment that Macri promised after winning the election has not yet arrived. Furthermore, the country’s central bank has appeared somewhat relaxed in dealing with the inflationary threat linked to its subsidy cuts. During these past two years, Macri’s government has been spending beyond its means and has kept borrowing US dollars to finance the budget shortfall.
Rising interest rates in the United States just further added to the demise of the country’s currency during 2018. When the US Federal Reserve raised rates a number of times last year, money started flowing out of Argentina and other riskier emerging markets. All this pressured the peso, prompting the central bank to increase interest rates, which further weighed on the economy.
To exacerbate the debt payments Argentina faces is the fact that nearly 70% of it is denominated in foreign currency. The country needs to repay this debt by converting its much dilapidated peso into foreign currency (much of it US dollars) which further exacerbates the currency’s woes. Other South American countries, for example, like Brazil and Chile, have just 5% and 18% of debt that is foreign denominated. This leaves the peso even more vulnerable to declines in the near future. The peso is by far the world’s worst performing currency in 2019.
Strapped for cash, the Argentinian government last year turned to the International Monetary Fund (IMF) for assistance. With the strong backing of the United States, the ailing nation was given a $50 billion IMF loan to use over the next three years. The Argentine government insisted to private investors that the loan was just a “precautionary” program and that the funds would not be spent (but instead be used to increase liquidity and restore market confidence).
However, with the peso continuing to deteriorate, Argentina and the IMF agreed that the loan could be used to meet debt payments and avoid a 2019 default. On April 15 of this year, the IMF sent another $9.6 billion installment. But rather than using this money to build up its foreign-exchange reserves or buy back debt, the Macri government will instead buy Argentine pesos to avoid another run on its currency.
With such a battered investment climate, is now the time to look into investing in Argentinian stocks in the hope of buying at the bottom? It may be a bit premature at this point, but after the upcoming presidential elections, investors may want to look at the Global X MSCI Argentina ETF (ticker: ARGT). This exchange traded fund lost 32% of its value last year, but so far is up 17% into 2019. This big return to start the year can be a bit misleading: 29% of the fund’s portfolio is invested in the giant South American “EBay”, Mercado Libre, which itself is surging 85% to start the year. Remember to always discuss any investment with your financial advisor first, especially if you want to begin tiptoeing into a nation that has been in such dire straits economically over the last several years.