The Washington Post

U.S. success raises Argentina’s stress

- MATT O'BRIEN Wonkblog

If it’s true that the rest of the world catches a cold whenever America sneezes, then what happens to them when our unemployme­nt rate gets down to 3.9 percent?

Well, the somewhat surprising answer is that a few of them still get sick, not despite, but rather because of how well we’re doing. The simple story is that countries that have to borrow a lot of money overseas can get in a lot of trouble when a stronger U.S. economy leads to a stronger dollar, because that makes their debts harder to pay back with their now-weaker currencies. There is no easy way out either. The best they can do is sacrifice their economies to save their currencies.

Which brings us to Argentina. Now, on the one hand, it almost doesn’t seem worth mentioning that its currency is collapsing. It has been doing that for the better part of a century. But, on the other hand, this does deserve some attention because this time really was supposed to be different. Center-right President Mauricio Macri had promised he would make Argentina a “normal country” by once and for all rejecting what he accurately described as the kind of “magical” thinking that said they could have their cake, eat it, and then print some money to buy more cake. Despite that, though, Macri has, much like his predecesso­rs, been reduced to asking the Internatio­nal Monetary Fund for a $30 billion line of credit to try to stabilize the situation.

What happened? Well, a few things. Macri has rather sensibly attempted to only gradually cut the country’s budget deficit, while more rapidly reducing what was Argentina’s 40 percent inflation rate. As a result, the currency, as much as it has weakened, has been a bit stronger than expected. That has made its exports less competitiv­e and the country as a whole more dependent on borrowing from abroad.

In this, Argentina is hardly unique among emerging markets, but it is uniquely bad. That’s because, as the Council on Foreign Relation’s Benn Steil and Benjamin Della Rocca point out, the “taper tantrum,” a period when emerging market stocks, bonds and currencies sold off five years ago in response to then-Fed Chair Ben Bernanke’s suggestion that the Federal Reserve might start printing less money, was enough to scare a lot of them into shoring up what had been pretty vulnerable borrowing positions. So now that the Fed is, in fact, increasing interest rates and U.S. Treasury bond yields are starting to rise — attracting money that previously had been pouring into emerging markets where it could earn a better return — they are in a strong enough spot to withstand the whipsaw of these financial flows going into reverse. But Argentina, which the IMF estimates borrowed the equivalent of 4.8 percent of its gross domestic product from overseas last year, is not.

The rest is a pretty familiar story, at least for Argentines. It started in December, when Macri seemed to become concerned that the central bank’s efforts to, if not quash, at least bring inflation down to a more manageable level were not only unrealisti­c but also hurtful to the economy (and his own reelection chances) in the shortterm. His government increased the inflation target for the next year from a range of 8 to 12 percent up to just 15 percent. Right on cue, of course, the central bank started cutting rates a month later, despite the fact that inflation was sitting at 25 percent. It’s no surprise, then, that, notwithsta­nding what Macri has said, markets began to wonder whether the central bank really was independen­t when it looked like the same old story was going on: Argentine monetary policy being driven by political concerns instead of economic.

That was the economic fuse that rising interest rates in the United States set off in the last month. Argentina’s peso has dropped around 10.4 percent in the past two weeks.

The government’s response has followed the classic pattern. First, it tried to spend the problem away by using $5 billion of its reserves to prop up the peso in internatio­nal currency markets. This worked for a few minutes. Then, when it had no other choice, it did what it hadn’t wanted to at the start of the year and increased interest rates. First, they were raised from 27.25 to 30.25 percent; then, when that didn’t work, from 30.25 to 33.25 percent a week later; and finally up to 40 percent a few days after that. The idea is simply to raise rates so much that the returns investors get can entice them to move their money back into the country and, in the process, push the peso back up. And, just to make sure markets got the message, the government even announced it would cut its deficit more than it had already planned.

This worked for a little while — the Financial Times even had a headline last night proclaimin­g that “Argentina’s ‘shock and awe’ appears to pay off ” — before it didn’t. The peso resumed its slide Tuesday, prompting the government to turn to the IMF for help. The problem is that currencies don’t tend to just fall to whatever their fair market value is, but rather to go even further so that investors can expect to make money as it rises back to wherever it “should” be. In the interim, though, Argentina is left with interest rates that are far too high for its economy to grow. It’s a Catch-22: The only way to save its economy from a panic over the peso is to destroy it with punishingl­y high interest rates.

It’s a reminder that what is good for the United States isn’t always good for the world, especially if they have borrowed a lot of dollars and have a central bank that looks a little less than independen­t.

 ?? VICTOR R. CAIVANO/ASSOCIATED PRESS ?? A currency exchange in downtown Buenos Aires. Argentine President Mauricio Macri said Tuesday that the government has begun financing talks with the Internatio­nal Monetary Fund for a $30 billion line of credit following a sharp devaluatio­n of its...
VICTOR R. CAIVANO/ASSOCIATED PRESS A currency exchange in downtown Buenos Aires. Argentine President Mauricio Macri said Tuesday that the government has begun financing talks with the Internatio­nal Monetary Fund for a $30 billion line of credit following a sharp devaluatio­n of its...

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