The Big Idea
Argentina | Avoiding crisis
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The bar is low for Argentina. This is less about transforming structural imbalances and more about avoiding a crisis. This is the job of Economy Minister Sergio Massa’s economic team. A positive shift in domestic sentiment has provided some near-term relief, but now comes the difficult challenge of fiscal adjustment and foreign exchange reserve accumulation. A tactical bullish view of late July has since been vindicated with Argentina the top regional performer this past month. There is still potential for near-term mark-to-market risk if executing an IMF program proves difficult. But over the medium-term, investors get protection from continuing low bond prices.
The new Massa team has provided some welcome stability for domestic investors. This alone is quite relevant since an unchecked crisis of confidence could spiral into a funding or inflationary crisis. The central bank has shifted back to become a small buyer of US dollars and the difference has narrowed between the blue-chip foreign exchange rate and the official foreign exchange rate. The treasury has also successfully rolled over the local debt in recent auctions. The positive sentiment from local markets has spilled over to external markets with prices for Argentina’s sovereign debt clearly off the 2022 lows but still below a 30 historical recovery value.
The positive catalyst has been renewed commitment under Massa to the International Monetary Fund program. The latest team members continue to inspire confidence including the entrance of Economic Vice Minister Rubinstein and the departure of Energy Under Secretary Basualdo. This rounds out a more technocrat team with strong political credentials and lowers overall execution risks.
The hard work now begins on rebuilding foreign exchange reserves and consolidating the fiscal accounts. There is no quick fix for Argentina’s severe macro imbalances. The Massa team should maximize the narrow policy choices with less internal political resistance. The fiscal adjustment alternatives include segmented tariff hikes, inflationary revenues, capex cutbacks and efficiency savings amongst public entities. The foreign exchange reserve accumulation alternatives include regulatory restrictions or administrative barriers that discourage US dollar demand and encourage US dollar supply, interest rate hikes and faster pace of foreign exchange depreciation. It’s always been a political preference to source 1-off dollars by accessing the China foreign exchange swap line or securing innovative multilateral loans.
The IMF may also have to show some flexibility on program targets with Minister Massa heading to Washington on September 6. There is still goodwill on both sides to avoid an IMF default, irrespective of who heads the economic team. The first negotiations should focus on a waiver of the second quarter 2022 foreign exchange reserve and fiscal targets as well as the potential to source additional funding either from the IMF FST facility or across other Washington-based multilaterals. It looks increasingly likely the third quarter 2022 foreign exchange reserve targets may require program revisions. The best efforts of the new economic team should sustain IMF relations and broader investor sentiment. If Argentina averts a worse economic crisis and muddles-through the next few months, then this increases fiscal flexibility coming out of political and economic transition through October 2023 elections. Our breakeven return analysis continues to emphasize reasonable recovery value and high carry returns against a backdrop of continuing historic low bond prices.
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