“If you owe your bank manager a thousand pounds, you are at his mercy. If you owe him a million pounds, he is at your mercy.” An old saying, the modern incarnation of which is often attributed to Lord Keynes.
Argentina’s revised program under an Extended Fund Facility (EFF) with the IMF was approved late last month. The associated Staff Report was dropped onto the imf.org webpage with minimal fanfare. It wasn’t posted to the main landing page, as with most Fund documents, only to the Argentina country page. This gives a hint at the internal enthusiasm for the document itself.
Roughly speaking, the new program rolls over the previous Stand-By Arrangement (SBA)—pushing back the repayment period to between 2026 and 2034 while returning to Argentina interest they paid in recent years.
What can be said analytically about this revised document?
Well, at one level there is much to be said. And some of what ought to be said we will say here.
But at another level, there is nothing to be said.
Indeed, with the certainty of default otherwise—absent resources to make scheduled repurchases on Fund lending under the Macri administration—Argentina was able to dictate the terms of this new arrangement. It was an exercise in macro-political theatre for the domestic audience. And in some sense, what was agreed might be considered a success. As always, fiscal adjustment is slight and back loaded. Spending on pensions as a percent of GDP increases!
The problem remains, however, that this framework delivers no likelihood of sustainability. Moreover, Fund management and staff fudged their “new” debt sustainability framework, ominous for cases such as Lebanon where similar challenges arise.
But to pick apart the flaws in this document feels like listening in on someone in the confessional box—voyeuristic and immoral. Both sides—the Argentina authorities and the Fund—were able to walk away with something from the negotiation. But neither side will be under the illusion that this agreement is a silver bullet for medium-term sustainability.
As such, we can be brief. Here are some select remarks on how to read this new agreement between Argentina and the Fund.
The program has given up any pretence to control inflation any time soon. Indeed, sustainability leans heavily on continued nominal GDP expansion through inflation and nominal exchange rate weakness to deliver a declining stock of debt-to-GDP over the forecast horizon alongside central bank balance sheet “sustainability.”
To see this, the chart below plots the growth of the GDP deflator, CPI, nominal GDP and the nominal exchange rate from 2021-27.
Three observations are worth making.
- First, inflation will remain above 30% until 2026 and will still be 20% in 2027. Any idea of inflation targeting has been abandoned.
- Second, nominal exchange rate depreciation is expected to drive the Argentine Peso (ARS) lower each year, from about 100 per dollar in 2021 (the official rate) to 200 in 2023 and about 470 per dollar in 2027. Consider that 20 Pesos were worth one dollar at in late-2017, meaning ARS lost 80% of her value against by dollar by end-2021. The IMF projects a further 80% depreciation against the dollar by 2027.
- Third, regardless, the growth of nominal GDP, largely due to inflation, exceeds the depreciation of the nominal exchange rate throughout so that the dollar value of GDP increases to above USD600bn by 2027. This represents a 34% increase in the dollar value of GDP by 2027.
This latter assumption is crucial for sustainability, as we now discuss.
The assessment of public debt sustainability in the Staff Report is entirely disingenuous.
Let’s take a step back. In early-2021 the IMF Board reviewed the sustainability framework for market access economies, including circumstances when it becomes necessary to consolidate the government and central bank. And Argentina received particular focus in that document.
But first, what were the circumstances when the central bank might be consolidated with the government? Well, the new framework noted in garbled English that “The framework will propose consolidations only in cases of central banks with large negative capital positions and/or where the country team considers the central bank to be involved in significant direct monetary financing of the budget and/or quasi-fiscal activities” (¶40.) And it singled out cases such as Argentina, where it might be important to “account for central bank liabilities, such … liquidity paper” (¶15) continuing via a footnote “Liquidity papers in the form of central bank-issued securities amounted to a non-trivial 5 percent of GDP in Argentina at end-2018 (and rolling them over at one-month durations proved challenging)” (footnote 8, page 10.)
How does the latest Staff Report deal with this issue?
Well, Box 10 (page 44) notes of the BCRA, Argentina’s central bank, that “Using IFRS accounting principles, in particular for the treatment of FX re-evaluation gains and the fair valuation of security holdings, staff estimates the BCRA’s current equity position to be somewhat negative (5-7 percent of GDP).”
So, the negative capital position facing the central bank is acknowledged.
But when it comes to consolidating the central bank for debt sustainability purposes, the document suddenly and inexplicably deviates from the agreed position at the 2021 Review. Indeed, the Public Debt Sustainability Analysis (DSA) simply notes (see Annex II, page 70, footnote 1) that “The DSA does not include undrawn central bank bilateral FX swaps… In the event that swaps are drawn and either of these conditions are not met, the drawn amount will be included in the DSA, unless deemed de minimis.”
Now, such FX swaps were indeed mentioned at the time of the review of the DSA framework in 2021. If you go back to footnote 8 reference above, before mentioning Argentina it references the case of Mongolia. Indeed, “a bilateral swap line extended by the People’s Bank of China was an important source of financing (roughly 20 percent of GDP) for the Mongolia 2017 EFF.”
But the document then goes on to reference the BCRA’s liabilities separately, quote above.
In other words, for IMF management and staff to rule out consolidation due to the non-use of this FX swap line is completely disingenuous. It creates the illusion of adhering to the new policy. But it is entirely in keeping with the corruption of IMF management and staff that they will hide behind such a fig-leaf. It completely ignores the case for which Argentina was singled out by agreement at the Board in early-2021.
Moreover, there is more. As an aside, even though Argentina has never drawn their FX swap with China, this is no reason for not consolidating in the assessment of public debt. Money is fungible, and the existence of this swap allowed a looser monetary-fiscal framework since before the IMF program in 2018. So, its lack of use is itself a nonsense argument for the failure to integrate in the sustainability assessment. (Note how Sri Lanka ruled out such swap lines from being subject to default in today’s announcement—a hidden liability to China.)
But the big picture is that paying for the cost of central bank liabilities, a quasi-fiscal cost, is more pressing still for Argentina. The overall, consolidated monetary-fiscal deficit and Argentina’s necessary policy adjustment can only be judged by integrating BCRA into a holistic sustainability assessment. And this would, into the bargain as it were, embrace these FX swap lines.
This also reveals a governance concern. The failure to publish the Staff Guidance Note (SGN) on the revised debt sustainability framework agreed in 2021 makes it impossible to assess how such matters are being addressed at a technical level. But doing so presumably maximizes the discretion of Area Departments, management and staff find a fudge their sustainability assessments.
In other words, the review of the debt sustainability framework in 2021 represents one step forward but two steps back. This represents a farcical intervention by Jeromin Zettelmeyer who went “on loan” from the Peterson Institute of International Economics as Deputy Director in the Strategy, Policy and Review Department at the IMF and who is shortly to become the Director of the “thinktank” Bruegel.
In the absence of an integrated set of monetary fiscal accounts, in this case sustainability hinges, as noted above, on the growth of nominal GDP in dollars. That is, since most Federal debt is denominated in dollars, the continued depreciation of the Peso increases the value of this debt in local currency terms, contributing to an ever-greater debt burden. However, happily, the local currency value of GDP is always growing at a faster pace such that debt-to-GDP drifts lower still, falling from about 80% in 2021 to about 60% in 2027.
However, if Argentina is unable to deliver on the relative exchange rate path assumed—as seems likely—then debt-to-GDP could easily end up even higher still. This is easy to demonstrate. Public debt is expected to be USD382bn in 2027, which is only 63% of the projected NGDP of USD606bn. But if the nominal exchange rate were weaker still, more in line with inflation, then nominal GDP of only, say, USD500bn would return debt to 76% of GDP—implying virtually no progress on public debt despite one restructuring and 5 more years of disruptive inflation and real adjustment.
This, of course, underlines the benefit for the Staff Report of assuming continued nominal exchange rate depreciation at a pace below the growth of inflation. Nominal GDP in dollars increases over the forecast horizon, bringing down debt denominated in dollars.
However, this also (potentially) implies real exchange rate appreciation over the forecast horizon—which is problematic for the balance of payments.
But we’ll return to this shortly. Before then, the central bank.
Notwithstanding the failure to integrate with the fiscal accounts, Fund staff clearly tried to address the sustainability of the central bank balance sheet. Tried but failed.
Back to Box 10, we are told:
“The large cost of sterilization— due to a sizable LELIQs stock (remunerated liability) in proportion of base money (unremunerated liability) reflecting the monetary financing of the budget—will converge to seigniorage revenues and valuation gains on reserves by 2025. The projected dynamics of lower quasi fiscal deficits and central bank debt in percent of GDP hinge on key assumptions, including: (i) base money growth in line with nominal GDP; (ii) declining monetary financing with full elimination by 2024; and (iii) no dividend payments to the government starting in 2021.”
In response to which we might note the following. Although there is nominal exchange rate depreciation that increases the local currency valuation of foreign assets, the implied real exchange rate appreciation is entirely different. (Note, one ought write central bank sustainability in terms of the real exchange rate as here.) So, this is also disingenuous. Leaning on implied real appreciation to project fiscal sustainability, but not mirroring this in the assessment of the monetary accounts is yet another fudge.
In any case, since net foreign assets are smaller—relative to GDP—than foreign currency denominated public debt, the real exchange rate assumption does more to support the fiscal accounts than the monetary. And it is possible that seigniorage will generate enough revenue for the central bank to cover the cost of interest on bills issued despite the real exchange rate appreciation. Inflation raises demand for currency in circulation, which generates no interest loss to the central bank and imposes a cost on the poor.
But it’s difficult to pin down the precise assumptions on which this is based, or to do so within a framework that assures this is being assessed correctly.
Now, there is a path for quasi-fiscal cost referenced due to these near-monetary liabilities. As far as I can tell, these imply a declining path of the average interest paid on these liabilities from 45% this year and the next to only 15% in 2027. This 15% interest in 2027 implies a deficit of only 1% of GDP on central bank liabilities, from above 3% this year.
But what is the mechanism for bringing down the cost of these sterilization instruments?
There is the elimination of monetary financing by 2024 and no dividend payments from 2021, noted above. But beyond this, there is none except an end-December structural benchmark to produce a medium-term strategy to improve the central bank’s financial position. Considering that the original program in 2018 required that BCRA be recapitalized by end-2019, this is long overdue. It could reasonably be argued that this is a necessary prior action for re-engagement during this program. So delaying this matter is not trivial, but goes unexplained.
Indeed, to be clear, this “medium-term strategy [for monetary sustainability] will consider options for (i) strengthening the BCRA’s financial relationship with the Treasury; (ii) enhancing the BCRA’s governance framework; and (iii) ensuring the gradual adoption of IFRS accounting standards” (¶34).
Whatever is decided in terms of strengthening the BCRA’s financial position—perhaps the issuance of Treasury bills in lieu of BCRA bills implied in the letter of intent, or a healthy recapitalization—will have an impact on fiscal sustainability.
To reference this in the document but not integrate into the assessment of the sustainability of public debt is odd to say the least. But hardly the first time such ambiguity has been exploited.
We need only deal with the external accounts very briefly.
The real exchange rate is judged to be in the Staff Report—which doubles up as an Article IV assessment—to be roughly in equilibrium on average in 2021. More precisely, “the average real effective exchange rate (REER) in 2021 was generally consistent with the long-term historical average (text chart) and the staff- estimated REER gap near zero.” This is based on the official exchange rate. However, the staff report notes that by the end of the year, given the accelerating inflation experienced throughout the year, this is less clear on an end-year basis.
But the Staff Report goes on to endorse the authorities’ crawling exchange rate. However, the “rate of crawl should ensure a competitive real exchange rate that supports continued trade surpluses and the program’s reserve accumulation target…”
The patient reader who has made it as far as this will note the internal contradiction here. The external accounts require the maintenance of a “competitive real exchange rate” however fiscal sustainability involves domestic inflation ever-outpacing the rate of depreciation of the nominal exchange rate.
Now, to be sure there is the external trading partner inflation to contemplate when calculating the real effective exchange rate, and this we cannot easily calculate. However, we can calculate what the average inflation rate of trading partners needed to be to sustain a constant real exchange rate at 2021 levels through 2027. And this is roughly 8.5% through 2027 assuming trading partner exchange rates are unchanged against the dollar.
Put another way, for Argentina’s bilateral real exchange rate against the United States to remain constant through 2027 they need to Fed to deliver CPI in excess of 8% through 2027. Now, they are clearly struggling today. But does anyone expect they US inflation to remain at such a high level for much of this decade? Well, someone does. The management, staff and Board of the International Monetary Fund. But does anyone sensible really think there will be such loss of monetary control in the United States?
We are nearly done.
Argentina’s current account surplus is expected to remain in surplus throughout the forecast horizon (see Table 2 on page 54) despite the implied real exchange rate appreciation needed to show public debt on a downward path. Of course, if the implied real exchange rate appreciation were ever to emerge, Argentina would price herself out of any meaningful external transactions notwithstanding the incredible natural resources there.
As anyone who has recently visited Buenos Aries will attest—such as myself—at the official exchange rate most things are expensive, only at the black-market rate are traded and non-traded goods reasonably prices. Always carry dollars when you visit and be sure to exchange with the “trees.”
But in any case, the Staff Report assumes Argentina turns a USD3bn service deficit in 2021 into a USD6.3bn service balance surplus in 2027—despite the real exchange rate.
According to the IMF’s balance of payments reporting, since 1976 there has not been a single year when Argentina has run a service balance surplus. Not. One. Single. Year.
Yet Argentina is expected, faced with an appreciating real exchange rate, to begin exporting services (on net.)
Of course, they also won’t be able to generate the net FDI inflows in the event that the real exchange rate appreciates 20%, as a more reasonable baseline would insist.
Against this, it is hard to imagine that Argentina will not benefit from an improved terms of trade from the current run up in food prices. But the Staff Report plays this down.
Anyway, we have already said enough.
The SDR rate and all that
We can sign off with one final observation. The SDR interest rate, that charged to borrowers from the Fund. has been kept low over many years such that the peak SDR rate in each cycle since the 1980s has been below the previous peak.
For most countries, this means that the interest at which they can borrow from the Fund—including the surcharge of about 300bps due to exceptional access—is below the rate at which they can borrow from private market participants.
Under any reasonable side-calculation, it seems likely that the SDR rate plus surcharges in only a few years’ time means Argentina will be paying more to the Fund on this program then the coupon yield to private investors from the restructuring agreed last year.
This reflects the failed outcome of that restructuring in 2020, of course. But this is also unsustainable.
Most likely, both the Fund and private external creditors will need to take a further hit on their exposure to Argentina when the time comes. But when will the time come?