Argentina’s economy is in crisis. But why?

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Happy Hump Day and welcome to the 45th edition of Weekly Olio - your weekly dose of giggles, wisdom, and a sprinkle of intrigue with our tantalizing thought piece (yes, we're talking about Publisher's Parmesan here). 🤭

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Today’s Publisher’s Parmesan talks about a country with annual inflation over 100% and interest rates near the same number. You guessed it right, we are covering Argentina!

Exciting, right? 👏

Will come to that, but let’s first start with the curation.

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Publisher’s Parmesan 🧀

Argentina’s economy is in crisis. But why?

Argentina has long been known as a country that never misses an opportunity to miss an opportunity due to its economic dysfunction. The frustration with this led to the rise of a radical presidential candidate, Javier Milei, in the 2023 election. Milei advocates for the dollarization of the economy, which he believes would lead to the collapse of the central bank.

However, addressing Argentina's economic problems requires more than just one person's efforts. The root cause of the country's economic chaos is consistent mismanagement over several decades. Without significant changes, the situation could worsen.

The global economy has faced significant challenges over the past few years, and Argentina has been hit hard by the resulting financial storm. One way to understand the severity of the situation is to look at the country's inflation rates. While countries like Britain have experienced high single-digit price rises, which is on par with the world average, Argentina's inflation hasn't been that low in decades. In fact, the inflation rate has been over 100% for most of 2023, making it one of the highest in the world. Currently, only Venezuela and Lebanon have higher rates.

It's really difficult to imagine what it's like living in Argentina right now. Many people can't make ends meet anymore due to the high inflation. To deal with this, Argentines save in dollars because saving in the local currency in a local bank has been a recipe for disaster. However, even this is not easy as Argentines can only legally buy 200 dollars per month at the official exchange rate, creating a vast black market for currency dealers.

Nonetheless, buying dollars on the black market is more expensive than buying at the official rate. Despite having a GDP of $630 Bn, Argentina has one of the largest economies in South America, but the booming black market is a symptom of just how bad things are, and the roots of the problem run deep.

Why is this happening?

One of the reasons for Argentina's current economic situation can be traced back to its history. Once considered one of the wealthiest nations in the world, the country has experienced a decline due to various factors, including the legacy of Juan Domingo Peron, who was elected president in 1946.

Perón was influenced by Mussolini's fascist Italy. He adopted the concept of a strong state that is highly involved in national affairs, while also promoting a strong labour movement. The leader introduced policies such as the eight-hour workday, raised wages for the poor, and established expensive welfare programs. He also adopted economic isolationism, shielding workers from foreign rivalry to promote national sovereignty. As a result, the country became isolated from international trade.

Overspending

Today, Argentine politics is still heavily influenced by the legacy of its former leader, Perón. Peronists have held power for 16 of the past 20 years. One of the major issues with Peronism is that it has not adapted to globalization and the changing world. As a result, Argentina's exports have decreased in percentage compared to global exports year after year.

Despite having one of the world's largest reserves of lithium and being rich in copper, Argentina has not been able to capitalize on its mining sector. In contrast, Chile is the world's largest copper exporter, despite sharing the same mountain range.

In addition to being isolated from the world economy, the government overspends on subsidies, such as electricity subsidies. The average Argentine spends only $5 per month on electricity, compared to the average European who spends $40 per month. In 2022 alone, this cost the government $12.5 Bn, which is approximately 2% of Argentina's GDP.

Moreover, the government employs over a third of the 13 Mn people in formal employment, leading to a lot of spending on salaries and pensions rather than on investment, technology, infrastructure, and helping the poor. This points to the main issue in Argentina's economy.

Printing

Argentina has been running a fiscal deficit for the past 13 years. Sustaining a difficult economic situation for over a decade is a significant problem. However, policies such as printing money to counteract the deficit only exacerbate the situation. Governments have become reliant on the Central Bank printing money to finance their spending, but the more money they print, the more inflation worsens. Increasing the amount of money in circulation can decrease its value.

Borrowing is another option that the government uses to fund its spending. However, Argentina has defaulted on its loans so many times that it has become challenging to find lenders. Despite this, the IMF continues to lend money to Argentina overlooking the risks. Presently, Argentina's debt to the IMF is more than double that of Egypt, the second-highest borrower. Overall, Argentina holds approximately a third of all the IMF's total lending.

Trade controls

Critics of the IMF have pointed out that the conditions they imposed on Argentina were too lenient, allowing the country to avoid stabilizing its economy or doing any necessary work. Argentina frequently borrows and prints money, but this can be extremely damaging due to the need to repay IMF loans in foreign currency. In order to acquire this currency, Argentina imposes trade restrictions, such as a 33% export tax on soybeans, which are one of the country's biggest exports.

Farmers receive only 67% of the value of their soybeans due to this tax, which they then must exchange for pesos at the official exchange rate. When the dollar rate is unfavourable, farmers are forced to make difficult decisions. In order to combat this, the government created the "soybean dollar," which offers a slightly better exchange rate specifically for profits on soybean exports. This has led to a confusing market with multiple prices for the same item, such as the "dollar Coldplay" tax on concerts featuring British singers. All of these distortions have made it difficult for Argentina to maintain a stable economy.

What are the solutions? 

It seems impossible for Argentina's economy to improve over the years. Different presidents have proposed various solutions to the country's economic challenges, but the outcome is often the same - more debt and more inflation. The complexity of Argentina's economic problems makes it difficult to find a solution. For instance, everyone agrees that the government needs to spend less, and one way to do that is by reducing subsidies. However, this could lead to an increase in inflation. Similarly, devaluing the currency could help, but this could also push up inflation.

Thus, addressing one part of the problem may worsen other areas of the economy. As the 2023 presidential election approaches, it will be challenging to convince people that short-term pain is necessary for long-term prosperity, especially when the population is already disillusioned.

Argentina must regain the trust of its citizens and the markets to solve its problems. To achieve this, good policies need to be implemented and maintained over decades, not just for a few years or for one government.

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