Two to Tango: your savings but my expenditures; and the re-coupling of the financial channel—or: the Tango Effect Returns?

Argentina’s (government) is decoupled (of common sense): when there was a global expansion in commodities (the so-called tailwind) the administration pump up aggregate demand (with inflationary effects and resource misallocations). Now, as the global economy slowdowns sharply, affecting U.S., Asia, Europe and Brazil (Argentina’s main trading partner); not only commodities’ prices, but also external demand decreases. Thus, the trade channel was expected to be the main source of the negative shock—after all, Argentina had almost no access to international financial markets (not only due the 2001 default but also due to policy applied since then). But Fernandez de Kirchner is causing the financial channel to re-couple. While the world economy is progressively trying to stabilize in baby steps, Argentina’s government plants the seeds of its own destabilization. The Tango effect might be approaching: debt default? (the country risk is close to 2000 pts.), the government almost repudiating its obligations, unemployment and volatility with upside risks, output with downside risks (all of which point to even lower than expected revenues in the near future and the medium run), increase in demand for dollar deposits—the Central Bank probably losing international reserves in the process. Will the exchange rate be devalued? My sense is not whether the domestic currency will depreciate or not, but at what pace. It seems that the central bank intends the depreciation to be progressive, gradual. But, will that be possible?

Is always easier to blame “the marketplace and the neoliberal policies;” or is that the current administration is in a way forcing market forces to act—it is always simpler to blame it for your mistakes…

It is worth mentioning that government debt is still highly dollarized, while revenues—in domestic currency—will tend to decrease, and funding is already extremely limited and poised to freeze, the more so with the socialization of pensions with a decreasing revenue to finance the PAYG social security system.

How will this end? I leave to the smart reader to answer this quite obvious question.

4 Responses to "Two to Tango: your savings but my expenditures; and the re-coupling of the financial channel—or: the Tango Effect Returns?"

  1. Car10s   October 29, 2008 at 7:59 pm

    The question is not obvious. The answer is.

  2. Patrick   October 31, 2008 at 7:51 am

    You’re assuming that current disinflationary conditions will continue, I think the dollar will become highly inflationary going into next year, and as long a the central bank doesn’t keep printing pesos to prevent appreciation of the exchange rate, then the rebounce into commodities and the inflation of dollar debts will keep Argentina well in tow. By taking such a move, Kirchner is betting that they can remain liquid until helicopter Ben takes care of the rest.

  3. Nicolás Chiacchiarelli   October 31, 2008 at 9:02 am

    I agree with all, except with1.debt default: country risk isnt by itself a good analitycal tool:,2.What means almost repudiating its obligations?3. There is no unemployment, there are less creation of jobs.

  4. Nicolas Magud   October 31, 2008 at 3:22 pm

    Thanks for the comments.Patrick:I tend to believe that the dollar will not depreciate in the magnitude that I guess you suggest–I wouldn’t be surprised if it actually appreciates or remains around the current level. Notice that the the interest rate in the US is already 1% and the liquidity provided to the market was not inflationary but just in line with increases in the demand for money. Even with a strong helicopter Ben, on the contrary, the demand shock will very likely keep U.S. inflation under control–don’t forget that although the U.S. recession will be long and the recovery slow, it ‘ll be a mickey mouse event if compared to Argentina’s standards. Actually, I would be more worry on the deflation side than on the inflation side in the short run. I do agree that the Kirchners might be betting on this–although I doubt they could be so much forward looking and out-smart the market. My view is that will be one more time missing the point and thus again doing the wrong macro. I hope I am wrong, though, so that Argentina is better off. I am kind of not very optimistic as of now.Nicolas:Country-risk: I agree with your skepticism with respect to country-risk. That said–and with the timing provisions that we all know–, it is still worth looking at the direction of these indicators. You can not be sure of the magnitude of how much risk it actually asses, but if it moves upwards is not good. The more so since usually one of the main critiques comes from being late instead of anticipating negative events. There is a new working papers form the IDB’s Research Department that deals with these issues analytically. Also, a small book by Kaminsky and Reinhart (2000) have studied these things thoroughly.Debt repudiation: INDEC is just one example. All the macro polices contribute to undermine the country’s intertemporal sustainablity (espcailly the transitory shocks and the quasi-permanent expenditures) and the AFJP’s things tend to push for more doubts about the ability of the government to pay its debts–and the nationalization of the latter was trying to actually avoid it, but not internalizing the effects it would cause (strategic complementarities, but yes, you would need a macroeconomist for this to be taken into account–NK is not one). The list can go on.Unemployment: yet.