In Argentina, market volatility has been driven higher over the last 18 months due to rising debt, persistent inflation and a prolonged recession. In addition to these economic despairs, currency weakness and political uncertainty related to the upcoming presidential elections have investors on edge.
Tensions between politics, macroeconomic factors, and the markets demonstrate that Argentina is at an important inflection point.
Evident recovery drivers
In March, Argentina received its third instalment from its IMF package with the hope that the Argentine Central Bank sells more of its dollar reserves, pays down its debt, and boosts the currency's value. After the latest payment was released, and a booming harvest season began, the IMF again commended Argentine efforts.
Argentina's agriculture sector encourages much optimism given that in April, export sales boosted the peso by nearly 2 per cent at the start of the harvest. Dollar sales by corn and soy exporters, and their purchase of Argentine pesos, rose from an average of $60 million per day in March to a substantial $91.5 million in April.
Upon taking office, Macri lowered and removed export taxes imposed on key commodities including corn, wheat and soy, which allowed farmers to benefit from greater global demand and foster strong connections between the agricultural sector and Macri’s party. However, Macri was forced to impose taxes temporarily to reduce Argentina’s fiscal deficit. Although the taxes have helped Argentina achieve its fiscal targets, they have combined with higher interest rates to constrict farmers' fixed asset investment and output.
Shift in monetary policy
Despite Macri's efforts to liberalise Argentina's capital markets, tame inflation, and stimulate growth, persistently high inflation could be his weakness in the upcoming elections. Persistent inflation still hovers around 50 per cent, and the ineffective monetary policy has allowed the peso to depreciate 20 per cent year to date.
Macri and the IMF have encouraged a shift towards a more accommodative model. The Argentine Central Bank announced that it will now intervene to buy and sell dollars outside of the currency band it implemented last year to manage its currency's value.
Given that inflation in Argentina is determined by the exchange rate, and past devaluations of the exchange rate, it is difficult to overcome the inertia of inflation without temporarily fastening the exchange rate. But with consent from the IMF, the Central Bank can use its discretionary power to put downward pressure on inflation and exercise greater control over the exchange rate.
Aside from when the appropriate time to remove such a hold on currency, the question remains as to whether the exchange rate fix will hold long enough to reduce inflation to levels that sufficiently stabilise the economy, and whether that will precede the elections. Should markets be especially impatient, the results of this policy would likely need to be seen before the first round of elections in October.
End note
After bottoming in 2018, markets are demonstrating optimism in 2019 ahead of a pivotal year for the economy and political landscape. Argentina needs a measured and responsive policy to avoid a prolonged recession, get a grip on inflation and pause currency depreciation. Potential policy failures could diminish Macri's re-election potential but given what he has done for the economy, centrism may still be looked upon as a pathway to a better economic outlook.
This article was issued by Maria Fenech, investment management support officer at Calamatta Cuschieri. For more information visit, https://www.cc.com.mt/ The information, view and opinions provided in this article are being provided solely for educational and informational purposes and should not be construed as investment advice, advice concerning particular investments or investment decisions, or tax or legal advice.