Several years ago, during the heyday of Argentina's market restructuring, we interviewed a prominent local economist. Against a backdrop of rapidly expanding output and an inflation rate lower than that of the U.S., he nonetheless warned that "Argentina has always been a country with mediocre growth believing that spectacular growth and riches are right around the corner. And when a good year comes, Argentines say, 'Ah-ha, here comes the life we've been waiting for and so deserve.' "
The good life seems to be eluding Argentina once again. Unable to shake a deep recession triggered by Brazil's devaluation in 1999, a country that appeared to have achieved bona fide emerging-market status is looking more like the same old underachiever. The $128-billion external debt is looming, the Argentine stock market has lost 20% over the year, and interest rates on government bonds have trebled since early June, rising to levels usually associated with a nearly 20% probability of default. What's gone wrong?
As in Mexico prior to its 1994 crash, Argentina sought macroeconomic stability through a fixed exchange rate and went so far as to tie the peso to the dollar in 1991. But what seemed like a good idea in the throes of hyperinflation has increasingly become a straitjacket on Argentine economic growth. With devaluation ruled out, partly because this would implode a financial system in which 70% of domestic liabilities are dollar-denominated, exports have stagnated and unemployment is endemic. Argentina could close the gap with improvements in productivity, efficiency and higher value-added products. But of the top 10 products accounting for nearly 70% of total exports, all but 12% are basic commodities like grain and meat.
The center-left administration of President Fernando de la Rua understands the problem all too well, but key legislation around tax reform, labor market deregulation and export promotion policies have continually bogged down in Congress. In March 2001, the administration summoned Domingo Cavallo, the former economics minister who engineered the original "convertibility plan," back to the position of economics minister.
While Cavallo has managed to secure the passage of some key legislation--and his recent promises to pursue more may help to stabilize markets--he has also flitted between strategies, including a "quasi-devaluation" in which his sacred dollar standard would remain in place while exporters would receive compensating subsidies and importers would face increased tariffs.
Neither Argentines nor international financial markets have been impressed. The International Monetary Fund has warned that the local economy could sink, and analysts are predicting that Argentina will need far more than the nearly $40 billion in assistance organized by the fund last December.
While worries are mounting about Argentina itself, there is a larger concern for the rest of Latin America. Investors whose nerves have been shaken by a good reformer gone bad may be reluctant to provide the capital flows needed by other emerging markets. This will surely make life difficult for other leaders, including Mexican President Vicente Fox.
Yet there is another issue: the effect of the shredding of an experiment touted in international financial circles as a model of reform. With Argentina on the skids, what is one to make of the free market approach? And how will this affect the discussions of the Free Trade Area of the Americas, the idea of extending NAFTA-style trade integration to more southern neighbors?
The Bush administration does not seem to be connecting the dots. President Bush has written to De la Rua to indicate his support but without specifying any mechanism for aid as President Clinton provided in the wake of the Mexican meltdown of late 1994.
Surely there is a better way. The lessons from the Asian development experience, the Chilean recovery of the 1990s and post-devaluation Mexico all point to the need to maintain realistic exchange rates, balance budgets and pay attention to basic issues like employment, living standards and education. But for now there is a new financial hurricane on the horizon.
Moral support is a good place to start, but the U.S. could be more helpful if it dropped its own blinders about the appeal of free markets and acted to quell a contagion that could spread across the Western Hemisphere. Washington should support the longer-term strategies that could bring more sustainable, equitable growth.