By: Marcelo Etchebarne
The financial press continues to portray Argentina as another emerging-market casualty. But, to the contrary, there are a number of positive financial signs, for investors, the country and the marketplace, in today’s Argentine economy.
In fact, President Mauricio Macri’s Administration has put in place a number of fiscal policies and governmental reforms that will have a positive long-term impact, and the country is already beginning to reap benefits from these changes.
In this economic briefing, we review the most notable of these developments
- Under President Mauricio Macri’s Administration, Argentina completely opened the FX and financial markets in December 2015 without creating any disruption in the economy. Although this was perceived as a very positive and well implemented measure, it significantly appreciated the value of the peso. This was unprecedented in Argentina and allowed a significant amount of dollar inflows over the last 38 months (US$116 billion), but was not mirrored by a proportional Central Bank reserves increase (US$35 billion). The measure also augmented the current account deficit (estimated at more than US$30 billion earlier this year, or approximately 50 percent of Central Bank reserves).
- While most emerging markets suffered pressure over their local currencies during Q2 2018, Argentina had a higher exposure to a currency devaluation, in part due to the gradual elimination of the deficit (which is projected to be fully eliminated in 2019) and in part due to the complete elimination of limits or controls to foreign currency outflows (many emerging markets still have many restrictions regarding foreign currency outflows).
- Approximately US$11 billion in Central Bank notes denominated in pesos are due on September 19, 2018 (LEBACS). The market expects that around US$7 billion will be refinanced by local financial institutions. Dollar-denominated treasury notes (LETES) for around US$15 billion are also due within the next six months. Under the prior financial program of the Republic, the Secretary of Finance had assumed a 100 percent rollover of these instruments. Under the current scenario, however, the most conservative approach for the government is to be ready to refinance a significant portion of these notes. We imagine that part of the ongoing negotiations with the IMF includes a financing package to cover those payments.
- Dollar outflows may or may not continue, but local economists estimate that the Central Bank has sufficient reserves at this peso value. Many local analysts consider that the peso at current levels (40-45 per US dollar) makes the Argentine economy competitive again and should help to materially reduce the commercial deficit. The peso should probably continue to devalue to match inflation. For the first time since 2002, Argentines traveled more within Argentina that overseas.
- The Macri Administration acted decisively against corruption. This is perceived as a key element of Argentina’s new transparency policies, but will have a material impact on short-term growth (a 2 percent to 3 percent contraction is expected for 2018) and explains to a large extent the peso crisis of last week. On the positive side, this creates a unique opportunity for foreign construction companies, which will face much lower local competition.
- Many hedge funds with whom we talk believe that Argentina had an FX crisis but not a solvency crisis. Argentina will not have material pressure to make debt service payments until 2023. Argentina needs very little funding to complete the financial program for 2018 and 2019; thus, higher interest rates won’t have a material impact on meeting debt service payments in a timely fashion. (DLA Piper Argentina represented UBS during the 2002-2005 debt restructuring and Barclays Capital as Global Coordinator during the 2008-2010 reopening, and Puente Hnos. in the amicus briefs filed in favor of Argentina before the US Second Circuit and the United States Supreme Court).
- Almost all Argentine provinces enjoy surpluses and do not need access to foreign capital, which at yields between 12 percent and 15 percent would be unwise. High yields will have an impact on the financing of new projects (such as pending renewable energy projects that are associated with Argentine risk, as most PPAs are in dollars and payable by the administration in addition to facing completion risk). (DLA Piper Argentina has advised most Argentine provinces that have been tapping the markets since the late 1990s.)
- As a result, it is not expected that Argentine issuers will be tapping the market (the sovereign was placing massive amounts of debt over the last two years) and most appetite for Argentine credit will be satisfied in the secondary market, which is expected to help materially compress spreads by year end.
- Argentine banks are very solvent. Unlike in similar crises over the last three decades, the 2018 FX crisis, there was no bank run on deposits. High local interest rates (60 percent to 65 percent in pesos) will have an impact on local credit and consumption, but the Argentine economy has not relied on credit to grow over the last 12 years in which bank lending over GDP has fluctuated between 11 percent and 15 percent. Monetary policy was also significantly tightened over the last few months by imposing higher reserves on local banks plus a material reduction in money printing (M2 was reduced from an annual increase of around 40 percent to 15 percent).
- Argentina may still face some turmoil and volatility that continues to impact global markets, in addition to effects associated with a material devaluation, and political pressure related to the 2019 presidential election, but we remain optimistic regarding the medium to long term.
- Last, but not least, the Macri Administration initiated a number of reforms that will have long-term impact, among them a 3P program for the six largest road corridors (DLA Piper is involved in three of these projects, two as sponsor counsel and one representing the equity investor); overhauling the railroad system to reduce the cost to export grain; material reductions on energy production which would make Argentina a net exporter of oil and gas in the near future; material investments in renewable energy (DLA Piper is highly experienced in this field in Argentina); an open skies program that will quadruple internal flights to boast tourism; as well as efforts to build closer relations with OECD countries, improve transparency, reduce red tape, put in place more effective sanctions against corruption and materially improve the fight against organize crime, particularly related to drug dealing.
Find out more about the current state of the marketplace in Argentina and the implications of these developments by contacting the author.