Argentina’s volatile economic policy mix threatens to undermine the country’s debt dynamics once again, analysts have warned, following Monday’s shock resignation of the country’s economy minister.
Joaquin Cottani, a former undersecretary of finance, cautioned that widespread political and economic mismanagement should serve as a warning to investors that the sovereign’s risk premium is mispriced. This comes amid growing signs the government will need to return to external capital markets in earnest next year, as it struggles to finance a 30% year-on-year pre-election spending surge that has significantly outstripped revenue growth.
“Argentina’s risk premium should be increasing because there are so many issues that are becoming serious. Fiscal policies are unsustainable and the market is excessively optimistic that the government has the macroeconomy under control,” Cottani told Emerging Markets.
His comments come as President Nestor Kirchner’s administration is grappling with the latest in a series of scandals. Economy minister Felisa Miceli stepped down Monday following the launch of a probe into $64,000 in cash found in her office bathroom. The revelation has dealt a further blow to investor confidence, already shaken by government manipulation of inflation statistics this spring.
“Things are getting more complicated; high real inflation is further threatened by wage pressures, monetary tightening is problematic, fiscal discipline is low and the country has no credibility from international financial markets,” Guillermo Mondino, head of Latin America research at Lehman Brothers, told Emerging Markets.
This diagnosis is especially concerning, observed Gustavo Canonero, chief Latin America economist at Deutsche Bank, because the sovereign’s current reliance on borrowing in the local market is likely to become increasingly problematic. The central bank remains under pressure to preserve exchange rate stability despite the interest rate premium over the dollar. The monetary authority buys an average $100 million a day on the foreign exchange market to keep the peso weak, but efforts to offset this with issuance of peso-denominated debt in the local market have not succeeded in curbing the inflationary impact.(see Investors cool as Argentina steps up local currency issuance)
“Half of Argentina’s debt is linked to the CPI and what’s shocking is that surging inflation does not seem to raise any stimulus for pressing action from the government,” Canonero told Emerging Markets. Moreover, he feared that recent plans to tighten the rules on the repatriation of dollars by local players were designed to give the central bank greater freedom to hike local interest rates without fuelling appreciation pressure on the peso. Higher rates would inevitably increase the government’s local market borrowing costs.
Alarmingly, the government’s response to this problem so far seems to have been the manipulation of inflation data, which led to a walk-out by staff at the national statistics agency Indec earlier this year. Simon Treacher, emerging markets bond fund manager at BlueBay, recently referred to the effect of this on CPI-linked bond pricing as “another largely unreported net present value haircut for investors by the Argentine government.” Moreover, Cottani, who is now a partner at Buenos Aires-based economic advisory group MacroVision, pointed out that the government is imposing formal price accords to combat inflation, which are distorting the data still further.
Against this unnerving backdrop for local market financing, many investors believe Argentina may well need to return to international capital markets next year. This hinges on resolving the dispute with holders of about $20 billion worth of the country’s defaulted debt, after they turned down the government's 2005 restructuring offer of 30 cents on the dollar.
Lehman’s Mondino, a secretary of economic policy in Argentina in 2001, warned that if these bondholders want to litigate, they must do so before year-end 2007, when the five year statute of limitations on the 2001-2002 default will expire.
“A new administration is sworn in on December 10, so many investors feel it is a lot easier to negotiate with a new government than to have a court-recognized claim. Many investors are awaiting the progress of other claimants, while others are waiting to see if Argentina will re-open the exchange. But for those investors that have not gone to court, this leaves a very narrow window of opportunity, since they only have till the end of December,” Mondino said.
In Cottani’s view, the prospects for a new government better disposed to the bond holdouts are dim, with Kirchner’s wife, senator Cristina Fernandez de Kirchner, the likely victor at the presidential election in October.
“The market is excessively optimistic and complacent about what will happen after the election. I think political risks and economic incompetence will remain. At any rate, the new government will be the same as the old and resolution of the debt dispute will be a low priority for them,” Cottani concluded.