OECD Economic Outlook, Volume 2019 Issue 2

Argentina

The economy is in recession against the background of internal and external imbalances. Uncertainty about future policy priorities has triggered capital outflows and a strong currency depreciation. The resulting liquidity challenges have led to a re-profiling of short-term debt and the reinstatement of currency controls. Recent volatility is weighing on growth and increasing unemployment.

Monetary policy will need to remain tight to reduce inflation, which currently exceeds 50%. Strengthening the independence of the central bank would make monetary policy more effective. Reducing the fiscal deficit will be key to lowering public debt, but preserving the real value of well-targeted social benefits remains important to cushion the impact of the recession on vulnerable groups. Reforms of taxes, regulations and administrative procedures could boost productivity. Lower trade barriers, including a phase-out of export taxes as scheduled, are key to foster a stronger integration into the global economy.

The economy is in recession and policy uncertainty is high

Following improvements in activity and a stabilisation of the exchange rate, policy uncertainty spiked after the August primary elections. Market demand for Argentine assets dropped sharply, triggering a currency depreciation that further added to high inflation. Access to new market funding dried up in late August and the authorities decided to change the payment schedule on some short-term public bonds. Public debt is highly sensitive to exchange rate movements as over 75% of it is denominated in foreign currency. Currency restrictions, which has been abolished in late 2015, have been reinstated and a parallel exchange market has emerged. Disruptions in payment chains have led to stalling investment, while rising inflation has reduced household purchasing power. Following general elections in October, a new administration will take over in early December. Unemployment has risen since mid-2018. Recent improvements in the current account are likely to continue.

Argentinian assets and exchange rate: Argentina

1. “EMBI + Argentina – blended spread” shows the yield difference over US Treasuries of a JPMorgan Argentina bond index (EMBI), including any credit enhancements such as principal and/or interest collateral.

Source: INDEC; CEIC; and Refinitiv.

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Argentina: Demand, output and prices

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Stabilising the economy requires tight macroeconomic policies

With gross public debt on an unsustainable path and expected to exceed 90% of GDP by end-2019, interest payments on foreign currency bonds rising and revenues trailing inflation, further fiscal consolidation or debt restructuring will be inevitable to stabilise the economy. Efforts to increase the efficiency of public spending and cut ineffective outlays should continue. Recent increases in well-targeted social benefits will help to shield low‑income households from the recession, but regular readjustments are required to preserve their real value.

Maintaining a tight monetary policy will be necessary to ensure that inflation, currently at 50%, declines. High inflation is particularly hurting low‑income households who lack the means to protect their purchasing power. Monetary policy could be made more effective by securing greater formal independence of the central bank. Currency controls have helped to stabilise the exchange rate, but limiting future real appreciation will be key for exports to lead the economic recovery. Due to low currency mismatch of domestic banks and low levels of financial intermediation, the banking sector seems to be coping with the volatile economic environment for now.

More progress in structural reforms is needed to improve productivity, boost exports and raise growth and inclusiveness. Taxes continue to be highly distortive, weighing on productivity, and could be made more progressive to strengthen redistribution. Competition remains weak in many sectors, owing to domestic restrictions on firm entry and barriers to entrepreneurship and trade. Lower consumer prices resulting from stronger domestic and foreign competition would particularly benefit poorer households. Better access to intermediate inputs would raise productivity and competitiveness of domestic producers, allowing firms to create better-paying and formal jobs. More professional training would help workers prepare for these new opportunities, while more effective unemployment insurance could provide better income support for workers. About a third of the workforce is currently in informal employment, lacking any employment protection.

Reducing policy uncertainty is key to revive the economy

Domestic demand is projected to remain subdued until end-2020 as stabilising the economy will take time and macroeconomic policies remain tight. Unemployment is expected to rise due to the recession. Exports, stimulated by the more competitive exchange rate, are projected to lead the recovery, with a return to positive growth projected in 2021. Fiscal risks are substantial given the high debt levels and difficult access to market financing. Current levels of inflation imply risks of inflation getting out of control if monetary policy were to be relaxed. A reversal of productivity-enhancing structural reforms would aggravate the recession and the fragile fiscal situation. On the upside, a continued commitment to sound economic policies and progress in productivity-enhancing structural reforms could lead to a faster recovery than currently projected.