Stephen Grenville sees Argentina's latest external funding crisis as further proof of a failed approach by the International Monetary Fund, and underscores the need for reform at the IMF itself

Stephen Grenville sees Argentina's latest external funding crisis as further proof of a failed approach by the International Monetary Fund, and underscores the need for reform at the IMF itself

Argentina’s politically intractable foreign-debt crisis serves as a powerful reminder that the International Monetary Fund still has no answer for dealing with the volatility of international capital flows to emerging economies.

It also underscores the need for reform at the Fund itself.

Given that debt defaults have littered Argentina’s history, we need to go back at least two decades to understand the current situation. For most of the 1990s, Argentina had successfully implemented a fixed exchange rate, which the IMF saw as a sensible option for containing inflation. The approach proved so successful that Argentina attracted substantial international capital inflows, allowing it to fund a large external deficit.

But by 1998, the exchange rate was looking overvalued in the context of adverse terms of trade, a strong US dollar, and capital-flow crises in Asia and Russia. It seemed that some flexibility should be added to the exchange-rate regime, but it wasn’t clear how to do it. Departing from a fixed rate is always a traumatic experience, with obvious winners and losers.

Meanwhile, the IMF remained sympathetic to Argentina’s woes, because the country had followed its recommendations and had friends in Washington, DC. Enjoying the benefit of the doubt, Argentina clung to the fixed-rate regime. The IMF extended generous support, and urged its usual all-purpose policy prescription: fiscal tightening.

Austerity might have worked if the only problem had been temporary illiquidity. But Argentina had borrowed too much, and its lenders realized that its exchange-rate regime was unsustainable. In December 2001, the IMF reluctantly ended its support. Argentina’s then-president, Fernando de la Rúa, made a dramatic helicopter departure as the economy descended into chaos. Amid bank closures, 20% unemployment, and a 28% decline in GDP, the country defaulted on its foreign debt.

By 2010, the mess had been sorted out and the foreign debt rescheduled. With the arrival of a new business-oriented president, Mauricio Macri, in 2015, the cycle could start again. This time, at the IMF’s urging, Argentina adopted a pure floating exchange rate. With the external debt trimmed by rescheduling, foreign capital flowed in once again. Investors were willing to buy even 100-year bonds from a country with eight sovereign defaults in the last two centuries.

Investor enthusiasm, and the domestic political honeymoon, lasted as long as the international environment remained benign. But when inflows faltered in 2018, the IMF had to step in once again, closing the external funding gap with a stunning $50 billion loan program (later raised to $57 billion).

But, again, the external funding problem was not a temporary phenomenon, and the Argentinian electorate soon began to bristle at the reforms demanded by the IMF. With accumulated foreign debt over $100 billion and most of the Fund’s money already disbursed, Argentina announced a unilateral debt “reprofiling” late last month.

For the Argentine people, this is grim news; for the IMF, it represents a fundamental policy failure. It is now clear that fiscal austerity and a floating exchange rate are inadequate to cope with capital-flow volatility. The only question is what should come next, not just for Argentina, where the IMF will struggle to salvage its loan program, but for the Fund itself.

For starters, the IMF must devise better ways of resolving unsustainable sovereign debt burdens. Unsustainable domestic debt can always be resolved through rescheduling or bankruptcy. But international debt is another matter, and here the IMF’s record leaves much to be desired. In the 1998 Asian crisis, the Fund strongly resisted rescheduling. In the 2010 Greek crisis, it allowed creditors (mainly foreign banks) to protect themselves from their own foolishness. And in Argentina’s case, it refused to use its clout to override vulture bondholders who had subverted the 2010 rescheduling, even as it rolled out a massive loan program.

Second, the IMF should face up to the fact that unconstrained international capital flows are too volatile for fragile emerging economies. Having long opposed capital controls, it has belatedly – and unenthusiastically – endorsed “capital flow management,” but only as a last resort when all other measures (namely, painful austerity) have been exhausted.

Rather than being at the bottom of the policy toolbox, inflow constraints should be routine for many emerging economies. The IMF should articulate its support when countries apply such constraints to fickle portfolio inflows. Emerging economies should not run substantial external deficits just because foreign investors feel euphoric. The same investors will depart en masse when conditions change.

Third, instead of reluctantly tolerating exchange-market intervention, the IMF should actively promote it when market volatility is clearly disruptive. A number of Asian economies have demonstrated the benefits of well-disciplined market intervention. The Fund should use their experiences to develop operational guidance.

Fourth, IMF shareholders need to review the organization’s internal governance. The Argentine program is merely the latest in a series of decisions in which larger members’ politically motivated interests seem to prevail, while the unwieldy Executive Board is largely sidelined.

Traditionally, Argentina has been treated favorably in Washington, DC (relative to, say, the Asian crisis countries in 1997-98). The swift approval of the $50 billion program, and its casual enlargement to $57 billion, has added to the impression that the country receives special treatment despite its chronic inability to manage its debt.

When the time comes for a post-mortem, the victim will be blamed. Argentina’s political and governance deficiencies will be held up as evidence of what went wrong, and not without justification. But that is beside the point. It is the IMF’s job to operate in challenging environments. To do so effectively, it must reform itself alongside Argentina’s troubled economy.

Stephen Grenville, a former deputy governor of the Reserve Bank of Australia, is a non-resident fellow at the Lowy Institute in Sydney.  Copyright: Project Syndicate, 2019, published here with permission.

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The IMF ought to be force read Carmen & Rogoffs book of sovereign bankruptcies , " this time is different " . .

.. Argentina has been a serial defaulter over 2 centuries .

. .. does a leopard change its spots as the rats desert a sinking ship . . as they say , I think not . .

Stupid IMF . . This time is not different... the argie bargie of the Tina's is that they dont give a toss , and will sucker you in to bail them out ... as they have always done ....

Suckas !!!!

Just another bank set up by interests hiding out in the US.

They use the IMF to gain more control. No different to hocking people of drugs, by supplying them the stuff. Just make it harder if they dont pay up.

China has now moved in on their patch, and most importantly they now control the majority of manufacturing. Looks like game is up for Chicago economics.

How many times does a country need to default before you stop giving them money ? Its the same with Greece, they basically borrow more money, don't change their lavish lifestyle and have no intention of paying it back. They are literally laughing all the way to the bank.

Greece should never have been part of the Euro anyway.

The locals are lazy party animals, and if they didnt have their illustrous history they would have bee poorer soon. Their beaches are overrated also.

They also should never have been part of the Euro as it was not designed in a way that would be helpful to them. It has benefited Germany and France by design, but was not going to work for Greece. If you aren't sharing the tax and benefits system of the society associated with a currency, you're probably better off having your own currency.

Unanswered Risks That Could Affect the Global Economy For a Long Time

The IMF really tried hard to make Argentina work. It was a very public effort, too, simply because they thought it would work out favorably. Lagarde meant to parade around the success story, her point about “bolster market confidence” meant a hell of a lot more than this one small country in South America. The stakes were, and remain, far, far bigger.

And, as you may have heard, it blew up in their face. The largest national bailout in history barely registered on the peso – long before recent elections. The flipside of the falling Argentine currency is, of course, the rising dollar.

I am often reminded of what one long ago New York Times article had noticed about the monetary system back when Britain’s pound was in crisis. At around the same time Japan’s JGB curve was last emerging from inversion, in 1992, a (very) few people had recognized just how the world had changed and in which direction the balance of power had (permanently) shifted.

“The world’s currency markets, it seems, are no longer governed by central bankers in Washington and Bonn, but by traders and investors in Tokyo, London and New York, as the chaos in the currency markets this past week has shown.”

What are the implications of such a statement? Central bankers and even the mighty IMF would effectively become powerless once the market – meaning dollar - gets moving. While very few understood the notion in 1992, it only gained a little more awareness in 2008 at its fullest display. The idea that central banks and official institutions are at the center of the global system remains despite all the evidence otherwise, evidence that continues to pile up in the present day.

With regard to specifically Argentina, in June 2019, one year after the historic agreement, Christine Lagarde finally admitted:

“The Argentine economic situation has proved to be incredibly complicated and I dare say that many of those involved, including us, underestimated a bit, when we started with the Argentine authorities building the program.”

Underestimated, maybe, but only “a bit.” Sure. How contrite and honest.

After leading such stunning failure, how has Christine Lagarde personally fared? She has quite naturally failed upward, promoted to now President-elect of the European Central Bank, on tap to replace Mario Draghi in just a few months.

By 1913, Argentina was the world's 10th wealthiest state per capita.

What did they do wrong and we did right?

Good question (quite rare). Very briefly, it's generally attributed to an historic lack of access to quality education (wealth is highly concentrated) , lack of capital formation (much of the wealth created went to offshore investors), weak judiciary and legislature (political pawns), endemic corruption and a general cultural pre-disposition to defaulting.

That's worrying - other than the judiciary we are moving in that direction even if we have a long way to go. The corruption is fairly shallow; it usually thrives where there is bureaucratic delay and arbitary decisions by unnamed officials: so if it occurs it will be in immigration and building consents.

One of the unspoken truths about Argentina is that it is a giant extractive colony for Europes industrial and financial elite. After WW2 a huge number of ex Nazi industrialists from Germany and other european countries moved there to resume their corrupt ways out of sight of the rest of the western world. Its no small thing that the country had totalitarian rule for so long...just like home! The country has vast wealth, its simply being stripmined and siphoned into the estates of the ruling elite instead of being put into the economy itself.

Er, rubbish: a stunning $50 billion loan. It is only big compared to what an individual earns. Compared to total global debt it is bugger all. My calculator says it is 0.02% of global government debt, but it may be wrong. The debt is so small as to not be worth even identifying in global accounts, less than a rounding error. Why the IMF have to kill people over it by starvation and disease is beyond me.

Also, Argentina defaulted, but on most occasions never wiped the slate clean. Maduro capitulated to the IMF and emerging market funds and rather than defaulting on all their US$ denominated debt, just took a small haircut. Argentina needs to default entirely on US$ debt as part of a reset. A few London and NY EM funds get toasted but so be it.

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