After Argentina signed a reviewed stand-by agreement with the IMF in September and the Central Bank (BCRA) consequently implemented new monetary policy, Many Argentines let out a sigh of relief as the peso finally stopped spiralling out of control after a dramatic six months of devaluation.
Ever since, the currency has been floating in a relatively comfortable manner within the “no intervention zone” established in the agreement. At first, the Argentine peso actually strengthened against the US dollar, falling from a peak of AR$ 42 per dollar to AR$ 36 in October. Since then, in accordance with the parameters of the agreement, the currency has been gradually depreciating within the no intervention zone and, at the time of writing, the exchange rate stands at AR$ 39.2 per dollar.
However, there is another key economic variable in the country that has so far refused to drop – or even stay steady – and acts as a clear indicator that, for many investors and economic players, the revised IMF agreement and measures taken by the local government are not enough to convey the message that Argentina has left the worst behind: the so-called “country risk.”
“Riesgo país”, or country risk, is a common concept in Argentina. Indeed, many news outlets display its fluctuations in real time in the same way that they keep tabs on the dollar-peso exchange rate. Using a point system, the spread is the JP Morgan’s Emerging Markets Bond Index (EMBI) yield over the yield of US Treasuries of comparable maturity. Since bonds issued by the United States’ Federal Reserve are considered to be “risk free,” given the country’s indubitable ability to make its payments, they act as a benchmark against which other countries’ financial risk is measured. The level of perceived risk that other countries – in this case, Argentina – will not be able to fulfill their own financial obligations regarding its sovereign debt determines the figure.
Not only has Argentina’s country risk not fallen, but it has been increasing exponentially since the beginning of Argentina’s financial and economic crisis in April. The reviewed agreement with the IMF was the only decision that managed to bring relative peace of mind to investors, resulting in a drop from 783 basis points to 588 in three weeks. But it was a fleeting oasis. Since mid-November, the figure has been rising once more, reaching its highest level during the Macri administration on Christmas eve, at 829 basis points. And there are no signs of it slowing down anytime soon.
“Argentina issues public debt, but those who buy it are private agents. To get financing, it needs to renew its debt. The fact that the ‘country risk’ is high means that bonds have high interest rates and low prices. This could either be because there is not a lot of demand [for Argentine bonds] and/or because many people are selling these assets,” Economist Santiago Bulat explained in interview with The Bubble.
There are different explanations as to why there is not much demand for Argentine bonds. The government has put it down to external factors, such as the US Federal Reserve’s decision to increase its own interest rates.
This is certainly a reason, but it is not the only one, as is clear from a recent chart released by the IMF. The chart shows how much “country risk” has grown in countries that have gone through financial turbulence this year. Argentina’s has increased much more than any of the others, such as Turkey or South Africa. There are also domestic factors that contribute to a far greater degree to the lingering uncertainty regarding Argentina’s ability to meet its financial obligations.
Both Argentina’s economic and political landscape play a role, leaving investors weary about what will happen after 2019. Why? Firstly because most funds provided through the IMF agreement run out in 2019. Once this happens, if the country risk remains at sky-high levels, it would be practically impossible for the government to issue debt in private markets. The chances of default would be dangerously high.
In fact, this economic uncertainty has already had tangible effects. Argentine bonds reaching maturity in 2019 have interest rates lower than four percent, while the interest rates of those maturing after 2019 skyrocket to over 11 percent, a rate so high that it is preventing Argentine entities from issuing any new debt.
The high interest rates have resulted in the government suspending all “Public-Private Partnership” initiatives, which would have seen private companies finance six large infrastructure works and then recover – and profit from – their investment through regular payments from the government.
Without the government’s funding, the companies set to undertake the PPPs would have had to issue US $6 billion in debt to finance the projects themselves. But since there was little chance that they would earn enough to meet the high interest payments resulting from the country risk levels – especially because these were long-term investments – the initiatives have been suspended.
Then there’s the political factor: asides from Argentina’s potential financial inability to make its debt payments, investors still harbor doubts concerning the political willingness to do so. Their worries don’t stem from current president Mauricio Macri per se, but instead because they are not totally convinced that he has the upcoming 2019 election in the bag and his main opponents have shown signs of reluctance to continue with the obligations Macri agreed in his first term.
Speaking at the Wilson Center in October, Frente Renovador leader Sergio Massa indicated that the next government – which he intends to lead – should “re-negotiate the agreement with the Fund.” And, based on many statements in opposition to the Fund and the Macri administration, former President Cristina Fernández de Kirchner would likely not intend to respect the current economic model, should she decide to run and be elected next year.
The result of the election is anyone’s guess at this stage. Macri’s popularity is on the rise again. In fact, his approval rating has jumped from 33 to 39 percent this month. But he will definitely have an arduous task convincing voters to choose him again next year. He does not have much to show for his four years in office, relying instead on words of hope and consistent reminders of the problems Argentina faced during the Kirchner years.
However, his rivals’ prospects are not much rosier. The non-Kirchnerite Peronists still don’t have a clear plan, and if Cristina Kirchner gives Juan Grabois, a social movement leader who is close to Pope Francis, a leading role in her electoral alternative, she could lose some moderate votes, given Grabois’s often controversial rhetoric and actions.
The administration’s hopes of survival will be closely tied to the economy’s performance in 2019. Argentina is in the middle of a recession which is not showing any signs of abating and in which one wrong move could be the catalyst for a new crisis. To a large extent, foreign exchange rates are remaining steady within the no-intervention zone due to high benchmark interest rates, which, at the same time, contribute to prolonging the recession by harming the private sector’s ability to take on financial credit.
As a result, most Argentines have resorted to investing their money in fixed deposits rather than converting their pesos into foreign currency. Fixed deposits currently stand at an annual 50 percent rate, higher than any investment in the real economy. The problem is that if the political and economic uncertainty keeps growing – and all indicators say it will – people are likely to start buying dollars again, which would trigger a new headache for the government.
Moreover, future austerity measures may harm the government’s ability to collect the taxes required to reach its goal of eliminating the primary fiscal deficit. And, since future disbursements from the IMF are conditional to the government satisfying the agreement’s clauses, one of them being reaching fiscal balance, the need to do so is imperative.
This combination of factors threatens the government’s expectation to see a “V-shaped” rebound in the economy. If this shape ends up resembling a “U” or an “L,” Macri’s reelection chances will become slim. The government is walking a tightrope, and will have to be extremely careful if it wants to make it to October 2019 with electoral prospects.