Behind the immense outcry caused by the failure to approve the Omnibus Law lies a large macroeconomic challenge. It’s covered for now, but it will come into play in the next few weeks. It’s about exchange rate policy given that the time is approaching when the Central Bank will have to make a decision on how to proceed. None of the alternatives are easy, they all have costs and there is no obvious need. The arguments of each of the possible alternatives are understandable.
When we talk about the exchange rate we must always think of the real exchange rate, that is, the exchange rate adjusted to Argentine inflation and that of the rest of the world or its main trading partners. With February inflation projected to be around 15-17%, we see this The real exchange rate will reach approximately the same level at the end of this month as last August’s average. This is a higher value than at the end of the Alberto government, but lower than the historical average, which proves it It will not be easy to continue with a 2% monthly devaluation. with much higher inflation as expected for March and April.
There are some interesting topics. For example, there are those who say that comparing the level of August with that of February is incorrect because the economies are different. This argument is valid because, at least in intention, this government is determined to eliminate the fiscal deficit and introduce reforms that increase the long-term productivity of the economy. According to this argument, the economy benefits from a lower exchange rate.
The criticism of this argument is that positive shocks to productivity take time to occur (if they occur at all). We have already seen during the Macri government where the exchange rate appreciated, but the productivity gains were not so great. We must celebrate that there are no longer SIRAs and that the rent law has been repealed. But we have the same labor laws, the same infrastructure and a major institutional problem to name a few of the things that have not been resolved nor will be in the coming weeks. The government’s good intentions are genuine, but the game is only just beginning.
We see the idea of a more orderly economy both in the macro and the micro the smallest exchange rate gap which today is under 50% when with Sergio Massa it was three times greater. The truth is that, although Milei’s line is better than Massa’s, the Argentine economy is still too weak to have a non-competitive exchange rate.
For the Government, continuing with the 2% monthly rate has the merit of helping to reduce inflation. But if this were the case until the end of April, even considering a significant decline in inflation, the appreciation of the exchange rate would be very significant. Not as much as at the end of Cristina Kirchner’s government in 2015, but dangerously close to the real exchange rate at the end of Alberto Fernández’s government.
A strong peso conspires against the trade surplus that the government needs to get out of the negative terrain in which the Central Bank’s international reserves still find themselves. In the short term, Argentina will not attract many financial flows (as happened in 2016 through bond issuance and short-term flows), so the trade account will have to contribute dollars. Some talk and spend the harvest dollars on account.
But this is not mathematics. With a cheap dollar, exports will be lower and demand for dollars will increase. If the government persists with the tax package and tries to raise withholdings again, an appreciation of the exchange rate conspires against this. Withholdings are a bad tax, but they could temporarily coexist with a high dollar. With an appreciating exchange rate, 15% withholdings for many sectors would be a bad idea.
Furthermore, if the strategy is to move towards exchange rate unification (something laudable in itself and recently agreed with the IMF), this will have to be done at a competitive exchange rate. To put a number on it, today the unification price should be similar to the market price (MEP, blue or CCL). We need to make it competitive because, once the controls are relaxed, the Government logically won’t want any surprises. This is why the gradualist logic has been to wait until the Central Bank has no more reserves and the economy is more orderly. That is, it gives the impression that The exchange rate today is not something that can be sacrificed.
An alternative to maintaining the 2% monthly rate could be to change the 80-20% in which exports are settled and give a higher proportion to exports regulated by the CCL. But this is a short story because it improves the situation of exporters, but reduces the supply of dollars in the official market. Let us remember that until now demand was anesthetized, but now importing SMEs are starting to pay their old debts and payments for new ones are also starting to decrease. That is, if the BCRA wants to continue buying dollars, it will need exporters to liquidate a lot.
Ultimately, one of the problems with staying at 2% for too long is precisely this at some point this could arrive in April or May at the latest, the government should make another sharp jump in the exchange rate. This does it an inflation that will almost certainly decline will flare up again. In the current recessionary environment, another inflationary wave is not a good idea. Avoiding another jump seems like a good idea. Candies? Probably yes.
An alternative that seems less painful until the exchange rate is unified is to increase the speed of depreciation. Let it be lower than expected inflation, but not by much. Logically, there is endogeneity because a faster devaluation, say at 7% per month, adds some inflation. It would be like delaying everything a bit, waiting for those productivity shocks or that saving credibility to appear where the gap is narrow and can be unified with a smaller exchange rate swing.
The problem with moving towards a somewhat faster devaluation is that the current interest rate seems a bit low. Today you pay 9% monthly in fixed terms, which does not beat inflation, but that same rate encourages exports and those who can choose between liquidating or not liquidating know that with the rate it beats the price of the dollar. The premium would be significantly reduced.
In short, in the next two to three months the government will have to make a decision on what to do with exchange rate policy. No alternative is without costs and problems. It’s not easy to be in those shoes.
Source: Clarin
