Argentina’s Adios to Statism?

 

JANUARY 12, 2016 [ARGENTINA]
Pablo Echavarria, CFA


Good news: Argentina is clamoring for change, a necessary precondition for recently inaugurated, reformist President Macri to succeed. Investors are watching.

We recently met with the head of Investor Relations from one of Argentina’s largest and most established banks. During the meeting, he joked that his plane trip to the U.S. had been significantly more cordial than trips he had taken in the recent past. Everyone on the plane was constantly saying “Thank you,” or, “You go first.” Argentines are happier than they have been for years, he proclaimed. A regional bastion of progress a century ago, Argentina’s economy has mostly stagnated over the last fifty years. Over the last decade and a half, stagnation has turned into economic regression, with the country experiencing a sovereign default; capital, export and import controls; hyperinflation; expropriation of foreign company assets; nationalization of private pension funds; an MSCI downgrade to “frontier market,” to name just a handful of statist actions. It has truly been a rollercoaster period for Argentina, with significantly more downs than ups.

But the victory of businessman Mauricio Macri in November’s presidential election has the Buenos Aires business community excited about the potential progress for growth and reform in the country. It was also a heavy blow to the Peronist party and its leader, Cristina Kirchner, who alongside her late husband Nestor had ruled the country for more than a decade. Initial steps taken by Macri and his administration have been bold. Within weeks of taking office, Macri removed a number of punitive taxes on grain exporters; eliminated a series of subsidies on electricity and gas prices, which imposed a heavy financial burden on the state; lifted capital controls and liberalized the foreign exchange market, letting the peso float freely for the first time in years. Macri also remains resolute in finding a solution to Argentina’s long conflict with holders of the country’s defaulted sovereign debt. The dispute has prevented the country from accessing international capital markets for nearly 15 years. By pushing through these changes, Macri is aiming to inject much needed confidence into the economy.

More orthodox economic management could yield substantial opportunities for Argentine businesses. Take the banking sector, for example. Loans to the private sector as a percentage of the country’s gross domestic product (GDP) stood at 24% in 2001, the year in which Argentina defaulted on its sovereign debt. Fifteen years later, that ratio has fallen to 15% of GDP. In contrast, loans-to-GDP in Peru stands at 33%, while they amount to 42% in Colombia and 55% in Brazil. The discrepancy in the level of leverage in the system can be explained by unanchored inflation expectations and consequently episodes of hyperinflation. Given uncertainties around future prices, banks find it difficult if not impossible to lend with any type of certainty or clarity on repayment. In the case of the private bank we met this week, this has resulted in 42% of their loan portfolio with maturities under one month! If Macri, alongside new Central Bank president Mr. Federico Sturzenegger, are able to bring inflation under control, the prospects for the Argentine banking system and consequently the country’s economy could change substantially. Credit availability combined with renewed confidence could lead to a wave of investment in the economy—and there is plenty of pent-up demand. That, in turn, could lead to job creation and acceleration in the pace of economic growth. This could create a virtuous cycle for the country.

Argentina also needs to repair old wounds created by the expropriation of Repsol’s energy assets by Kirchner’s government in 2012. While current oil prices are not necessarily conducive to large investments in energy projects by large foreign oil companies, Argentina has one of the largest shale formations in the world in Vaca Muerta, something which the country would like to develop. Significant amounts of foreign capital will be necessary for the development of the unconventional oil industry in the country.

All this is more easily said than done. Macri will likely face a tricky political environment with plenty of pushback from the opposition. The good news is that Argentina appears to be clamoring for change, a necessary precondition for his ability to succeed. Investors will be carefully monitoring developments over the coming months.

After decades of poor economic performance, Argentina is living through one of its most promising moments in decades. The stakes are high, but Macri appears up to the test. According to the humorous Investor Relations officer we met this week, Argentina as a country has the third largest amount of U.S. dollars in circulation (however, we have not verified the validity of this statement). He also commented that when you walk into the safe deposit box area of the bank you can “smell the dollars.” If Macri can convince Argentines that change is here to stay, the dollars Argentina has stored in safe deposit boxes could turn into the investments needed to drive economic success for years to come. Stay tuned.

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