La ARGENTINA ¿Un país en serio?


Jun 3rd 2004
From The Economist print edition

Argentina has a big opportunity to reverse its history of decline. But it will need to draw the right lessons from the past, says Michael Reid

FROM Wednesdays to Saturdays, a would-be diner who turns up at a restaurant in the fashionable Barrio Norte of Buenos Aires at 9pm without a reservation may have to wait for an hour or more for a table. Calle Florida, the pedestrianised shopping street running parallel to the River Plate, is thronged with tourists taking advantage of the cheap peso and the shiny new shops selling fashion, consumer electronics and books. Farmers from the Pampas are splashing out on new harvesting machines and pick-up trucks.

Almost across the board, Argentina’s economy is booming. The recovery gathered pace throughout last year: since September, GDP has expanded at an annual rate of 11%. And as the economy picked up, the government’s authority seemed to revive in parallel.

What makes this remarkable is that only two years ago Argentina was in chaos. In 2001 it suffered its worst economic collapse in more than a century. In December of that year, after $20 billion had fled the country and bank deposits were frozen, an incongruous combination of unemployed rioters and pot-banging middle-class protesters caused Fernando de la Rúa, the Radical president, to resign.

To a cacophony of que se vayan todos (kick them all out), the political system appeared to implode. Three stand-in presidents came and went in a week; one of them declared the biggest sovereign default in history, on public debt of $80 billion, to cheers from the Congress. A fourth, Eduardo Duhalde, a Peronist political boss, dismantled the currency-board system that had pegged the peso to the dollar at par for a decade. Leaving it was always going to be messy, but the way Mr Duhalde did it made it more so: he decreed that dollar deposits and loans be converted to pesos at different exchange rates. He also switched the utility tariffs to pesos and froze them. It was a misguided effort to help debtors, industrialists and the middle classes at the expense of banks, privatised firms and taxpayers.

But Mr Duhalde did manage to calm social tensions and steer the country to an election in April 2003, in which the main candidates were three Peronists and two former Radicals. Carlos Menem, the country’s president from 1989 to 1999, won 24% of the vote, which put him ahead of Néstor Kirchner, a fellow Peronist but on the party’s left. Polls suggested that Mr Kirchner would have won some 75% of the vote in the run-off ballot. Disgracefully, Mr Menem pulled out, depriving his opponent of a popular mandate.

Mr Kirchner was an unexpected president. He benefited from the paradox of Argentina’s post-collapse politics: on the one hand, voters clutched at Peronism (in the shape of the Justicialist Party) as the only force offering authority, despite its internal splits; on the other hand they fervently wanted political renewal. Mr Kirchner managed to embody both qualities. He was backed by Mr Duhalde and his powerful political machine in Buenos Aires province. But he is also an outsider. Descended from Swiss and Croatian immigrants, he was the governor of Santa Cruz, a bleak if oil-rich Patagonian province the size of Italy but with just 200,000 people.

Despite his unpromising start, Mr Kirchner has achieved an unusual degree of political dominance, matched during Argentina’s two decades of restored democracy only in Mr Menem’s early years. In provincial elections for governors and federal congressmen in the second half of last year, the Peronists won handsomely. They hold comfortable majorities in both houses of Congress and 14 of 24 provincial governorships (another is held by a personal ally of the president). A year into Mr Kirchner’s term, polls suggest that some 70% of Argentines approve of him.

Just as well, because he and his country face formidable tasks. Venture out of those packed restaurants at night, and the streets and parks of Buenos Aires, so elegant in the daytime, have been taken over by an army of the poor, picking over the city’s rubbish or sleeping rough. The economic slump of 2001-02, which followed three years of recession, left the social fabric torn. Much of the growth of the 1990s was wiped out (see chart 1). In 2002, income per head was 22% below its level of 1998. Unemployment soared: at its peak it reached 18% (or 21% if those on an emergency welfare programme are included), though it has now fallen to around 15%. More than half of all Argentines dropped below the national poverty line.

The collapse caused other damage too. For a while under Mr Menem, Argentina looked to many outsiders like a great advertisement for free-market reforms. Mr Menem and Domingo Cavallo, his economy minister from 1991 to 1996, put an end to hyperinflation with their currency-board scheme. Known as “Convertibility”, this fixed the peso by law, not executive whim, and limited the money supply to the stock of hard-currency reserves. They also privatised almost all the enterprises once owned by the state and welcomed foreign investors. The International Monetary Fund swallowed its doubts about Convertibility and held up Argentina as a model for other emerging economies. So when the country’s economy collapsed, it became a grim exhibit in the case against globalisation.

Economists still argue about why Convertibility fell apart. The conventional wisdom is that Argentina’s fiscal policy was incompatible with the currency board. The country’s fiscal deficits, though never large, were chronic. Even as the economy grew, public debt swelled under Mr Menem, from 29% of GDP in 1993 to 41% in 1998. That was partly because of his quixotic drive to spend his way to an (unconstitutional) third term. But another big reason was a pension reform involving a switch to individual accounts. In the long run that should save the government money, but first it produced an extra annual bill equal to 1.5% of GDP.

In hindsight, Convertibility was doomed once Russia’s 1998 debt default provoked a stampede of capital from emerging markets. That threw Argentina into recession, aggravated by devaluation in Brazil, its main export market. Unable to devalue, Argentina had to hope that deflation would eventually improve its competitiveness. But deflation is painful for democratic governments, and Mr de la Rúa’s was anyway weak and divided. His last throw was to bring back Mr Cavallo, whose costly efforts to stave off devaluation precipitated financial collapse.

Nowadays it is hard to find anyone with a good word for Mr Menem. Living in Chile, he has defied summonses from three different judges investigating allegations of corruption during his rule. By contrast, Mr Kirchner is seen as personally honest. He has promised to make Argentina “a serious country”, and launched a rhetorical assault on the symbols of Menemism: the IMF, with which he has wrestled over his economic programme; the holders of the defaulted debt, who have been brushed off for the past two years; and the privatised utilities.

The 2001-02 collapse was exceptional in its severity, but wild economic fluctuations have been the norm in Argentina for decades. In 1913, the country’s income per head was on a par with that of France and Germany, and far ahead of Italy’s or Spain’s. That was thanks to three decades of growth averaging 5% a year, driven by exports from the Pampas, foreign (mainly British) investment, especially in railways, and immigration (mainly from Spain and Italy). Since then, Argentina has lost ground against western Europe almost continuously (see chart 2).

Argentina is thus not a “developing country”. Uniquely, it achieved development and then lost it again. That is a haunting condition: it may help to explain why psychoanalysis and the nostalgia-ridden tango are so popular in Argentina. It is reflected, mockingly, in the fading Belle Epoque splendour of Buenos Aires.

What went wrong, and when? According to one school of thought the decline began in 1913, as the Pampas became fully settled: growth slowed because the country proved unable to industrialise and diversify effectively. Liberals, for their part, have traditionally blamed the governments of Juan Péron (1946-55), with their quasi-fascist pursuit of autarky and a state-run economy. Leftists have a more precise date: March 24th 1976, when the most vicious dictatorship of South America’s recent history took power. In this view, shared by many of those close to Mr Kirchner, the dictatorship’s economic policy prefigured Menemism, running up unsustainable debt and destroying the state’s capacity to regulate the economy.

There is some truth in all three views. What made matters worse is that Britain cast Argentina adrift after the second world war, and the United States never showed much interest in sponsoring the country’s development.

Yet the most powerful factor in Argentina’s decline has been its unstable politics since 1930, when a (not very bloody) military junta took power, ending seven decades of civilian constitutional government. The rule of law has been repeatedly trumped by executive power ever since. That is one reason why the state has been able to expropriate private savings so often, through hyperinflation or devaluation—and why Mr Cavallo thought it necessary to set up the currency board.

It is hardly surprising that Argentines are holding perhaps $100 billion abroad. Credit from the country’s banking system to the private sector equalled only 25% of GDP at its peak in the 1990s, low even by Latin American standards. As a result, Argentina’s economy is hostage to the in- and outflow of capital.

This survey will argue that Argentina and its president now have an extraordinary opportunity to do better. The country’s democracy has shown resilience, with little suggestion of a return to authoritarian rule. The turmoil claimed few lives. Although prices rose by 40% in early 2002 as the peso slid, Roberto Lavagna, brought in as economy minister by Mr Duhalde and kept on by Mr Kirchner, steadied both the exchange rate and prices.

After a slow start, recovery has been swifter than many expected, and similar to that in other countries that have unpegged their currencies. It has been greatly helped by outside factors: prices for Argentina’s farm exports soared after a long period of stagnation (though last month they dipped again). So far, growth has come from bringing idle capacity back into use. But bottlenecks—notably, energy shortages—are starting to appear. New investment is needed. Mr Lavagna points out that investment last year increased by half; it reached 17% of GDP by the last quarter of 2003. But merely maintaining the capital stock requires investment of 18% of GDP, says Luis Secco, an economic consultant.

If Argentina is to make the most of its opportunity, Mr Kirchner will have to take swift, perhaps unpopular, action to clear up the unfinished business left over from the collapse. But above all he will need to draw the right lessons from its travails. A good place to start is the rule of law.
Crimes past, crimes present

Jun 3rd 2004
From The Economist print edition

Argentines are demanding something new from their government: law and order

Menem’s fiesta ended in tears

THE Naval Mechanical School, built in French colonial style with tall, shuttered windows, occupies a leafy enclave in the prosperous northern residential districts of Buenos Aires. After the 1976 coup that established the dictatorship of General Jorge Videla and his successors, the school was the chief among several clandestine concentration camps where up to 30,000 people were killed, many after being kidnapped and tortured. Several hundred were guerrillas; many more were peaceful left-wing activists; a few simply had assets that the regime’s killers coveted. To mark the coup’s anniversary, on March 24th this year Mr Kirchner made an emotive speech before a crowd of 10,000. He apologised to the victims of state terrorism and announced the conversion of the school to a Museum of Memory.

Human-rights groups are impressed. “The president is surprising—we’re living a political spring,” says Estela Carlotto, the president of the Grandmothers of the Plaza de Mayo, a group campaigning to clear up the theft of up to 500 babies of murdered opponents of the dictatorship. On taking office, Mr Kirchner immediately set about purging the armed forces. He backed a new law to revoke the pardons granted by Mr Menem to the junta members jailed under his predecessor, Raúl Alfonsín, and another that would declare void two laws blocking further trials.

By July, reckons Rosendo Fraga, a political analyst, up to 400 officers may be in jail facing trial. Three generals and an admiral resigned their commissions in March in protest against the president’s moves. But the forces these days are a toothless lot. Argentina is “the last country in Latin America that might have a military coup,” says Mr Fraga.

Nevertheless, Mr Kirchner was widely felt to have gone too far with his speech for the coup’s anniversary. He pandered to human-rights groups by excluding Peronist governors from the ceremony, and failed to condemn political violence in general, right or left.

Why is the president so exercised by the crimes of the past? Some think he is re-fighting the battles of the 1970s. Others reckon he just likes to pick fights to enhance his power. Yet others put it down to his fear of being outflanked on the left. He has refused to repress the piqueteros, a movement of unemployed protesters. The death of two piqueteros at the hands of the police caused Mr Duhalde to cut short his term. Social peace in Argentina is still fragile.

Officials argue that concern for human rights is part of a broader agenda. “Argentine society is convinced that the impunity of the army’s crimes facilitated corruption and lack of respect for the rule of law,” says Jorge Taiana, the deputy foreign minister. In matters of law and order, the president may be following public opinion—not always accurately—rather than leading it.

“Today, a politician who wants public support has to adhere to an agenda of the rule of law, fighting corruption, and promoting open government and human rights,” says Roberto Saba of the Association for Civil Rights, a pressure group for reform. That is one legacy of 2001. Manuel Mora y Araujo, a sociologist and pollster, says that most Argentines blame the collapse on corruption and debt rather than on Convertibility or the IMF, and think that “the debt was because of corruption—Menem sold everything but the debt grew because the money was stolen.” A second legacy of the collapse comes from the cacerolazos—the pot-banging protests. Argentines may be wary of politicians, but society is organising as never before.

One example is the movement for judicial reform. In 1946, Perón started a dishonourable tradition when he engineered the impeachment of the Supreme Court and installed his own patsies. Most presidents since have been unable to resist appointing their own placemen (Mr Alfonsín was an exception). Mr Menem packed the court with spectacularly unsuitable cronies: one was his law partner, another the head of the national tennis association.

Mr Kirchner has followed the tradition by easing out three of Mr Menem’s cronies, but his nominees for the court are three respected judges. Two are left-leaning but one is conservative, and two are women. The president has also introduced a new procedure for their approval: after public consultation on their suitability, the nominees are now grilled by the Senate.

Argentine courts are notoriously slow, inefficient, secretive and corrupt. The Supreme Court, for example, rules on 15,000 cases a year, of which 6,000 concern individual pension appeals. Mr Saba’s group and others have proposed a raft of reforms to make the court more effective and accountable. They want it to concentrate on cases of constitutional significance and to hold hearings in public. They also want judges to pay income tax, which at the moment they do not. Many of these measures have been accepted by the court, though the details remain to be settled.

A week after Mr Kirchner’s speech at the Naval Mechanical School, a demonstration took place that involved no politicians but a far larger crowd. Juan Carlos Blumberg had organised a march on Congress after his only son, a university student, was kidnapped and killed. Some 130,000 people joined him to press for tougher penalties and more effective policing to contain a wave of crime.

Argentines have always liked to think of their country as more European than Latin American, and safe streets and a low crime rate played an important part in that. Buenos Aires is still much safer than other Latin American capitals, but it is less safe than it was. That is partly because of widespread joblessness, especially among young males. But it is also because of the incompetence of the police, the courts and the prison system.

The Buenos Aires provincial force has an especially bad name: its officers appear to have been actively involved or bribed to look the other way in many kidnaps, including the Blumberg case. Other forces, including the federal police, are not much better. “In 20 years of democracy, Argentina hasn’t been able to organise a police force. We talk of the glorious achievement of civil control over the armed forces and we have criminals embedded in the state,” says Natalio Botana, a historian at Torcuato di Tella University in Buenos Aires.

One reason is that the police have been used as instruments of political control. In the Buenos Aires rustbelt in particular, there is a corrupt symbiosis between Peronist political bosses, police chiefs, young toughs and drug traffickers.

The Blumberg march sent the politicians scurrying. Congress voted hastily to rescind parole schemes. Mr Kirchner and Felipe Solá, the governor of Buenos Aires province, have agreed to set up a new—and, it is hoped, clean—metropolitan force. Yet reform needs to be a long-term effort, cautions Victor Abramovich of the Centre for Legal and Social Studies, an NGO. He worries that the police may respond to purges by inciting violence, and points out that police stations have three times as many prisoners as cells. Prosecutors, he says, need more freedom to decide which cases to investigate and when to bring charges; at present, those powers rest with judges.

Argentines also need to look to themselves. “People think the law should be respected, but nobody does respect it,” says Mr Mora y Araujo. “Those who steal a lot are seen as corrupt, but people think it’s OK to steal a little.”

There are plenty of other things wrong with the state apart from the police. Conventional wisdom in Argentina has it that Mr Menem caused the state to disappear. In reality, the story is much more complicated than that.

Peronism and its perils

Jun 3rd 2004
From The Economist print edition

Populism has compromised the role of the state

SALTA, an attractive Spanish colonial city in a broad green valley surrounded by Andean foothills, is typical of non-metropolitan Argentina. It is much closer to Bolivia than to Buenos Aires, 2,000 kms (1,250 miles) away. Salta is not the poorest of Argentine provinces. It has natural gas, tobacco and some mining; in recent years, revenues from soya, wine and tourism have grown apace. But it also has plenty of places like Barrio Norte Grande, a sprawling maze of brick-and-tin houses at the edge of the provincial capital, where jobs tend to be casual and petty crime, drug-taking and prostitution are rife.

Salta is typical, too, in its politics. Since 1995, it has been governed by Juan Carlos Romero, a Peronist who stood as Mr Menem’s running-mate last year; before that, it was run by his father. The Romeros are self-made men, and the current governor prides himself on his businesslike approach. The province invests a lot in public works but has a large budget surplus, says Fernando Yarude, his finance minister.

Dig a little deeper, however, and complaints well up that Mr Romero is something of an old-fashioned strongman, albeit with a modern face. Mr Romero owns Salta’s main newspaper and radio station; the local courts are under his thumb and so, it seems, is much of the population. The provincial government hands out minimum-income payments to 90,000 people under a national scheme, the Plan Jefes y Jefas, or Heads of Family Programme. Opponents claim that who gets them is decided by the local political leaders. “The state is the lord and master of those people. They’re scared to complain,” says Andrés Costas, a National Congress member for Salta’s opposition Renewal Party.

What makes Salta—or any poor part of the country—different from Bolivia is that Argentina has the rudiments of a welfare state. In addition to the Plan Jefes, that means there are doctors to staff the local health post, and children go to school, as much for the free meals as for the lessons. But María Victoria Vacaflor, a community leader in Barrio Norte Grande, says this comes with political strings. “They always want you to be grateful to the government. The health centre has no drugs, but you can get free medicine at the governor’s office.”

The story is much the same in other provinces. There are exceptions, such as Córdoba, Mendoza and Santa Fé, which are better run. But the norm, especially in the poorer north and north-west, is family fiefs, barely disturbed by the ripples of democracy. Governors have simply changed provincial constitutions to allow themselves to be re-elected twice (such as Mr Romero, or indeed Mr Kirchner in Santa Cruz), or indefinitely (for example, Adolfo Rodríguez Saá in San Luís).

These fiefs have a long history. Even today, Argentina is a huge, empty country: the world’s eighth-largest in area, but only 31st in population, with 38m people. Its unity was not pre-determined. For the first half of the 19th century, Buenos Aires, whose leaders wanted a unitary republic under their tutelage, fought the federalist caudillos of the interior over the shape of the new nation. In the end the two sides settled for a draw, embodied in the constitution of 1860. The outlines of that deal survive today. It gives disproportionate clout to small, backward provinces. In population terms, they are over-represented both in the Senate and in the lower house of Congress. Even allowing for their poverty, they get more than their fair share of federal revenues under a transfer system. That pays for armies of public employees who make up a political clientele.

Provincial politics and its caudillo system has had a lasting influence on national politics. It is one of the sources of Argentina’s pervasive populism and its history of catch-all political movements. Latin American populism is not a synonym for leftism; it is as close to fascist corporatism as to socialism, involving strong leaders who blur the distinction between government and state. Unlike Chile or Uruguay, Argentina failed to develop a stable two- or three-party system of conservatives and liberals or, later, social democrats.

Instead, Argentina got two populist movements, Radicalism and Peronism. Both were ambivalent towards capitalism, and both ramped up public employment. Perón built his movement as an unstable coalition between corporatist trade unions and the conservative provincial caudillos. The result, argues Sergio Berenzstein, a political scientist at Torcuato di Tella University, was “a state-dominated society”. Workers, business and other interest groups entered into pacts with the state rather than seeking political change. The system left little space for democratic opposition, and thus bred military intervention and political violence. Political differences were fought out within parties (often violently) rather than between them.

The orderly and democratic handover from Mr Menem to Mr de la Rúa in 1999 was much celebrated in Argentina because it was the only such transition from one party to another since before 1930. Significantly, no Radical president since 1928 has finished his term. Provincial over-representation has given Peronism a built-in majority in the Senate; a slew of small provincial parties also makes it hard to achieve a majority in the lower house.

But the all-powerful state had feet of clay. Guillermo O’Donnell, an Argentine political scientist at Notre Dame University in Indiana, dates the start of its decline to its politicisation during Perón’s second government (1952-55), when senior civil servants were required to be members of the ruling party. Under the dictatorship, military cronies came in. Then the money ran out: the 1980s were a decade of debt, inflation and recession.

Mr Menem turned education and health over to the provinces, with mixed results. In most provinces, secondary schools are staffed by “taxi-driving teachers” paid only for the hours they spend in the classroom, says Daniel Filmus, the education minister. Many provinces have no career structure for public servants. “The state is useless,” was Mr de la Rúa’s withering judgment when he took office. The foreign service and the central bank are partial exceptions that prove the rule.

What will Néstor Kirchner make of the challenge of governing Argentina? He has many of the traits of a provincial politician. Those who know him describe him as blunt to the point of rudeness and mistrustful to the point of paranoia. His closest adviser is his wife Cristina, a Peronist senator for Santa Cruz and a feisty politician in her own right. His cabinet includes a large Patagonian contingent, headed by his sister. He has held no cabinet meetings, preferring to see ministers individually. Observers say it is he, rather than his ministers, who makes policy on important issues such as debt, relations with the IMF, the privatised utilities and the Falklands.

In Santa Cruz, he was an authoritarian boss in the mould of the provincial caudillo who brooked no opposition from the courts. But he seems to realise that such methods will not work in the Casa Rosada, the presidential palace. He is known as a fiscal conservative, and is said to inspect the government’s books every day.

His supporters stress his disdain for the sort of Peronism represented by the conservative governor of Córdoba, José Manuel de la Sota, or by Mr Duhalde—“an exhausted right-wing populist party,” says Miguel Bonasso, a leftist congressman and close friend of the president, whom he describes as a “social democrat”. Mr Kirchner has sought support to the left of his party. Mr Bonasso says that a new party might be launched by 2007, spanning these outside groups and the Peronist left. That would mean, sooner or later, taking on Mr Duhalde, who is biding his time in the hope that Mr Kirchner’s popularity will fade.

But others see the president as a quintessential Peronist. Mr Berenzstein points out that all the movement’s leaders have sought allies outside the party, as a way of increasing their grip over its feuding factions. And rather than moving to create a modern civil service, capable of delivering effective public services, Mr Kirchner himself talks of resurrecting some of the economic roles of the pre-1989, failed, state.

Mr Kirchner’s presidency may provide answers to the broader question of where Peronism is going. Some think it is moving towards formal hegemony, as exercised by Mexico’s Institutional Revolutionary Party for seven decades until its defeat in 2000. Others foresee “the final crisis of Peronism”, in the words of Elisa Carrió, a popular former Radical. “Society is tying itself to what’s left of the old power structures before going to something new,” she says. She foresees a new opposition emerging from civic groups, neighbourhood movements and her own embryonic party. Who proves right will depend in part on how well Mr Kirchner handles the economy.
The insouciant debtor

Jun 3rd 2004
From The Economist print edition

Time to deal with the unpaid bills

ECONOMIC analysis in Argentina today is a bruisingly ideological matter, conditioned by disagreements over the causes of the collapse. Some see the current recovery as ephemeral, resulting largely from the soya boom. They accuse the government of abandoning the reform agenda of the 1990s and failing to repair the numerous breaches of contract caused by the devaluation. Mr Kirchner “hasn’t confronted any of the problems. We devalued to save the same fiscal and labour-market institutions that led us to crisis,” says Ricardo López Murphy, an orthodox liberal who came third in last year’s presidential election.

Others see Convertibility as a costly straitjacket that the country did well to wriggle out of. The economy has recovered “because, finally, after ten years, producing tradable goods is profitable again,” and because “macroeconomic policy is the most orthodox in 50 years,” says Javier González Fraga, a former central-bank governor. Certainly the main aggregates look healthy enough. Inflation is running at 3-4%; interest rates are low; and thanks partly to windfall taxes on exports, the public finances showed an unprecedented primary surplus (ie, before debt payments) of 3.4% of GDP in the 12 months to March.

Mr Lavagna, the economy minister, urges outsiders to separate Argentina’s “stock of crisis”, which he calls a “very high sunk cost” for the country’s firms, its people and its credibility, from these “very positive” flows. It is a neat formulation. Arguably, it was right to concentrate on getting the economy growing again before dealing with the bills for the wreckage. Unfortunately, matters are not so simple. Argentina’s recent past is rapidly catching up with it, threatening to hobble recovery and hence progress on reducing poverty.

Several broad issues remain partly or wholly unresolved. One is Argentina’s economic relations with the outside world, and particularly with the IMF. That includes the debt default. Another is the banking system, which remains in a state of near-paralysis. The privatised utilities are also operating in limbo (see article). Lastly, there is the need to reverse Argentina’s chronic fiscal weakness. All of these issues are linked. Argentina needs to decide, first, how big a primary fiscal surplus it can achieve and how it should be spent; and second, how the government should behave towards the private sector.

Take the IMF first. Critics claim it has again caved in to Argentina. A three-year agreement signed in September 2003 was widely seen as generous, setting a fiscal target of a primary surplus of 3% of GDP in the first year, compared with Brazil’s 4.3% and Turkey’s 6.5%. Officials retort that Argentina’s situation is different. The government is spending 1.5% of GDP on the transitional cost of its radical pension reform. And unlike Brazil and Turkey, it is receiving no new money from the IMF or the World Bank. The Fund has agreed to lend Argentina only what the country is due to repay to it over the next three years, a total of $12.5 billion. Indeed, in 2002-03 the government made net repayments to international financial institutions totalling $6.6 billion.

But the most important difference is political. When George Bush’s administration took office in 2001, it initially disapproved of the IMF propping up emerging-market governments. It changed its mind when Argentina’s default and collapse threatened to contaminate the rest of South America in 2002. Since then, it has worked hard to avoid being blamed for any further turmoil. The IMF itself has much at stake: its lending to Argentina makes up 15% of its total loans. Cutting the country off would mean acknowledging huge bad loans. All this gives Argentina leverage.

But Mr Kirchner’s truculence has won him few friends abroad. His government refused to start serious negotiations with its bondholders, and he played a game of brinkmanship with the Fund itself, refusing to make payments to the IMF without assurances that the Fund would pay up in return. The United States has since joined its G7 partners in pressing Argentina to strike a deal with its creditors.

Some believe that a turning point has been reached. Since March, Mr Kirchner has adopted a less abrasive stance towards the Fund; his government has appointed four investment banks to advise on the debt negotiations, and has held a preliminary meeting with bondholders. But there will be plenty of further argument.

The debt talks are more complex than previous sovereign restructurings, involving 152 different bonds under eight different legal jurisdictions. The bondholders range from Japanese pensioners to New York “vulture” funds, as well as Argentine institutions. Moreover, Argentina’s public debt has swelled since the collapse (see table 4). To compensate banks and depositors for Mr Duhalde’s “pesification”, the government issued new bonds called BODENs. It says it will honour these, together with its loans to international financial institutions and “guaranteed” loans that Mr Cavallo foisted on Argentine banks and pension funds in 2001.

That means, Mr Kirchner maintains, that the government can offer holders of the defaulted bonds only 25% of their face value. In net-present-value terms, that amounts to just 10 cents in the dollar, say outraged bondholders. They want at least 75 cents. That may not be an unbridgeable gap. Argentina will now “make [its offer] more precise,” says Mr Lavagna. “The idea is to do a bit of financial engineering to make it as attractive as possible within the limits of the Argentine situation.” In net-present-value terms, the offer will be “not less than 25%”.

The government insists it will not borrow more to repay the debt, nor will it agree to do a deal that it cannot be sure of honouring for years to come. It also says a primary surplus of 3% is a ceiling for future years. The IMF considers it a floor. The agreement commits Argentina to “a rising trend”, says Anoop Singh, the IMF‘s chief for the western hemisphere. The longer the talks drag on, the more likely it is that creditors will turn to the courts (so far only three have filed suits in New York). However, Argentina does have incentives to settle. “Problem number one is the debt. Not settling it is delaying many other things,” says Mr González Fraga. Without a deal, he says, the country’s bigger companies will be unable to raise money and the government cannot implement tax reforms. And uncertainty will continue to hang over the banks.

Two years ago, many banks in the centre of Buenos Aires, besieged by angry depositors, boarded up their frontages. Now, outwardly everything has returned to normal. The freeze on deposits ended a year ago. Deposits have flowed back and now stand at 90 billion pesos, compared with 80 billion before the collapse. But the financial system is acting as little more than a piggybank. Things have improved, concedes Mario Vicens of the Argentine Banking Association, which represents foreign banks with branches in the country, but not yet enough to ensure the normal operation of the financial system.

The main problem is on the banks’ asset side. Nearly half their operating assets are in government paper (some of it Mr Cavallo’s “guaranteed loans”, the rest the bonds issued to compensate for pesification). This debt, though in good standing, has been issued by a government in default, so nobody knows what its real value might be. And it pays a low interest rate: 3.5% plus inflation.

A second source of uncertainty is a number of injunctions issued by the courts to savers who demanded that their dollar deposits be paid at the market exchange rate, rather than the rate decreed by the government of 1.40 pesos to the dollar, plus inflation. Honouring these injunctions has so far cost the banks an extra 7 billion pesos. The Supreme Court is due to rule whether pesification was legal.

The Central Bank reckons that the banks should treat the excess paid to depositors who won injunctions as a loss, which it will allow them to write off over five years. It has also given them time to increase their capital base. At the end of 2001, the banking system’s net worth was $16 billion. Today it stands at $8 billion—provided government bonds are worth their face value. “Since we didn’t have money, we had to offer time,” says Alfonso Prat-Gay, the central-bank governor. “There’s still a lot to be done, but the ball is now in the banks’ court.” In other words, they will have to start lending again.

The Central Bank’s rules are reasonable, says Mr Vicens. But the banks face a long road back to profitability. At least the system is now roughly breaking even, after losses of 16 billion pesos in 2002 and a further 4 billion pesos last year. Only a handful of banks have closed their doors. A new crop of regional private banks are expanding—as are two big and poorly managed state-owned banks, perhaps sowing the seeds of the next financial crisis.

Banks and borrowers are still proceeding with caution. Most deposits are short-term, which limits the scope for long-term lending. Loans are starting to grow again, but so far most of them are short-term consumer credits. Today, Argentina is a cash economy: credit to the private sector amounts to only 8% of GDP. Miguel Kiguel, an economic consultant, thinks the banking system could return to solvency over the next five years—but only if deposits and loans go on rising, the economy grows by at least 3% a year and the government continues to service its debts to the banks.

The debt burden means the government has no margin for fiscal error, a lesson that the collapse of 2001-02 may have driven home. Mr Singh of the IMF is cautiously optimistic on that score: “I don’t think the Argentine population will tolerate high fiscal deficits and inflation any more. There may have been a culture shift.” To make sure, the IMF wants the revenue-sharing arrangements with the provinces to be reformed, but that may prove difficult. To comply with the IMF agreement, Mr Lavagna duly sent a bill to Congress in March, but it merely guarantees provinces the same money they got last year and suggests that any excess should go to poorer and more efficient provinces. Miguel Angél Broda, an economic consultant, thinks this does not go nearly far enough. “We’re taking a bonanza year and extrapolating it for ten years. It’s missing a historic opportunity to reform the relationship with the provinces,” he says.

Yet the bill’s authors may have gauged the political temperature correctly: even this mild draft was immediately howled down by several provincial governors. Under the constitution, changes in revenue-sharing must be approved by every province as well as by the federal Congress, so the IMF should not hold its breath.

In fact, since the Menem reforms, government spending has not been egregiously high. The problem is that the government spends badly and fails to collect enough taxes. A more promising approach may be to reform the tax system, and ensure that taxes are actually paid. Mr Lavagna says that his priorities for this year, along with revenue-sharing reform, include lowering taxes on investment and cracking down on evasion. In this area, too, establishing the rule of law is essential.

An unloved policy

Jun 3rd 2004
From The Economist print edition

But privatisation was nowhere near as bad as its critics claim

THE policy perhaps most closely identified with Mr Menem’s governments was wide-ranging privatisation. The oil, electricity, telecoms, water and airline companies were sold, and private companies hired to run airports, trains and roads. Its critics say that it was poorly regulated and sometimes corrupt, that the privatised firms reaped exorbitant profits, and that many jobs were lost.

The job losses reflected the grossly inflated payrolls of the state firms. But some of the other charges seem well-founded. In telecoms, for example, Mr Menem set up two private monopolies, run by Spain’s Teléfonica and Telecom Italia respectively. Charges came down, but not as much as elsewhere. According to Daniel Aspiazu of FLACSO, a graduate school, these firms loaded the balance sheets of their Argentine subsidiaries with debt to send money to their head offices before the devaluation. If they did, that was not illegal. Indeed, Mr Kirchner did something similar: in 2001 he prudently sent Santa Cruz’s reserves to a Swiss bank, where they remain.

There were other flaws. In some industries, tariffs were fixed in dollars and indexed to inflation in the United States, even though Argentina was suffering deflation. Water firms initially charged high connection fees to the poor. Sometimes privatised firms “captured” the regulators: the man who organised airport privatisation went to work for the winning bidder and then became the regulator, says Mr Aspiazu.

But taken as a whole, privatisation transformed Argentina’s infrastructure. That was especially true in the energy sector, which in the decade to 2001 had $70 billion invested in it. The wholesale cost of electricity was halved, and leakages were cut from 30% to 10%. Argentina turned from an importer to an exporter of energy. Access to safe water got better.

Now that progress is in jeopardy. Two years ago Mr Duhalde switched the privatised companies’ tariffs to pesos and froze them, pending renegotiation of their contracts. Two have had their contracts rescinded. One was an Argentine group, linked to a political opponent of Mr Kirchner, that had bought the post office but allegedly failed to invest in it. Last month, the government reached interim accords with a water company and the telecoms firms. The others remain in suspense: they cannot renegotiate their defaulted dollar debts until they know what rules they will operate under.

For most of the utilities, the frozen tariffs cover only their operating costs, so investment has stalled. In energy, for instance, demand has grown as the economy has expanded. This has resulted in widely predicted shortages. The government has belatedly agreed to increase gas and electricity tariffs, but the energy market will take a couple of years to return to normal. Meanwhile Mr Kirchner has launched a plan for new state gas and electricity companies. That looks like a backward step.

Use your brains

Jun 3rd 2004
From The Economist print edition

Business in Argentina must capitalise on its natural advantages

new wine, new bottles; it takes more than two to tango

IT IS a public holiday, the day of the Malvinas, marking the moment in 1982 when Argentine troops briefly raised their flag in Port Stanley. But at the Zuccardi family winery, at the foot of the Andean cordillera half an hour from Mendoza, everybody is busy. Teams of workers pluck dense clusters of grapes from the vines; others unload them at the bodega, where new machines separate the fruit from the stalks.

The Zuccardis’ enterprise embodies the strengths and weaknesses of Argentine business today. Until Mr Menem opened up the economy, the wine industry had been inward-looking: it produced large quantities of plonk for the local market and relied on government-imposed production controls for its profits. In 1987, exports totalled just $6m, or 1% of output. Last year, Argentina exported $170m-worth of wine and $62m-worth of concentrated grape juice, adding up to 12% of output.

The Zuccardis were among the first to go for the export market, in 1992; last year 60% of their total sales of 45m pesos were abroad. José Alberto Zuccardi says his objectives are “quality and innovation”. His company already sells wine made from nine different grapes, including tempranillo, syrah and viognier as well as Argentina’s traditional malbec, and is experimenting with ten more varieties.

Argentina should be a wine giant, and perhaps it soon will be. It has plenty of suitable and empty land, as well as a large local market, which has made it the world’s fifth-largest producer and seventh-largest consumer of wine. All the top names in the world’s drinks industry have bought or set up Argentine wineries. Since the late 1990s, up to $1 billion has been invested in 130 new bodegas and 35,000 hectares of new vineyards, says Enrique Thomas of the National Wine Institute, an industry body.

But local producers such as Mr Zuccardi can get no long-term credit; the only way they can expand is by reinvesting profits. Transport is difficult and expensive. Mendoza has poor road and rail links to Buenos Aires, over 1,000km away; Valparaiso in Chile is only 550km, but by a road over the Andes that sometimes gets blocked by snow in winter. And marketing is well behind: a campaign to promote Argentine wine has only just been launched.

As for wine, so for many other food products. Farming remains the vital heart of Argentine business. If farmers are now doing well, it is not just because of high world prices; it is also because they spent a lot on modernisation in the 1990s. The annual grain harvest, for example, rose from 40m tonnes to 70m tonnes in the past decade. That was partly because more land was taken into cultivation, but also because yields per hectare rose by some 17% over this period, according to the Rural Society, a farmers’ lobby.

Argentine farmers have always been quick to respond to market prices by switching crops. Soya production, for example, has doubled in four years. They are also innovative: almost all soya is now grown from GM seeds, which cuts costs by $40 a tonne, reckons Alejandro Elzstein of Cresud, a farming and property company. They have managed to compete successfully with rich-country farmers who receive large subsidies, despite the windfall tax of up to 23% that the government slapped on exports after the devaluation.

Many non-farming businesses are less well placed. If few people can name an Argentine multinational, that is because there are only two of them: Arcor, a chocolate maker, and Tenaris, a steel-pipe maker. Volatility and lack of credit are murderous for business. But there are a few well-hidden strengths.

Convertibility forced businesses of all kinds to modernise or die. Many died, especially in manufacturing. The successful ones used the strong peso to buy in modern technology. They include a wealth of medium-sized companies, some of which are doing well. Jorge Forteza, the rector of San Andrés business school, cites car-parts makers such as Basso and Edival, who are supplying motor valves to Ferrari. There is a small but growing software industry. And since the devaluation, Argentina’s multinational-owned car plants have been assigned some niche models for export .

There is also a new generation of entrepreneurs. Take Jessica Trosman, a young fashion designer. In an ordinary-looking workshop off Avenida Corrientes in Buenos Aires, she produces a collection based on her patented technique for applying plastic beads to fabric. She sells to Harvey Nichols, an upmarket British fashion store, as well as to shops in New York and Japan, and has two boutiques in Buenos Aires. Her turnover last year was $1m, and she expects 30% growth this year.

Another example is Alejandro Pitashny, a young investment banker. In 2002, with two friends, he set up José, a brand of gourmet teas. With sales to airlines and London department stores, the company is already profitable.

Devaluation has also brightened the prospects for some service businesses. Tourism is booming, especially in Buenos Aires and Patagonia. Thanks to the modernisation of the telecoms networks after privatisation, 15,000 Argentines now work in call centres, many of them handling queries from across Latin America.

One of Argentina’s biggest business advantages is that its people are better educated than the average Latin American. But the country’s educational system, once famed, is not what it was. Mr Menem’s devolution of education to the provinces was a good idea in principle, but it has caused standards to diverge widely. Richer provinces now spend up to twice as much per pupil as poor ones.

Only 60% of children finish secondary education, partly because of poor teaching. “We’ve neglected the training and working conditions of teachers,” says Mr Filmus, the education minister. He is using his newly expanded budget to buy more textbooks and help poorer schools. The failings of secondary schools bear directly on unemployment and social problems: companies demand skilled workers but get unskilled ones instead. Mr Zuccardi’s firm has set up its own schools to give its workers the chance to complete primary and, soon, secondary education.

Universities have problems, too. Lots of young Argentines embark on a university education, but many drop out. Only 5% of those aged 25-54 are graduates, compared with 15-20% in rich countries, says Guillermo Jaim Etcheverry, rector of the University of Buenos Aires (UBA). Four out of five students also hold down jobs, which helps to explain the high drop-out rate.

Quality, too, is under pressure. The UBA has a proud scientific tradition, having produced all three of Latin America’s Nobel-prize winners in science. But it is struggling with 300,000 students on a basic budget of $100m; in Brazil, the University of São Paulo, with only 73,000 students, has a budget of $440m, says Mr Jaim Etcheverry. Even so, the UBA has niches of excellence in science, medicine and engineering.

Yet research by the World Bank shows that Argentina gains far fewer patents and publishes far less in scientific journals than do other economies with a similar income per person. It also invests little in research and development. The Bank blames a lack of collaboration between universities and firms, as well as insufficient “financial depth” (ie, credit) and intellectual-property protection.

More encouragingly, the Bank also says that Argentina has been good at innovating in farming, food processing, and some chemical products and electrical machinery. That is something to build on.

The opera and the tango

Jun 3rd 2004
From The Economist print edition

Argentina needs to look for models in the right places

THE Teatro Colon, Buenos Aires’s great opera house, is a microcosm of Argentina’s history. Begun in 1895 by a private company that went bust, it was finished by the city government in 1908, at the height of the Belle Epoque. It is twice the size of Milan’s La Scala, with six tiered balconies decked out in gold leaf and a lobby modelled on the Hall of Mirrors at Versailles. It is part of Argentina’s notable musical tradition: as well as the tango, the country also produced Daniel Barenboim and welcomed many European musicians fleeing Hitler. In recent decades the Colon limped on, plagued by over-mighty trade unions, corruption and waste. In 2000, strikers took to the stage during a performance. The director died of a heart attack and the season was cancelled.

Since 2001, however, the Colon has undergone a renaissance. Pablo Batalla, the new director, has a background in economics rather than in the arts. He imposed a new contract on its staff, eliminated a $3m annual overtime bill and cracked down on corruption. The number of performances has risen by 45% and attendances have doubled. “Opera needs discipline,” he says. “Everything was improvised.”

The city pays the salaries of the Colon’s 1,500 staff (including a full orchestra, an opera and a ballet company), at a cost of 30m pesos a year. Mr Batalla reckons that is good value. The price of the average ticket has been cut from 60 pesos to 19, with very cheap tickets for the unemployed. Four out of every five foreign tourists visit the place, if only for the guided tour. The Colon used to run an annual deficit of 10m pesos, but now it covers all its variable costs from ticket sales, sponsorship and sales of scenery abroad. Mr Batalla sees the opera house as a “national symbol that connects us with the western tradition and with the best of what European migration left us”.

The Colon’s revival carries two main messages for the new Argentina. One is that it is dangerous for the country to turn its back on the world. Mr Menem made big mistakes, but he also got some big things right. One of those was opening up Argentina’s economy, even if Convertibility and the strong peso made that more painful than it need have been.

Is Mr Kirchner the man to reconnect Argentina to the world? The evidence is mixed. His home province, Santa Cruz, is both physically and spiritually remote from Buenos Aires. Like many Argentine politicians, Mr Kirchner has travelled little outside his country: he first visited Brazil a few weeks before his election, and Europe a month or so after it.

However, he has avoided rupture with the IMF. When faced with energy shortages, he also belatedly backtracked from the tariff freeze—but only after ordering a unilateral 15% cut in exports of gas to Chile, whose president was a loyal ally, thus casually jeopardising a decade’s progress on energy integration in Latin America’s southern cone.

If parochialism is one danger, another is for Argentina to be distracted by its past. It does have strong cultural links with Europe, and it did briefly ascend to the league of rich countries, but that was largely accidental and long ago. Since 1930, its politicians have continued to behave as though it were still rich. That has encouraged populism and bred delusions of grandeur, exemplified by the 1982 invasion of the Falklands, and even by Mr Cavallo’s attempt to ape the gold standard with Convertibility.

Argentina should look closer to home for models. For better or worse, it is a Latin American country, home of the tango (which originated in brothels and gauchos, even if it was later Italianised) as well as of the opera. And it has been overtaken not only by Italy and Spain (thanks to the European Union) but also by Chile.

In the 1990s, some Argentines began to see their future in Mercosur, the putative customs union linking them with Brazil, Paraguay and Uruguay. This has a role to play, especially in political co-operation and (pace Mr Kirchner) energy and transport integration. But sensibly enough, Argentina is now seeking to broaden its trade relations. Martín Redrado, the trade secretary, is working on half a dozen separate trade talks, with China and India as well as with the EU, and including the tricky negotiations for a Free-Trade Area of the Americas. Over the past two years he has led 27 trade missions abroad. Argentina would benefit hugely from an end to rich-country barriers to farm trade.

It is not only Chile’s open trade that offers a model to Argentina. It is also its much greater respect for the rule of law, and its more effective state. As this survey has argued, Argentina’s underlying challenge is to create a society ruled by law rather than by corruption, clientelism and populism. It needs to reconstruct its public administration so that it provides the services its people have a right to expect. Those include infrastructure, in which public as well as private investment is needed. Argentina is a vast country, hobbled by poor transport links. But another big thing that Mr Menem got right was deregulation. The government must let private business get on with the job of creating wealth and jobs.

Some of this requires long-term thinking, which is in short supply in Argentina today. But some of it needs acting on right away. Argentina currently has a great opportunity. Its people have found that they can force the politicians to mend their ways. The present recovery could easily turn into sustainable growth. But this can happen only if Mr Kirchner gives clear signals, by his handling of the debt and the privatised companies, that private investment and enterprise are welcome in Argentina. Those signals need to come in the next few months. Otherwise the roller-coaster will plunge sickeningly downhill once again.

Copyright © 2008 The Economist Newspaper and The Economist Group. All rights reserved.


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