On November 25th, the Argentine government announced a $21 billion public works plan. No details as yet, other than that Buenos Aires intends to divide the money into three categories: “minor” projects that can be launched immediately and finished within a year (like repaving bad roads or fixing dilapidated school buildings), “regional” projects that will take some time to ramp up and will last more than a year (like building new roads or replacing sewer systems), and “structural” projects that will “change the entire economic or environmental scene.” (Like, I fear, the Tren Bala.) Sound familiar? It should. President-elect Obama proposed a very similar plan a few days ago.
The thing is, the Argentine Republic is not the United States. So there are two questions. First, does Argentina need a big fiscal stimulus? Second, if Argentina can use a fiscal boost, will one work, or do the laws of economic motion work differently there?
On December 5th, President Fernández added to the stimulus package. She announced an additional short-term stimulus worth about $3.9 billion. The government will loan one billion dollars to consumers to buy Argentine-made consumer goods. The government will offer another $916 million to the domestic auto industry by offering financing to people who have never bought a new car before. State-owned banks will offer one-year loans at 11 percent to finance exports and investments. Export taxes on wheat and corn will fall to 23 percent and 20 percent respectively, and the government will cut them another percentage point for each million-ton increment exported over a fixed limit.
The basic logic behind a fiscal stimulus isn’t that abtruse, although the details get complicated fast. In a recession, no one wants to spend. Consumers (foreign and domestic) don’t want to buy stuff, and businesses don’t want to invest. So cash piles up in bank vaults and under mattresses. In such a situation, the government can go out and borrow all that cash at really low interest rates and use it to build useful stuff. That keeps people employed until confidence returns. In fact, the spending may even cause confidence to return, as people see that the world has not ended and that the economy goes on. Once confidence returns, the government can cut back on its deficit spending as private consumption or investment rises.
The first question for Argentina, then, is whether the country needs government spending to fill a gap in demand. Surprisingly, that still isn’t crystal clear (emphasis on “crystal”): in September, the Argentine economy recorded 6.8 percent growth from a year earlier. Nor is there much sign of an increase in unemployment. In fact, official figures say that the size of the employed labor force is holding steady.
On the other hand, a part of the reason why unemployment is holding steady is because the Labor Ministry has taken to overturning any layoffs that weren’t communicated to the government in advance under the “Crisis Prevention Procedure.” (In a very Argentine move, the government is considering doubling or tripling the required severance payments in order to discourage layoffs.)
More ominously, the dollar value of exports is down 16% since August. Since exports drive the Argentine economy, that is rather worrisome. Unsurprisingly, the monthly rate of economic growth slowed again in September. The following graph shows month-to-month economic growth at an annualized rate. The trend is not promising.
It isn’t unreasonable to believe that Argentina could use a fiscal stimulus. After all, there are lots of shoes that haven’t yet dropped, and most observers think that the Argentine economy will enter a recession next year. The $3.8 billion short-term boost comes to about 1.2% of Argentina’s GDP, which is pretty small as fiscal expansions go. The infrastructure plan is a much heftier 6.6% of GDP, but I doubt most of it will be spent next year. In other words, Argentina has a small stimulus for what so far looks like a small recession.
But what if the Argentine economy heads off a cliff? Could Buenos Aires ramp up a big fiscal expansion to cope? I’m not so sure.
Problem #1 is that Argentines don’t view peso-denominated Argentine government bonds as a low-risk investment. In most developed countries (and a few lucky underdeveloped ones) scared investors want government paper. It’s safe. Consider that in the U.S., frightened investors want U.S. Treasury bills even if they offer no interest at all.
The problem is that in Argentina frightened investors also want U.S. Treasury bills. Fiscal expansions work in depression-like conditions because the government can expand its borrowing without driving up interest rates and crowding-out private investment. If spooked Argentine investors buy U.S. treasuries instead of Argentine ones, then the Argentine government will have to promise said investors sufficiently high returns to encourage them to buy Argentine bonds. That means higher interest rates for Argentine bonds. Since most international investment funds (stupidly, IMHO) use the rate on government bonds to set the minimum return they demand from any investment in a country, a rise in the interest rate on Argentine government bonds would have the effect of raising interest rates across the Argentine economy. Which is precisely what you don’t want to have happen in a recession. See Depression, Great.
Problem #2 is that Argentine investors are easily (and rightfully) spooked by any whiff of inflation. Let’s say that the Argentine government wants to goose demand in order to head off a depression. Let’s also say that private investors won’t buy said bonds at existing interest rates. The government could head off an interest-rate increase by selling the newly issued bonds to the central bank. The central bank, in turn, would print money to pay for the bonds.
That strategy could work in many countries. Even if it led to some inflation, some inflation is a good thing in a depressed economy. Inflation would cause the stashes of cash that people have under mattresses to start to lose value, which would prompt the holders of such cash to go out and start spending it instead.
The problem is that Argentines are easily spooked by signs of inflation, and for good reason. An Argentine government that went out and monetized its debt to keep interest rates low would cause everyone and their sister Marta to decide that the bad old days of hyperinflation were about to return. That would cause them to rush out and spend their money before it started to lose value, thus triggering the very inflation that they feared. And while a depressed economy can always use some inflation, double (let alone triple) digit inflation rates are very bad.
Even in Argentina, there are some signs that inflation is moderating as the recession kicks in. And the government is trying to induce Argentines to bring their money home. And should such inducements fail, the government can always force the newly-nationalized pension funds to buy newly-issued Argentine government bonds. The above three events indicate that Buenos Aires might be able to square the circle should the need emerge. Maybe.
If not, there is a third option for Argentina: currency depreciation. A fall in the peso would make Argentine exports cheaper, crowding out (say) Brazilian cars and Canadian wheat in world markets. It certainly would not be hard to get the peso to fall. Market forces are (mostly) pushing that way already.
Problem #2½ is that a fall in the peso could trigger very high inflation, if inflation-jittery Argentines get sufficiently panicked. See above, replacing “central bank starts buying newly-issued Argentine bonds” with “peso tanks.”
Problem #3 is that a fall in the peso will trigger distributional conflicts within the country. Farmers and the owners of import-competing industries would love a peso depreciation, or at least not hate it. (Under the assumption that the previous depression wiped out all their dollar-denominated debts.) But workers who buy a lot of imports — or who buy a lot of the stuff that Argentina exports — won’t like it. After all, meat prices are set in the world market. A drop in the value of the peso will raise the peso-price of Argentine meat (and bread), which is a bad thing for urban Argentines.
In addition, a peso devaluation will make another Argentine default on its foreign debts inevitable. While I tend to be sanguine about the consequences, many smart people disagree with me.
The three problems make for a tricky situation. Emerging market Keynesianism is sadly not as easy as developed world Keynesianism.
This is a case where I need a talking down. Counterarguments, please? What should Argentina do if the downturn worsens?