Last
week, the Central Bank of Argentina let the nominal exchange rate rise from 6.7
pesos per dollar to 8. This devaluation mounted on top of another 10%
devaluation that had occurred at a lower pace since early December 2013. Can we
consider this as a currency or balance of payments crisis? Because the very
notion of an economic crisis —whether it is fiscal, financial or a balance of
payments crisis— is always blurry, let me start by providing what I believe is a
shared definition of a balance of payments crisis. This happens when the
Central Bank unsuccessfully tries to keep the nominal exchange rate around
certain value and is forced —after loosing a substantial amount of foreign
exchange (FX) reserves— to implement a discrete devaluation or to let the
domestic currency depreciate.
Has
this happened in Argentina recently? These are the facts. By July 2011, the
stock of FX reserves was around U$ 52 billions. The exchange rate was 4.1 pesos
per dollar, only 7% higher than in July 2009 (3.85 pesos per dollar). In August
2011 —three months before the presidential election— the Central Bank started
loosing reserves. In November 2011, just a few weeks after Cristina Kirchner was
re-elected, FX reserves were U$ 46 billions. Since the depletion of FX reserves
showed no sign of stopping, the authorities started to implement a series of
measures to limit the demand for foreign currency. The controls triggered the
blossoming of black markets. FX reserves kept falling, softly during 2012 and
very rapidly since early 2013. In November 2013, after a poor mid-term
election, the president fired the governor of the Central Bank and put in
charge a new economic team. FX reserves were U$ 33 billions and the exchange
rate had reached 6 pesos per dollar. As I mentioned above, a week ago, the
price of US dollar jumped to 8 pesos. FX reserves are now close to U$ 28
billions. The Central Bank has managed to keep the exchange rate at 8 pesos at
the cost of loosing U$ 150/200 millions of reserves per day. There are still
widespread expectations of further devaluation and few believe that authorities
can sustain the exchange rate at the new level, especially because the rate of
inflation has accelerated above 30% annually. In short, FX reserves have so far
fallen by 46% and the exchange rate has risen by 95%. If it looks like a dog,
walks like a dog and barks like a dog, then… it's probably a balance of
payments crisis.
Some
analysts still reject the idea that Argentina is going through a balance of
payments crisis. Matías Vernengo´s recent
piece is a good example. He argues that “this is not a balance of payments
crisis” and supports his claim by pointing out the fact that Argentina has a
small current account deficit and that the real exchange rate (RER) is not as
overvalued as in Brazil. He is right: the current account deficit was only 0.5%
of GDP in 2013 (although it would higher without the import controls) and the
RER is certainly not as overvalued as in Brazil (which, by the way, is very
overvalued). But these facts do not substantiate the claim that Argentina is
not experiencing a balance of payments crisis. Matías seems to miss the important point
that as long as expected depreciation at the exchange rate that the Central
Bank is defending is higher than the yield of domestic assets, there would be
an excess demand for foreign currency that would eventually lead to the depletion
of FX reserves and the collapse of the domestic currency. Although it would be
a rare event, this could even happen in a country with a current account
surplus.
This kind of inconsistency was at
the root of current Argentine crisis. Starting in 2007, inflation has been in
the range of 25-30% per year. Since 2010, the central bank began to use the
exchange rate as the main nominal anchor for inflation. During the two years
before the 2011-election, domestic prices rose 54% whereas the nominal exchange
rate only 12%. As a result the RER appreciated significantly. Nominal interest
rate during the same period was about 10% (negative 15% in real terms). A
policy like this is clearly unsustainable and at some point expectations of
devaluation/depreciation would start to emerge. The 2011-election served
as an expectation-coordination device. Since governments do not take unpopular
measures before elections, but they typically do after them, people began to
anticipate a devaluation in mid-2011. This was why the run against FX reserves
started just before the election.
Almost
a year ago, I began warning about these inconsistencies and to argue that the controls
imposed since late 2011 would not solve the problem but would only exacerbate
it. I argued that a RER correction would be unavoidable and that the government
should take care of the inconsistences as soon as possible. I was aware that a
real devaluation would have a contractionary effect. My fear was (and still is) is that a RER
correction done through a balance of payments crisis could lead to an exchange
rate overshooting and a devaluation-inflation spiral beyond the government’s control.
Such a scenario would imply a significant fall in real wages and employment.
This should be avoided.
Formulations
like mine seem to be the source of another confusion in Matias’ analysis. He
argues that people like Luiz Carlos Bresser Pereira, Roberto Frenkel and me
were advocating for a devaluation because we support the idea that maintaining
a competitive real exchange rate (CRER) is good for growth. I do support a CRER
strategy for development, but if you read my articles (here in English;
here
and here
in Spanish), you will see that my claim was based on the inconsistencies of
macroeconomic policy and not on my frustration about the abandonment of the
competitive RER strategy that Argentina carried out between 2002 and circa 2008.
The
source of Matias’ confusion is, in my view, clearly exposed in this
piece. He claims that growth is
wage-led, thus real exchange rate devaluations affect growth negatively (as in
the Krugrman-Taylor
paper) and not positively (as in the Frenkel-Taylor
paper). Are the two papers by the same author contradictory? No, the problem is
that Matías
confuses an important distinction between short-run and long-run effects of the
real exchange rate on economic performance. In Krugman-Taylor, a real
devaluation (a change in the RER) has
a negative effect on output and employment in the short run; in Frenkel-Taylor, a competitive RER level has a positive effect on long-run
growth. These are theoretical arguments that should be evaluated empirically in
each historical circumstance (I’ve done some work on the latter here and
here),
but we can’t properly do that if we misunderstand the economic reasoning behind
them.
