Argentina: Risk Assessment
Country Risk Rating
Business Climate Rating
- Natural agricultural, energy and mineral resources
- Improvement in the business environment
- Education level higher than the regional average
- Return of the country onto international markets
- Weakened current account
- Rising external debt
- Skyrocketing inflation
- Bottlenecks in infrastructure
Deceleration in Activity Expected to Intensify in Upcoming Quarters
After dropping by 1.8% year-on-year (YOY) in 2016, GDP recovered in 2017, reaching an annual growth rate of 2.9%. However, in the first quarter of 2018 growth showed some deceleration YOY. Activity expanded by 3.6%, down from 3.9% in the fourth quarter of 2017 and 3.8% in Q3 2017.
In the upcoming quarters, activity is likely to weaken further. Preliminary figures for the second quarter of 2018 have pointed to a sharp deterioration of economic momentum. Growth in 2018 will continue to be undermined by the effects of the worst drought in decades on agricultural activity (the soya crop especially). In addition, the strong depreciation of the Argentinean peso against the US dollar – 50% in the first half of 2018 YOY; more than other currencies of emerging markets – has led the central bank to raise its key rate to 40% per annum, up from 27.25% in early May 2018. The exchange rate depreciation is also expected to take a toll on inflation perspectives, which were already high due to monetary public deficit financing and rising tariffs. The government is set to implement new tariff adjustments and cap the nominal growth of public sector wages. Household consumption should therefore decelerate. Public expenses and investments will also be curbed in response to a tighter fiscal policy.
High Exchange Rate Volatility Fed by Large Twin Deficit
The current account deficit reached 4.8% of GDP in 2017, up from 2.7% of GDP in 2016. In Q1 2018, the trend continued and the deficit reached 5.3% of GDP. As activity started to rebound in 2017, the trade and income balances began to deteriorate. Last year, imports rose by 20%against a marginal increase of 1% in exports. The good news is that capital goods have represented a good part of imports (signaling for the renewal of the local industrial park). Additionally, income transfers from foreign investors increased with the activity revival. New foreign direct investments, estimated at 1.3% of GDP in the same period, clearly did not cover the wide current account deficit. That led the government to take advantage of the still abundant international liquidity to finance it. As a result, external debt reached 39.9% of GDP in Q1 2018, up from 36.9% in 2017 and 32.7% in 2016. This financing is highly vulnerable to changes in the mood of financial markets. In 2018 the current account deficit could register a slight reduction as the impact of the slowdown in domestic demand on imports would more than compensate for the weak crop export.
Taking into account the fiscal target, the government was able to overachieve the 4.2% primary deficit target and reached a deficit of 3.8% of GDP in 2017. Notwithstanding, the government‘s balance, including interest payment, rose to 6% of GDP up from 5.8% in 2016. This year, following the currency crisis in late April, the government decided to hasten the rhythm of fiscal consolidation. The primary deficit target was reviewed to 2.7% of GDP in 2018 (from 3.2%) and 1.3% in 2019 (from 2.2%). That still leaves the government in need of monetary and external financing.
President's Popularity Confronted to Deteriorating Purchasing Power and Bitter IMF Package
With the recent fall and ongoing fragility in the exchange rate on one side, and the expected further erosion in purchasing power, on the other, Mr. Macri re-election chances in the general elections to be held in October 2019 are at stake. The ruling president has seen its popularity eroded in recent months, as the population seems to be losing patience, as tightened monetary and fiscal policy doesn’t seem to be counterbalanced by progress on the inflation front.
Moreover, to try to smooth investors’ nerves and to soften the dependence on capital markets, Argentinean government reached in early June 2018 a three-year deal with the International Monetary Fund for a USD 50 billion credit line. The deal, in counterpart, requires stronger cuts in the fiscal deficit, i.e. elimination of primary deficit by 2020. This way, the government announced the freezing of public hiring for two years, a sharp cut in non-crucial public works (cutting public investments up to 1.7% of GDP until 2020) and full phase-out of gas and transport subsidies. Despite the introduction of social safety net which could encompass a conditional cash transfer programme the agreement with IMF was received with anger by part of the population, which blames the IMF for exacerbating the economic collapse registered in 2001. In disavowal to the IMF loan and to Macri’s austerity measures, a general strike was held in late June, the third since President Mauricio Macri took office in December 2015. For his luck, no opposition leadership has benefited from this breakthrough, yet.