Sat, Aug 25, 2001 page19

• IMF attempts to rescue Argentina's economy

  • By David DeRosa / BLOOMBERG
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  There has been scant detail disclosed about the US$8 billion in new loans the International Monetary Fund has agreed to give Argentina.

  For openers, what rate of interest is Argentina going to have to pay to the IMF? The answer is probably a rate that is far below what private parties would charge.

  The first US$5 billion -- which ought to be disbursed following the next IMF executive board meeting -- will to go to the central bank to replace depleted foreign reserves. That sounds reasonable until you think about it.

  

  Diego Ordonez cleans fish at a fish store in front of a sign that reads ``We accept Patacones'' in Moron, 16km from Buenos Aires, Argentina on Thursday. The cash-strapped Buenos Aires province has begun handing out government bonds, called patacones, to help meet the payroll for thousands of state workers.

  PHOTO: AP

  Why is this money going the central bank? Hasn't the problem always been that Argentina has a fiscal problem, meaning that the country cannot pay its debts? Bad fiscal management, a declining economy and ruinous interest rates are said to be to blame.

  But the US$5 billion is being directed to the central bank, presumably to give Argentines confidence in the banking system and in the peso.

  While it is true that the banking system has lost massive deposits in this latest crisis, sending US$5 billion to the central bank raises some concerns.

  The Financial Times reported that a consortium of banks is refusing to activate a US$4.7 billion emergency repo line that it issued to the Argentine central bank in 1996.

  How come? This may have something to do with a US$29.5 billion bond swap in June. That transaction may have swapped out of existence all the bonds eligible to be pledged as collateral that could have been used to open the repo line.

  So, after all these years of paying commitment fees to the banks for that line, Argentina finds itself unable to draw it down when it needs it the most.

  If the repo line had remained open, presumably there would have been no need for the IMF to lend roughly the same amount to the central bank.

  All of this is beginning to sound like Russia circa August 1998. When the critical IMF package was announced the market was shocked to learn that the bulk of the money was going to the Russian central bank to defend the ruble, then pegged to the dollar.

  Where the money was needed was at the Russian treasury, which at that time was insolvent. Default ensued, and you know the rest.

  Anyway, since 1991 Argentina has operated its famous currency board exchange-rate regime to peg the peso one to one to the dollar. The currency board has its critics and its supporters. The former say that Argentina has suffered from the peso being pegged to a strong dollar and that the arrangement has taken no account of Brazil's devaluation of the real. Supporters of the board say it has been a success -- just look at the monetary mess that the country was in before 1991, when inflation ravaged Argentina.

  History will be the judge. At this juncture one has to wonder why a currency board would ever need an injection of reserves from a supranational entity. Understood, there has been a run on the banking system, and the central bank has lost a lot of reserves.

  But was that bad luck or bad management? As one person said to me: People smelled blood in the water, in the monetary sense, so they pulled their money out of the banks. Some feared that bank deposits would be frozen, locals tell me. Others sensed devaluation and abandonment of the currency board was imminent.

  There was a better way. For years a good part of the economics profession has been telling Argentina to scrap the currency board in favor of dollarization. That act would have permanently removed the fear of devaluation.

  The remaining US$3 billion of the new IMF money is conditioned on Argentina working out bond swaps with investors. The swaps are being characterized as "voluntary" and "market based." Why would Argentina need US$3 billion to do more bond swaps? This is beginning to sound distinctly Bradyish.

  Furthermore, consider that Argentina's central bank Vice President Mario Blejer told local radio audiences on Thursday his country was interested in obtaining a guarantee from international financial institutions for its US$130 billion of foreign debt.

  Anybody want to step up to the plate? Blejer said a guarantee on part of the country's debt would help Argentina because "debt would cost less." Of course it would. Adding a guarantee from creditworthy institutions would certainly lower the yield on Argentine bonds.

  But what about the cost of such a guarantee? For reference, dealers in New York yesterday were quoting 27 percent per annum for 5 years of default protection on Argentine bonds.

  Counting the cost of the guarantee, there may be little or no savings to Argentina from this little piece of financial engineering.

  Perhaps the worthy vice president thinks financial institutions will line up to give Argentina the guarantee for free.
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