With one stroke of the pen, Argentine President Eduardo Duhalde has gutted the savings of the middle class, ordering all dollar-denominated bank accounts converted into pesos. At current exchange rates, depositors saw about 25 percent of their funds go up in smoke.
That may steeply underestimate the ultimate loss, which depends on where the peso heads in future. If the peso were to strengthen -- don't laugh because when you follow foreign exchange for long enough you see every possible thing happen -- depositors could come out ahead of the game. My instinct tells me that is highly unlikely.
Of course, none of this means anything if the bank where your deposits are held goes bust. In that case, you lose the whole shooting match.
It is generally supposed, though not known for sure, that deposits will be converted at the official rate of 1.4 pesos to the dollar, a rate the government obtained by undisclosed methods.
Actually, I think they just pulled it out of the air.
But for now, 1.4 is some kind of sacred cow. You can bet that if the peso ever got back to 1.4 Duhalde would declare victory over the speculators. Note that 1.4 is effectively a 30 percent devaluation for a currency that was held at par with the US dollar for more than a decade.
The peso is now trading on the free market at 1.85 to the dollar, which equates to a 46 percent depreciation. Yet, since the financial system is effectively paralyzed, nobody really knows where the peso is relative to the dollar.
In reality, Duhalde didn't have any choice other than to convert the dollar deposits. At the start of his nascent presidency, he made the decision to convert a large portion of loans, the main assets of banks, from dollars to pesos.
That left the banks owning pesos (their loans) and owing dollars (their deposits). In a word, the banks instantaneously became bankrupt. Moody's Investors Service originally estimated the devaluation would cost the banks US$54 billion.
Duhalde's latest move shifts some of the burden onto depositors, contrary to practically every promise he made when he took office. Moody's now says the banks lost only US$16 billion in the peso crisis.
Is there a difference between US$54 billion and US$16 billion? Numerically the difference is US$38 billion, but in emerging market nations, it may be meaningless. Either way, the banks may be so shot full of holes that they are bust. Keep in mind that the US$16 billion is only the loss from devaluation. Who knows the extent of damage from bad loans? Now we can sit back and wait for the other shoe to drop. To borrow a phrase, Argentina is at the near occasion of hyperinflation. By that I mean the temptation to print money is knocking at Duhalde's door.
He acknowledged this when he promised not to print money "irresponsibly." So he plans to print just a little bit here and there to make ends meet? Given the intractability of Duhalde's economic problems and his abandonment of the fixed exchange-rate system, I would be very surprised if massive inflation were not just around the corner.
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