Transcript Document

Argentina's Convertibility
Plan- The fight for Stability
Kristina Spacone
Matthew Peabody
Heather Edelstein
Lino Covarrubias
7/22/2015
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Topics of Discussion
Brief history of Argentine economy
 Overview of different plans
 Define convertibility plan
 Macro-economic effects
 Long-run consequences

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Inflation Big 3 (80-90s)
3000
Big 3- Inflation
2500
%Price Growth C.P.
2000
Argentina
Mexico
1500
Brazil
1000
500
0
82
83
84
85
86
87
88
89
90
91
92
93
94
95
96
Year
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Austral/Cruzado
Convertibility
Real
3
Big 3- Growth (1940-1989)
Big Three % Gwth 1940-1989
7
6
5
%Gwth of GDP/capita
4
3
Argentina
2
Mexico
Brazil
1
0
1941-49
1050-59
1060-69
1970-79
1980-89
-1
-2
-3
Years
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CA Deficit Big 3- (1940-1989)
CA Deficit % GDP FOR BIG THREE
0
YEAR
1982
1983
1984
1985
1986
1987
1988
1989
-2
-4
CA Deficit % GDP
-6
-8
Argentina
-10
Mexico
Brazil
-12
-14
-16
-18
-20
Year
Mex Pacto- 1987
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Argentina Pre-Convertibility
A rg e n tin e In fla tio n 1 9 7 0 -1 9 9 7
C .P ./a n n u m
A v g % g ro w th
Convertibility
3000
2500
2000
1500
1000
500
0
1970
% P rice G ro w th
1980
Ye a r
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1990
1985- Austral
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Argentine Growth (1940-1989)
ARGENTINE GRWTH 1940-1989
4
3
2.8
2.3
%GWTH GDP/CAPITA
2
1.3
1
0.8
%GWTH GDP/CAPITA
Series2
0
1941-49
1050-59
1060-69
1970-79
1980-89
-1
AUSTRAL PLAN
(1985)
-2
-2.3
-3
YEARS
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Austral Plan- (1985)
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1.{The Heterodox attempt to Stabilize} Mechanism to
adjust for inflation by the utilization of three elements:

i. By freezing wages,
Exchange rate.
prices, and pegging the
• 1. 40 Inspectors roamed to ensure price compliance
• 2. Public confidence was the real watch dog.
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ii. Introduction of New currency and policy to Stabilize
money Supply (i.e. kill the old “maquinita”).
iii. Fiscal adjustment- taxation, government spending.
Financing of debt with resources rather than with
printing of money.
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Austral Plan (1985) Con’t
year proved successful with Austral Plan
 i.Inflation reduced 30%/month to 3%/month.

However, caused decline in output. 
The plan was not a long-term fix.
 i.Exchange rate Overvalued
When price freeze was lifted, prices again took
off in 1987.
 1st
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Why didn’t Austral WORK?

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Wages, government revenues decreased and the
corresponding CA deficit increased.
By 1989, per capita output was the lowest in 15 yrs. Per
capita GDP was 10 percent lower than in 19801 
Gov’t weak and unable to collect taxes- Tax Revenue
Interest rates back up to 150%/month
CA deficit was 7.6 percent of GDP1
Political unrest: President Raul Alfonsin to transfered
power to newly elected president Carlos Menem five
months before the normal time.
After election of 1989, Austral was devalued but the
damage had been done- People had no confidence in the
Austral.
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Convertibility Plan- 1991
•
•
•
Crafted by Covallo
One for one peg between the Peso
and the dollar
Gov’t agreed to issue no new pesos
unless the money was backed 100%
by dollar reserves in the cental bank
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Impact of Convertibility
Plan
•
•
•
Maintained pesos value
End of Hyperinflation
1991-1994- GDP was growing 8%
annually
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What made it a success?
Structural Changes
 Entrepreneurship
 Privatization
 Fiscal discipline

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Implications
•
•
Periods of Instability (Brazilian,
Mexican and Asian crises)
Exchange rate risk
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Balance of Payments
Current Account +
Financial Account +
Reserves =
ZERO
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Argentine Monetary Policy
Reliance on international support
 No control over money supply
 Government financing
 Interest rates
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History

What is Dollarization


?
A foreign currency that displaces the domestic currency. (In the case
of Argentina the U.S. dollar replacing the Peso)
OFFICIAL vs. UNOFFICIAL Dollarization

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UNOFFICIAL: Asset holdings converted to US $ to protect from
domestic currency volatility.
OFFICIAL: U.S. Dollar becomes the countries currency.
• Panama: (1904) Only Latin American Country in category
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Advantages to Dollarization
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PROS-for Argentina
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Fit for Dollarization-history of
Hyperinflation
Lower inflation since U.S.
monetary policy is imported
Increase in growth because of
absence of devaluation risk.
Should spur in local savings,
lower interest rates, and increase
FDI
Less perceived volatility
especially capital outflows- Mex.
Peso Crisis
Budget constraint- Gov’t Wouldn’t
be able to run “la maquinita” thus
would have to adjust via internal
programs.
Shared seigniorage
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PROS-for the United States

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Increased seigniorage
Elimination of currency
conversion fees for tourists and
businesses
Demand for U.S. goods
Maintain position as the premier
international currency
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A Quick Lesson In Seigniorage
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Dollarized country’s share of net seigniorage

=total average monetary base over the period (circulation + reserves)

X average interest rate on 90-day T-bill during the period

- net cost of operation the Federal Reserve
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X dollarized countries share of total monetary base
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X proportion of seigniorage revenue that the United States pays
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ARGENTINA’S SHARE OF THE SEIGNORAGE-estimations but close to actual values.
=$16 billion / $566 billion
($550 base+ars 16mm) = 2.8%
Suppose average rate on T-bills is 5% and net cost of operating the Reserve is $1 billion
Average monetary base is $580
=($580 billion X 5%)-$1 billion) x 2.8% X1
=($29 billion-$1 billion) X 2.8% X 1
$784 million
Clearly under a shared seigniorage system Argentina would be better
served than collecting interest payments.

$784mm vs. $750mm

In addition it is hard to put a dollar amount on the investor confidence
gained by extinguishing the risks of devaluation.
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Disadvantages to Dollariztion
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Cons-for Argentina
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Country gives up fiscal and
monetary control-surrender to the
FED
Loss of revenue (seigniorage)
Lose Lender of last resort
Popular Opinion
Representation at FOMC
Optimum Currency area?
MERCOSUR trading bloc
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Cons-for the U.S.
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Ease of conducting monetary
policy?
Interest rate pressure
Dumping of Dollars
Lack of prior knowledgefaces challenges of being a
pioneer. Panama offer the
only situation from which to
learn.
• Brazil
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Bilateral Exchange Rate
Bilateral Real Excange Rates
160
U.S
140
Bra zil
Ge rma ny
120
Ita ly
Ne the rla nds
100
Spa in
80
60
40
20
0
1996
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1997
1998
1999
Source: IIF estimates
2000
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Unit Labor Costs (ULC)

Unit Labor Costs
120
100
80
60
40
20
Brazil
U.S.
Germany
Italy
19
95
19
96
19
97
19
98
19
99
20
00
0
Argentina
Unit labor costs (ULC) are
defined as ULC=(W/E)/(Q/L)
where W is the total nominal
wages for the manufacturing
sector, E is the level of
manufacturing employment,
Q is an index of industrial
output, and L is employment
in the manufacturing sector.
Values converted to dollars.
Source:Ministry of Economy, Banco Central do Brazil, International Financial Statistics,
Datastream.
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What do the Pro’s think?
FOR

“Given the economic program Argentina designed for itself in the Convertibility Plan, dollarization
makes senses.” -Sheila Campbell
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“In Argentina, dollarization is feasible; and I would even say appropriate.”
-Nicolas Eyzaguirre, Executive Director IMF
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“I would say that the idea merits American blessings even if it can’t be official blessings.”
-Jeffrey A. Frankel
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“In the long term, finding ways of bribing people to dollarize, or at least give back the extra
currency that is earned when dollarization takes place, ought to be an international priority. For
the world as a whole the advantage of dollarization seems clear to me.” -Larry Summers 1992
AGAINST
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“Argentina will go on the dollar when the United States agrees to put Eva Peron on the dollar bill.”
–Argentine Cab Driver
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On the subject of dollarization: “A disastrous option.”
-Francisco Chico Lopez, President of the Central Bank of Brazil
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