The government is taking the right steps to achieve its most immediate objectives, fiscal balance and lifting the stocks, but what can really happen?
During the final stage of the 2011-2015 stocks, the now president Javier Milei was the author of several writings where he proposed certain solutions to the imbalances that the Argentine economy has been dragging on for several decades. In this report we review whether the government is acting in accordance with its way of thinking, and we infer what it could do from now on following the guidelines of the expressions expressed in the documents under analysis .
First of all, it is proposed to dismantle the exchange rate to grow again.
To carry out a mandate successfully, after 12 years of stagnation in income and formal employment, returning to growth must be a priority objective for any government that wants to improve the living standards of the population. To achieve this objective, it is imperative to lower inflation to international levels and the most suitable tool is monetary policy.
What was proposed in this regard?
“Given the negative effects that the CEPO has on the functioning of the economic system, its immediate elimination is extremely important. However, the liberation of the foreign currency market with a large surplus of pesos and meager reserves, where the price of assets (dollars for the financial market) adjusts instantly and that of slow goods (commercial dollars), make disarmament betting on “the good vibes of the market” is very dangerous. To this end, it is key that prior to lifting the CEPO, the surplus pesos be absorbed through the placement of a title in foreign currency (freely subscribed in local currency) simultaneously with the implementation of a monetary reform.”
What was done about it?
Under the premise that inflation is always a monetary phenomenon, President Javier Milei proposes to combat the scourge of inflation with an unprecedented policy for the economy. From a historical point of view, the libertarian proposes a monetary adjustment with little precedent in local economic policy.
As is known, the Milei government ignores the Keynesian argument that proposes other causes of inflation, such as costs and structural inflation, and discourages the use of mechanisms with little success in Argentine economic policy, such as price controls. . In reality, according to the president, inflation is explained by an amount of money greater than its demand, and the maneuver to combat this scourge is to directly attack the excess.
Given that the BCRA inherited a stock of negative net reserves of around USD 12 billion, to meet the objective of eliminating the stocks, at this stage the need prevails to accumulate International Reserves by purchasing USD from private parties in exchange for pesos, while schedule import payments to match them with the greater supply of USD that agriculture brings from April onwards.
This purchase of foreign currency by the monetary authority creates pesos, together with the payment of interest on its remunerated liabilities. In these 3 months of government, the financing of the treasury deficit has been erased from the reasons for issuing pesos. However, these new pesos are sterilized through the issuance of Bopreal (an idea that the market attributes to Caputo, but President Milei already had previously), new remunerated liabilities (at negative real rates) and operations with the Treasury, where the net buybacks that the BCRA carries out on sovereign securities, destroying pesos from the system.
What can we expect going forward?
The government aims to eliminate the stocks once the following conditions are verified:
- Recomposition of Reserves via purchases and/or new financing from the IMF. For USD purchases in the market, seasonality and the improvement in the trade balance play in favor. For a new agreement with the IMF it is essential to show a balanced fiscal result, a goal that the president tries to carry out with firm determination. For the moment, from a quantitative point of view the result is satisfactory, although due to lack of support in Congress the adjustment of accounts does not yet seem sustainable from a qualitative point of view (high percentage of spending cuts based on a liquefaction of pensions and public salaries).
- Disappearance of surplus pesos and stabilization of demand.
- Non-existence of remaining demand for Bopreal, an expression of a reduced preference of peso holders to dollarize portfolios.
- Fall in expectations of devaluation and inflation due to a smaller exchange rate gap.
The above aims to leave the holder of pesos without ammunition and without apparent appetite to attack the BCRA once the exchange market is freed and the price of the foreign currency, which will be the product of free supply and demand, becomes very similar. more to the official than to the financial one and minimize the exchange rate jump.
Secondly, a refoundation of the BCRA that eliminates discretion, in favor of a rule that sets the amount of money supply in the economy.
What was proposed in this regard?
“The reform begins with a new Organic Charter for the BCRA establishing the sole objective of maintaining low and stable inflation. In this way, discretion is eliminated by institutionalizing a monetary policy that must always be conducted based on a rule. Thus, in the short term, the rule establishes a nominal anchor to prevent politicians from exploiting the short-term “trade-off” between inflation and unemployment, which nullifies the temporary “money overhang.” Said nominal anchor, established independently by the BCRA, is a rule that fixes the growth of M1 (instrument) and prevents the generation of surplus pesos (future inflation).”
Ignacio Petunchi
What was done about it?
According to Friedman, inflation is always due to an increase in the amount of money, based on the Quantitative Theory of Money. Understanding of the relationships between money, prices, and production is limited, making the discretionary changes proposed by Keynesians cause more harm than good. Therefore, they advocate an automatic “rule” that maintains the growth of the quantity of money at a constant rate, providing a stable monetary framework for economic growth. This involves expanding the money supply according to a predefined rule.
During the current mandate, although a formal rule was not announced, we can see a BCRA policy tending to maintain the Monetary Base in nominal terms, which results in a strong decrease in real terms (the form of implementation of this policy was detailed higher).
What can we expect going forward?
The document says, “…there is a very deep causal relationship between M1 (circulation held by the public plus demand deposits) and nominal GDP (existence of cointegration), which is why the specialized literature on the subject would be suggesting that “Monetary policy, until the inflation rate is reduced and inflation expectations are anchored, should be designed based on quantitative targets on M1.”
If public confidence in the path of economic policy is restored, the president must be evaluating that the fall in the demand for money measured by this aggregate, M1 is today equivalent to 4.4% of GDP, is coming to an end . According to his own calculations, the long-term level tended to be 3.8% of GDP and it is worth mentioning that in the hyper this relationship bottomed out at 3.5%. Therefore, the surplus of pesos is no longer as high as when he took office.
We could expect then, that after this initial period whose objective is to avoid hyperinflation and align relative prices, the imposition of a nominal anchor that controls the amount of money, once the downward path of inflation expectations is consolidated ( gap reduction) and the exchange stocks have been opened.
Before refounding the Organic Charter and therefore the BCRA (which would be consistent with the idea of closing it), the president expressed the intention of installing a rule that punishes officials who are involved in the decision to issue money to finance the treasury. . This instrument, as mentioned in the analyzed document, mostly covers the conditions of
“i) efficient (minimize the volatility of M1);
ii) simple (easy to understand);
iii) precise (there is no doubt that it follows or not);
iv) transparent (it must be announced so that the public knows it and incorporates it into their expectations);
v) robust (valid for any model) and must have
vi) audit mechanisms.”
Conclusions: what is going to happen to the dollar?
We believe that the government is taking the right steps to achieve its most immediate objectives, fiscal balance and lifting the stocks. No one seems more convinced of this course than Milei himself, even if he has to give in exchange in this first stage a part of the popular support for him, caused by the drop in the income and short-term well-being of the population.
To the extent that the achievements of these first 3 months are consolidated, we could be on the official roadmap of a liberation change towards a flexible exchange rate at an initial real level similar to the current one, without an exchange rate jump or acceleration of the monthly slide. From that moment on, the BCRA will formalize a rule for the amount of money and the current interest rate will already be positive in real terms due to the decrease in inflation, supporting the increase in the demand for money, which will further alleviate the already decreasing burden. of remunerated liabilities of the BCRA in terms of GDP.
Regarding measures that target more structural problems of the economy, the bet seems to be to propose them to legislators and society as a whole once the initial success of defeating inflation and freeing the economy to get it going makes it more difficult. the opposition to deny the changes that the president considers necessary.
Faced with this panorama, the big question is the sustainability of the plan until society clearly perceives the benign effects of the program on activity, income and the inflation rate. In favor of this point, the frank communication of the president in office during his electoral campaign plays, aligning expectations with this reality.
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