Close to Default, Argentina Braces Itself for Historic Recession

RIO DE JANEIRO, BRAZIL – Even without the coronavirus pandemic, Argentina’s economy would not have had an easy year.

Argentinians were heading toward their third recession year and were facing galloping inflation, fiscal crisis, and a lack of access to the international credit market, when they were forced to confront the challenge of Covid-19. Now, the country is heading for the worst economic moment of the past 20 years.

Yesterday, Argentina announced that its Gross Domestic Product (GDP) dropped 5.4 percent in the first three months of 2020, a period that already incorporates the impact of reduced global demand, but was little affected by the quarantine that began on March 20th.

“The few days of isolation have caused great damage, but before that, the country was already slipping, with GDP dropping two percent by February,” says Arthur Mota, economist at EXAME Research.

The Fernández government had a swift and strong response to the spread of Covid-19, which was initially successful and boosted his approval rate. But the number of cases has increased significantly in recent weeks and there are now 47,216 confirmed cases and over 1,000 deaths, which has led to a tightening of quarantine rules.

The impact of the epidemic in the country remains low when compared to neighboring countries such as Chile and Peru, and is a fraction of Brazil’s figures, the second-largest epicenter of the epidemic in the world.

“Today we expect a nine percent drop in GDP in 2020, but it could be as much as double digits if the quarantine extends beyond the end of June,” Mota says.

In April, considered rock bottom with the strict isolation measures, the deterioration deepened. The industry’s annual export drop was above 58 percent, according to the Argentine Industrial Union.

Main obstacle

In addition to a gloomy economic scenario for the coming months, Argentina has to deal with the immediate challenge of avoiding a default.

The country has deferred several times the payment of its principal debt to international creditors: US$65 billion (R$325 billion). In theory, because it failed to honor its obligations in May, it could now be considered in technical default, but as creditors have not appealed to the courts for relief, nothing has happened. The new deadline for negotiation expires on July 24th.

In April, in need of resources to tackle the pandemic, President Alberto Fernández decided to suspend the payment of US$10 billion of another debt until the end of the year. The decision did not involve the largest obligation to international creditors, but was sufficient for the country’s long-term credit rating to be downgraded by Fitch to just one step above default.

With extremely low reserves and no access to international markets, Argentina needs to address this debt. This policy’s impacts are seen on a daily basis, with inflation that closed last year at over 50 percent and is expected to end this year at around 40 percent, despite the fact that the crisis has reduced purchasing power and consumer confidence.

“The inflationary phenomenon also has this fiscal aspect, given that, with less access to the markets, Central Bank loans are an important source of financing for the Treasury – even more so in this pandemic scenario,” says Mota.

The inflation indicator, which has been at high levels for some years, went out of control during Mauricio Macri’s right-wing government, forcing him, ultimately, to impose price controls, contrary to his liberal approach.

The price freeze was maintained by the current left-wing government in the energy, gasoline and transport sectors until October. In the country, international investors are also subject to strict capital controls implemented in September 2019.

Meanwhile, the government is trying to prevent capital flight, and companies are finding it difficult to pay bonds abroad. The country’s central bank said it intends to relax exchange restrictions as of June 30th if an agreement with creditors is reached.

The ghost of nationalization

Another destabilizing factor was the Argentine government’s decree on May 9th to intervene in the Vicentín grain producer for 60 days, with the declared goal of avoiding bankruptcy, but with the perspective of a definitive nationalization bill.

The move sparked protests last weekend, was considered unconstitutional by the opposition, alarmed local agricultural leaders and evoked the government of former President and current Vice President Cristina Kirchner, rekindling the fear of a more interventionist state policy hostile to the market.

Under pressure, Fernández retreated and said that he would follow the rescue plan, but without nationalizing the company. However, he warned that if the intervention model fails, he will consider the company’s expropriation again.

“Agribusiness is very important for the country. That’s why the market fears the Argentine government’s potential to succumb to the temptation of controlling a company that controls a significant portion of the segment’s business,” says Alberto Ramos, an economist specialized in Latin America at Goldman Sachs.

Goodbye, Argentina

The shutdown of LATAM Airlines Argentina’s operations for an indefinite period was yet another blow. Remaining in the country was hindered by the impacts of the pandemic, the company said in a statement, and by “the difficulty in building structural agreements with local industry players”.

Argentina was the only subsidiary of the airline group to close operations. The aggravating factor was a labor negotiation without an agreement that led to the dismissal of 1,700 employees. The impact of Latam’s closing may lead to more expensive air fares for Argentinians, as it favors one of its few competitors, Aerolíneas Argentinas, which is state-owned.

A major trading partner for Argentina, Brazil has accounted for nearly 25 percent of the country’s total importations in the past decade and nearly 20 percent last year, Mota says. “The Brazilian sector that continues to suffer most from the Argentine crisis is the automotive sector, which has a very important chain both in the past, with the whole supply industry, and in the future, with the whole service chain,” he says.

Source: Exame