Argentina: The Dark Side of Financial Globalization

During the 1990s, as the trend toward financial globalization reached reached a frenzy, foreign investors poured capital into Argentina, treating it to an unprecedented economic boom. That all came to an end when the Argentinian economy effectively collapsed in 2001. This collapse has been blamed variously on out-of-control government spending, government corruption, poor policy and decision-making on the part of the IMF, and the foolishness of foreigners who impetuously invested in a nascent economic power, whose financial and political past was checkered, to say the least. The disastrous aftermath of 2001 led many to dismiss Argentina as a case of financial globalization gone crazy. However, in the mid 2000s, Argentina embarked on a campaign of debt restructuring, managing to pay its debt to the IMF in its entirety and experiencing 8% annual growth. Although conditions in Argentina have stabilized and appear, at least at the moment, to be on the upswing, many investors worry that Argentina will fall prey to a repeated cycle of fiscal crisis and temporary recovery as a result of incurable governmental fiscal irresponsibility. The future of globalization in Argentina will depend largely on whether and how it weathers the current global economic downturn, as well as on its ability to meet certain financial challenges, such as the slew of investor lawsuits pending against it as a result of the 2001 collapse.

As a nation rich in natural resources with a well-developed agricultural sector, Argentina seems to have the makings of an economic powerhouse, especially as an exporter of agricultural products. However, the history of Argentina's economy is an uneven and tumultuous one. The 1980s were a period of escalating economic crisis and social dislocation for this Latin American country. Between 1981 and 1982, Argentina's GDP plummeted a stunning 12%, its worst decline in over 50 years. As the decade wore on, Argentina's public debt increased sharply, and inflation skyrocketed, approaching an astounding rate of 5000% in 1989. Meanwhile, the median salary had fallen about 50% from its most recent high in 1974. The economic turmoil was accompanied by political unrest, as the 1980s bore witness to Argentina's failed invasion of the Falkland Islands and a shift from a military dictatorship to a democratically elected government. By May 1989, conditions, both social and economic, had deteriorated to such a drastic point that Argentinian citizens took to the streets, resorting to rioting and looting. By this time, foreign investors had long since fled, and it seemed the prevailing economic climate was too risky for Argentina to achieve substantial integration into the global economy.

However, the Argentine economy rebounded remarkably in the 1990s, due in part to repeated infusion of IMF funds and a policy of pegging the Argentinian peso to the United States dollar. The currency peg, in particular, was intended to attract foreign capital and lower the price of imported goods and control inflation. Foreign investors rushed back into Argentina with a vengeance. Argentina expressed its interest in becoming a global player by signing onto numerous international economic agreements, including bilateral investment agreements (BITs) with more than fifty developed nations, including the United States and Great Britain, and becoming a party to the ICSID Convention, which created the International Center for Settlement of Investment Disputes, which allowed for arbitration of disputes between foreign investors and state governments. Even after the collapse of 2001, Argentina has continued to sign onto BITs, albeit with its developing Latin American neighbors, such as Venezuela, Bolivia, and Ecuador.

But even as the economy seemed to flourish, Argentina's government was engaging in a series of questionable policies and decisions that ultimately led to the fiscal collapse of December 2001. The currency peg which lowered prices on imports also hampered the sales and productivity of domestic merchants and manufacturers. The Argentinian government also privatized the utility companies. The most disturbing indicia of Argentina's flagging financial health was the failure of the repeated influx of IMF loans to keep pace with Argentina's rapidly growing deficits. In essence, the IMF enabled Argentina's fiscal irresponsibility by continuing to provide funds without imposing meaningful conditions.

In early 1998, Argentina's government entered a recession characterized by deflationary spirals, high unemployment, and burgeoning poverty. Unemployment rose to 25 percent and approximately half of Argentina's citizens were officially living below the poverty line. By October 2002, the poverty rate had risen to almost 60 percent. As recently as 2004, nearly half the Argentinian populace was living in impoverished conditions.

When the bottom fell out of the Argentinian economy, it did so spectacularly. The final collapse was precipitated by the flight of foreign investors who withdrew more than three and a half billion dollars from Argentina in two days in November 2001. From 2000 to 2001, GDP fell more than ten percent. Argentina's public debt had risen to unmanageable levels, as a result of uncontrolled government spending. Despite this fiscal irresponsibility, the IMF continued to loan funds to Argentina, each time imposing the condition of economic reform and each time excusing the government's failure to meet the stated targets. Finally, in December 2001, the government defaulted on approximately $141 billion in sovereign debt. Argentina's output fell more than 20 percent between 2001 and 2004 and the currency fell to 4 pesos to the dollar. High U.S. tariffs caused Argentina further pain.

Poverty in Argentina has been severe and intractable, and there is marked inequality in the distribution of wealth. In 2002, per capita GDP fell from its 1998 peak of US$8210 to US$2695. In December 2003, ten percent of Argentina's population held nearly 40% of the country's GDP. In 2005, twenty percent of Argentina's population held more than half of the country's total economic resources. Poverty levels rose 50% in the aftermath of the 2001 collapse, creating social unrest that recalled Argentina of the late 1980s. By early January 2002, Argentina had run through five different presidents in a matter of three weeks.

However, the outlook for Argentina has turned positive in the last three to four years. In 2005, Argentina restructured a large part of its debt. More than three-quarters of Argentina's creditors agreed to reduce their debts by 70 percent by using market discount rates. Public debt now stands at 51.5 percent of GDP, compared to its peak of 143.5 percent in 2002. Manufacturing has grown by over 60% since 2002. Unemployment has fallen below five percent. Argentina's Central Bank, which was responsible for pegging the peso to the dollar, has accumulated a healthy excess reserve fund of almost US$50 billion.

These signs of health may signal that it is time for foreign investors to rediscover Argentina and that Argentina has reached a level of stability to become a full-fledged global player and a model for its Latin American neighbor. However, as the international community has been shaken by recent economic crises in the United States and Europe, so has faith in Argentina's ability to escape its own cyclical economic and political upheavals.

While some point to lowered debt, rising GDP, and healthy central bank reserves as evidence that rumors of Argentina's imminent relapse are exaggerated, confidence in Argentina, both among foreign investors and Argentinians themselves is somewhat shaky. There is still uncertainty over how Argentina will handle, and pay for, the raft of investor suits stemming from the 2001 economic collapse that remain pending at the ICSID. Argentina is a party to Mercosur, a regional trade agreement among Argentina and a number of other emerging Latin American countries, which is intended in part to promote free trade. However, some in Argentina's manufacturing sector, loath to compete with foreign imports as they did during the days of the currency peg, have been pressuring the government to limit some of the free trade provisions of Mercosur, signaling that Argentina might not remain as open to free-flowing import-export relationships as it needs to in order to become fully integrated into the global economy.

Meanwhile, a growing number of Argentinians, remembering the bank closures of 2001, are holding on to their cash and hiding it under the proverbial mattress. Stung in 2001 by the near worthlessness of the peso, these Argentinians are converting their stash of cash into U.S. dollars, distressing evidence of a lack of confidence in their own currency. Even if the fears of Argentinian cash-hoarders are overblown, there is some cause to be concerned that the escalating rate of bank withdrawals could instigate a run on Argentina's banking system, which could have disastrous results. Ultimately, the cash-hoarders could end up contributing to the very economic slowdown that they seek to protect themselves from by keeping their money out of general circulation. In this way, consumer confidence, as much as real numbers, could bring on a much-feared economic downturn in Argentina: in October 2008, car sales fell by 30 percent in the space of one week. In addition, there is some evidence that the current Argentinian government under the stewardship of Cristina Fernandez de Kirchner has fudged the numbers regarding the health of the economy, including data on inflation. Recently Kirchner unsuccessfully attempted to raise taxes on farmers and more recently, she has proposed nationalizing nearly $26 billion worth of private pension funds. These maneuvers have raised suspicion among international investors that the government needs capital foresees itself being caught short on cash should the credit crunch and global downturn bear down as hard on Argentina as they have on other parts of the world. Indeed, foreign investors withdrew more than $16 billion from Argentina between January and September 2008, a rate comparable to the flight of capital in 2001. Meanwhile American holders of some of Argentina's defaulted debt have asked U.S. courts to freeze some of the private pension funds that Kirchner seeks to nationalize.

These recent signs of economic trouble, however, may simply be part and parcel of the economic fears that have gripped the entire globe, including well-established and integrated global economies like the United States and Japan. It is not to be expected that Argentina would be immune to the same forces that are roiling markets and financial systems across the world. Argentina's greatest test may come in the immediate future as it braces itself for the coming global economic crisis. If Argentina's economy emerges from the crisis, battered but unscathed, then it will have proved itself as a true global player, sturdy enough to withstand the sometimes harsh cycles of the international economy.