Keith Rankin: El Argentino
Keith Rankin, 3 January 2002
The economic, political and social crisis in Argentina is a wake-up call to the whole world. It's the visible head of a pimple that should eventually prove to be larger than that of September 11.
Here I will focus on the economic aspect of the story. But it should be noted that Argentina's social and political crisis are consequences of its economic predicament. And that deep social divisions make economic dis-ease of this sort more likely, and extremely difficult to heal.
Argentina is in a depression. The crisis, which came to a head last month, began 4 years ago as a recession that wouldn't go away.
Poverty and extreme inequality exist where there should be plenty. With its human and land resources, Argentina is capable of being at least as prosperous as New Zealand and Australia. But most of its consumers are unable to - or afraid to - spend. Consumer confidence is at an extreme low. Partly because of that, business confidence is also at subterranean levels. Firms will not commit resources to making things if they do not believe they have customers.
As firms lay off workers, unemployment aggravates the spending crisis. Economists would say that the "expenditure multiplier" has gone into reverse. Others might call it a meltdown.
We learnt how to deal with national depressions in the 1930s. Governments have to spend more to compensate for the reduced spending by households and firms. (This is the "Keynesian" solution, named after the most important economist of the 20th century.) But the Argentine socio/political establishment have been reluctant to support an addition to the government's debt. Instead, the government vigorously pursued a policy of "retrenchment" and "deflation" - the policy that plunged New Zealand, Germany and many other countries into deep depression in 1932.
The Argentine deflationists have been discredited and dismissed, leaving a dangerous political vacuum. In the first 2 months of 1933, there were comparable political dismissals in both New Zealand and Germany. Hopefully the Argentine vacuum will be filled by a pragmatist with a feel for the plight of the ordinary bloke and blokess (as was the case in New Zealand in January 1933 when Gordon Coates took the initiative following the resignation as Finance Minister of the hapless William Downie Stewart.)
With the sharp decline in economic activity in Argentina, government revenues have fallen markedly despite rising tax rates. Retrenchment means a radical cutting back of government spending in order to keep the annual budget in balance. (In New Zealand in 1932, this meant, among other things, closing Teachers Colleges and eliminating student bursaries.) With retrenchment, the government aggravates the spending crisis.
Deflation, as a policy, means an attempt to force a market-led reduction in firms' costs and consumer prices sufficient to restore consumer and business confidence. In practice, such across-the-board price cuts don't happen. Economists have often noted that prices are "sticky" downwards, with wages being particularly sticky. Firms will only cut prices below their current costs if they can be persuaded that their future costs will fall to match. Workers only agree to wage cuts if they can be assured that their expenses will be cut by as much.
Even if wages and prices do fall together, there is an insurmountable problem with the deflation policy. It can only work if debts and debt servicing costs also fall to match. While debt write-downs may be able to be negotiated to some extent, the market will not drive down costs that were incurred in the past.
There are other limits to negotiated debt and interest write-downs. Nominal interest rates cannot fall below zero. And foreign creditors cannot be required by the Argentine government to reduce their claims on their Argentine debtors.
The Keynesian policy of increased government spending is the only one known to end a depression. But that policy is difficult to implement in a country like Argentina, in which a significant component of the problem is international rather than domestic. Because of its grossly overvalued currency (the peso is fixed to the $US), just about the only goods that Argentines can afford to buy are imports. But Argentina, as a country, cannot afford to buy imports. As an exporter, it can no longer compete with New Zealand, Australia, Uruguay and Brazil.
The only ways Argentina can support an overvalued currency are to pursue a policy of deflation, as outlined above, or to introduce import restrictions.
The most obvious alternative for Argentina is to both increase government spending and to devalue or float the peso. But the problem here is that foreign currency markets are often "irrational". In a rational market, if something (eg the peso) is underpriced, then there will be queues of buyers and few willing sellers. But in currency markets, a currency that has just fallen creates an expectation that it will continue to fall. So there are few buyers and many sellers, even when it is underpriced. The result can be hyperinflation, experienced in Argentina as recently as 1989.
The memory of hyperinflation makes it all that much harder for politicians to choose an option with a perceived inflation risk. This is why the political crisis in Germany in 1933 was so much less successfully resolved than was the crisis in New Zealand. Germany had had inflation at over a billion percent per annum in 1923.
From 1933-36, Britain, with no memory of hyperinflation, got out of its depression through a combination of increased domestic spending (facilitated by unemployment benefits) and the introduction of import controls (for the first time since 1846). Ironically, because consumer confidence had returned, British imports increased following the introduction of import controls. New Zealand's recovery followed as British consumers spent more.
Britain's experience in 1933 remains the most successful historical precedent for Argentina to follow. However, to the international financial community, fiscal "irresponsibility" and import controls are both absolute no- no's.
There is an alternative to the Keynesian solution, and Argentina has already gone part-way to implementing it. It is to create a new currency; a new kind of money. For the plan to work, the currency should operate like a huge "green-dollar exchange". Every Argentine would be a member.
A currency is a kind of public property, which everyone owns equally. In order to both plug the spending gap and the inequality gap, the new currency - the Argentino - will work best if granted on an equal basis to every Argentine. Enough of the currency would have to be created to restore spending and henceforth business confidence. Taxes levied on transactions conducted in Argentinos would be paid in Argentinos. The government would be obliged to spend its Argentino revenues in Argentina.
Green dollar schemes have a natural life. A well-managed Argentino will become superfluous once economic health is restored. Then and only then, the peso should be floated.
The big fear is that prices expressed in the new currency will increase rapidly. That will only happen if business confidence is not restored. Argentino hyperinflation is more probable if the issue of Argentinos is too small to encourage most businesses to rehire workers and supply goods and services to the local people. Having said that, a small amount of Argentino inflation is desirable. The currency will only achieve its aims if people spend it rather than hoard it. People never hoard money that is losing its purchasing value.
The basic lesson is that, in any economic crisis, the solution has to be found at a more localised (ie devolved) level than the problem. I call this the "devolution principle".
Argentina's crisis is in large part a crisis of globalisation. A solution that temporarily disengages Argentina (and any other affected nation) from the global maelstrom is required. Likewise, a national crisis that is out of control can always be solved at the provincial level (especially in a federal republic), provided that national politicians do not veto provincial initiatives. And a provincial economic crisis can be solved at the level of local communities; eg through local currency initiatives such as green dollar exchanges.
The devolution principle suggests to us that the adoption of temporary non- convertible forms of money will be the most promising way of dealing with economic depression in the 21st century.
The Argentine crisis is the first of many "teething troubles" that will follow from the current phase of globalisation. It will be prolonged on account of the resistance of global interests to national and local solutions.