Cablegate: Argentina Economic and Financial Review, November

DE RUEHBU #2251/01 3251949
P 211949Z NOV 07





E.O. 12958: N/A
1 - 16, 2007

1. (U) Provided below is Embassy Buenos Aires' Economic and
Financial Review covering the period November 1 - 16, 2007.
The unclassified email version of this report includes tables
and charts tracking Argentine economic developments. Contact
Econoff Chris Landberg at to be included
on the email distribution list. This document is sensitive
but unclassified. It should not be disseminated outside of
USG channels or in any public forum without the written
concurrence of the originator. It should not be posted on
the internet.


-- GoA raises $574 million financing at a cost two percentage
points higher than in May
-- Capital flight jumps in third quarter due to international
and domestic concerns
-- GoA buys back $500 million GoA debt from Social Security
-- Private peso deposits decline in October, complicating
BCRA efforts to reduce interest rates
-- First post-election CPI report disappoints; yet more
disturbances by INDEC employees
-- GoA raises export taxes to shore up fiscal balance and
reduce inflationary pressures


GoA raises $574 million financing at a cost two percentage
points higher than in May
1. (SBU) On November 14, the GoA issued $574 million of a
ten-year-maturity bond, the Bonar X (also known as the Bonar
2017) at a yield of 10.50%. This yield was 204 basis points
higher than the strike yield from the GoA's auction of $750
million in Bonar X on May 12. (The Bonar X is a dollar
denominated bond, with a 7% coupon, maturing in April 2017.)
Though the GoA was able to issue more than twice the minimum
amount announced ($250 million), the result was disappointing
(and costly) compared to the May issue. Bids totaled $670
million, compared to the $1.9 billion received in May. Only
10% of bids were from foreign investors (low compared to
other issuances over the last two years), with the majority
of bids coming from local pension funds forced to repatriate
funds due a recent change in local regulation (see October 26
Econ/Fin Report). Fortunately for the GoA, these
shortcomings went mostly unnoticed in the media, as the
auction occurred the same day that Chief of Cabinet Alberto
Fernandez announced the names of President-elect Cristina
Fernandez de Kirchner cabinet Ministers (she takes office
December 10).

2. (SBU) The timing of this auction raised concern and
speculation among local and foreign analysts. First, the
fact that the GoA would issue bonds during the current
difficult international financial environment indicates that
it is in a more desperate financial situation than the market
anticipated. Most analysts had expected that the GoA, to
avoid issuing high-yield debt, would instead tap public
entities such as the Central Bank (BCRA), the Social Security
Administration (Anses) or the Argentine IRS (AFIP) to meet
its financing needs for the rest of the year. (In the next
month, GoA faces debt payments for about $2.2 billion.) The
more optimistic view held by some analysts is that the GoA
made a sound financial decision in issuing longer-term debt
now as opposed to issuing short-term debt instruments to
public entities. The GoA will be able to blame out-going
Economy Minister Miguel Peirano for the high cost of this
issue and incoming Economy Minister Martin Lousteau is
positioned to look good by issuing cheaper debt after markets
settle. A November 19 Ambito Financiero article reported
that Minister Peirano may auction another tranche of the
Bonar X before he departs the ministry on December 10.

GoA buys back $500 million debt from Social Security

BUENOS AIR 00002251 002 OF 004

3. (SBU) The GoA bought back approximately $500 million of
debt issued under the 2005 debt exchange ("Canje") as
required by the debt restructuring prospectus. According to
the prospectus, the GoA has to repurchase restructured debt
(e.g. Pars, Discounts or Quasi-pars) when GDP growth exceeds
the base GDP growth level established in the prospectus. For
2007, private analysts estimated that the GoA would be forced
to repurchase bonds of about $400-500 million. However, the
GoA disappointed the market by apparently repurchasing the
bonds from Anses, (the Argentine Social Security
Administration), instead of purchasing bonds on the secondary
market, which would have increased demand (and prices) for
GoA debt. Anses has GoA bonds (mostly Quasi-pars) in its
portfolio as a result of the so-called pension
counter-reform, which allows workers in the private sector to
transfer back to the federal government's pay-as-you go
system (see February 2 Econ/Fin Report). Under the reform,
private pension funds (AFJPs) transfer the funds of those who
have chosen revert to the government system to Anses, and the
transfers reflect the composition of the AFJPs' portfolios
(which are only 5% cash and the rest in financial assets,
including stocks but mainly GoA bonds). Although the GoA has
not made the details of the purchase public, Embassy
government contacts confirm that the GoA completed the
repurchase by October 31 as required by the prospectus to
avoid a technical default, and also confirm that they
purchased Anses-held bonds.

Capital flight jumps in third quarter due to international
and domestic concerns
4. (SBU) Capital flows out of Argentina's financial system
(by the non-financial private sector) reached $4.4 billion in
the third quarter of 2007, according to the BCRA's quarterly
foreign exchange report, released on November 1 (one week
later than scheduled). This compares to inflows of $253
million in QIII 2006 and $771 million inflow in QII 2007.
Some analysts speculated that the BCRA's delay in releasing
the report was to avoid announcing the negative news of
capital outflows prior to the October 28 presidential
elections. In its report, the BCRA blamed the increase in
capital outflows on international financial turmoil, with
investors seeking lower-risk assets in a "flight to quality."
However, private analysts argue that domestic factors played
a role. These include the deterioration of fundamentals
(rapid increase in GoA expenditures, the surge in "true"
inflation, and the loss of credibility of GoA statistics),
along with the uncertainties surrounding the presidential
election. Third quarter capital outflows from the
non-financial private sector bring accumulated outflows for
the year to date to $2.8 billion. Nevertheless, many
analysts expect the outflows to decelerate or reverse if
Cristina Kirchner announces sound economic policy measures.

5. (SBU) According to the report, taking into account the
public sector (GoA and BCRA) and the financial and
non-financial private sector, net demand for foreign currency
in the third quarter reached $743 million. The private
financial sector supplied $542 million of the total demand.
In order to avoid an appreciation of the peso, the BCRA met
the remainder through the sale of $201 million in reserves
(which reduced BCRA reserves to $42.9 million at
end-September). (Comment: the BCRA's net sale of foreign
currency would normally contract the money supply, as the
BCRA absorbed pesos in return for dollars sold. However, the
BCRA more than compensated for its dollar sales by injecting
peso liquidity through repo transactions and repurchasing
Lebacs and Nobacs (BCRA financial instruments). Therefore,
by selling dollars and simultaneously injecting peso
liquidity, the BCRA attempted to avoid both a peso
depreciation and an increase in domestic interest rates.)

6. (SBU) Other highlights of the Foreign Exchange Balance
report include:
-- A surplus of $2.8 billion for the trade account of the
Foreign Exchange Market for the third quarter, accumulating a
surplus of $10.3 billion for the year (This is the net inflow

BUENOS AIR 00002251 003 OF 004

of FX from all trade transactions, including merchandise,
services, and investment income);
-- A deficit of $3.6 billion for the capital account in
QIII, generated by the $4.4 billion capital outflow from the
non-financial private sector and the $1.3 billion payments
(considered an "outflow") of the public sector (GoA and
BCRA), partially compensated by roughly $2 billion inflows
from the financial private sector. Year-to-date, the capital
accounts accumulated a deficit of 182 million.

7. (SBU) Note: the Foreign Exchange Balance (FEB) and the
Balance of Payments (BOP) report have a similar format.
However, the former reports purchase and sales of foreign
currency without considering the residency of the parties,
while the latter reports economic transactions focusing on
the residency of the intervening parties. Also, the FEB uses
a cash basis methodology, while the BOP uses accrual

Private peso deposits decline in October, complicating BCRA
efforts to reduce interest rates
8. (SBU) Political uncertainty coupled with rising inflation
and concerns about the stability of the Argentine peso, which
many analysts believe will depreciate further against the
dollar, help explain the ARP 1.9 billion fall in private
sector peso deposits (both sight and term accounts). (Peso
private sector deposits reached ARP 121.6 billion at the end
of October, down from ARP 123.5 in September.) Depositors
shifted much of these funds into dollar deposits, which
increased by $709 million (about ARP2.2 billion).

9. (SBU) This fall in private peso deposits does not
facilitate the GoA's various initiatives to put downward
pressure on interest rates (see October 26 Econ/Fin Report).
In fact, despite the BCRA efforts to inject liquidity to the
system, interest rates remain stubbornly high (from 2.5 to 4
percentage points higher than in mid-July). Meanwhile,
public sector deposits increased by ARP 1.4 billion during
October and currently stand at ARP51.4 billion. This
partially compensated for the fall in private sector


First post-election CPI report disappoints; yet more
disturbances by INDEC employees
10. (SBU) GoA statistical agency INDEC announced November 6
that the October CPI increased 0.7% m-o-m, in line with
market expectations for the announcement but only about half
of the level that analysts estimate for "true" or "actual"
inflation. The October report actually showed a decelerating
trend for prices (8.4% y-o-y compared to 8.6% in September),
despite most analysts' predictions that inflation is
accelerating. The INDEC report dashed hopes that the GoA
would attempt to restore INDEC's credibility following the
October 28 presidential elections by reporting a reading
closer to independent estimates of domestic inflation.
According to INDEC, accumulated inflation for the first ten
months of the year reached 6.6%, compared to the 12-13% rate
that most private consultants estimate. All nine sub-indexes
show increases, with the largest m-o-m increases being
transportation and communications (1.2%), health care (1%),
education (0.7%) and leisure (0.7%).

11. (SBU) The local controversy over INDEC's application of
"methodological innovations" to CPI numbers once again flared
up following November 2 media reports that thirteen INDEC
workers who had testified against Secretary of Internal Trade
Guillermo Moreno had been fired. Moreno is the GoA official
responsible for the government's system of price controls and
is also alleged to be the mastermind behind the manipulation
of INDEC data. The INDEC employees were testifying in a
judicial case regarding the alleged index manipulation.
INDEC subsequently issued a press release explaining that the
dismissed workers' contracts expired October 31 and INDEC

BUENOS AIR 00002251 004 OF 004

management had decided not to renew them. To limit the
uproar following the story, Chief of Cabinet Alberto
Fernandez and Economy Minister Miguel Peirano agreed with the
Civil Servant Association (Asociacion de Trabajadores del
Estado) to rehire the dismissed workers for one year. The
workers will now work for the Ministry of Economy, but will
no longer perform their previous duties of measuring the CPI
and the conducting the permanent household survey.


GoA raises export taxes to shore up fiscal balance and reduce
inflationary pressures
12. (SBU) AGRICULTURE: On November 7, the GoA announced
export tax increases on certain agricultural products, the
ostensible goal being to increase revenues and shore up the
primary fiscal surplus. The rate applied to soybeans went
from 27.5% to 35%; on corn, from 20% to 25%; on wheat, from
20% to 28%; on soy oil, from 24% to 32%; and on sunflower
oil, from 20% to 30%. Cabinet Chief Alberto Fernandez
justified the changes in the press on November 8:
"Agriculture producers should recognize that the GoA has
worked to get a reasonable price for fuels used as a
productive inputs, has worked to have a peso that allows them
to be competitive, and that all of these entail costs that
the whole Argentine society is paying for." Besides the
obvious benefit of increased tax revenue, the increased taxes
also limit the impact of high world commodity prices on
politically sensitive domestic food prices. Another
motivation for the increase is likely the GoA's interest in
taking advantage of the rally in commodity prices. For
example, soy prices reached a record of $400 per ton on
November 20, and have increased over 50% so far in 2007.
Private sector estimates for increased revenue from the
increases in agricultural export taxes vary depending on
estimates of commodity prices and average exchange rates in
2008, and range from $1 to 1.8 billion per year, or
approximately 0.5% to 0.9% of GDP.

13. (SBU) HYDROCARBONS: On November 15, the GoA announced
additional tax increases, this time for export taxes on
hydrocarbon exports. The new measure, which entered into
effect November 19, fixes the export tax on all hydrocarbon
exports at 45%, as long as the world price for crude oil is
above $45/barrel. It also caps the maximum market price of
Argentine crude oil at $42/barrel for domestic sales.
Well-known local economists, such as Miguel Angel Broda and
those at the prominent consulting firm FIEL, estimate the
measure will result in increased revenues of between $850
million and $1 billion. However, other local analysts
comment that the real reason for the increase in hydrocarbon
export taxes was not so much revenue as domestic price
stabilization. In fact, the measures may end up effectively
redirecting the bulk of Argentine hydrocarbon production
(both crude and refined) to domestic consumption, and so may
not be a significant source of new revenue. A second and
more Machiavellian interpretation is that the GoA increased
hydrocarbon tariffs to reduce the value of energy sector
assets, such as those of Repsol/YPF (negotiating the sale of
25% of YPF assets to domestic investors) and Exxon (which has
put all of its Argentine refining and retail operations on
the block).

14. (SBU) FIEL estimates that revenue from export taxes (for
all goods, including hydrocarbon products) will be 2.32% of
GDP in 2007 and increase to 2.92% of GDP in 2008, which will
contribute significantly to President Cristina Fernandez de
Kirchner's goal of increasing the primary fiscal surplus to
4% in 2008.

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