In November 2015, the inflation rate in Argentina rose from 15% to 24%
and continued to rise to 40.5% by April 2016.
Argentina and inflation: what the rest of the world can learn
By Martin
Feldstein, 1/3/17.
When I was in
Argentina last week, I was reminded of the devastating power of high inflation.
Argentina’s annual inflation rate is now about 20%, down from an estimated rate
of about 40% last year. The central bank is struggling to keep the economy on a
disinflationary path, with a goal of achieving a 5% rate three years from now.
Inflation in Argentina
has been much higher in the past. For the 15 years from 1975 to 1990, the
annual rate averaged a remarkable 300%, meaning that the price level doubled
every few months, on average. Prices rose at an explosive annual rate of more
than 1,000% in 1989, before inflation was finally brought under control.
In fact, inflation was
all but extinguished. I remember being in Argentina in the mid-1990s, when
there was virtually no inflation. Back then, the Argentine peso was pegged to
the US dollar, and both currencies were used equally for day-to-day
transactions on the streets of Buenos Aires.
But the subsequent
collapse of the peso’s dollar peg, and the forced conversion of dollar
contracts into peso contracts at a non-market exchange rate, caused inflation
to soar. By 2003, the annual rate had increased to 40%. It then fell to 10% for
a few years.
But it rose again
during the presidencies of Néstor Kirchner and his wife and successor, Cristina
Fernández de Kirchner, to 25%. It finally jumped back up to 40% in 2016,
propelled by the removal of distortionary price subsidies that had previously
been used to disguise the true inflation rate.
The recent high rates
of inflation, and the public’s memory of even higher rates in the past, have
severely harmed Argentina’s economy.
Because market
interest rates rise to compensate for high inflation, even the government must
now pay an interest rate of about 25% to borrow in pesos for short periods.
Lenders are unwilling to provide long-term credit at fixed interest rates,
because a jump in inflation would destroy the value of their bonds and loans.
Households and
businesses are reluctant to finance long-term investments with short-term loans
or with variable-interest-rate loans, because a jump in inflation would cause
their interest payments to rise sharply. Indeed, Argentina’s history of high
and variable inflation has destroyed the domestic mortgage market, making it
impossible for a household to use a mortgage to buy a home. Businesses are also
reluctant to borrow, because they recall how previous increases in inflation
and thus in interest rates pushed otherwise healthy companies into bankruptcy.
The life insurance
industry has been destroyed by high and uncertain inflation as well. Given that
no one knows what the peso will be worth when future claims are paid, why would
anyone buy insurance with today’s pesos?
Economists might
respond by suggesting that mortgages, insurance contracts, and other agreements
could be indexed to the price level, adjusting payments to the contemporary
rate of inflation. But when the inflation rate is changing rapidly, it is hard
to know what the contemporary rate even is.
The previous
government tried to deceive the public by publishing inflation estimates that
experts agreed were far lower than the true rate of price growth. As one
Argentine friend explained, the government fired the statisticians who had
tried to provide accurate measures of inflation and replaced them with
political allies who would produce artificially low numbers. As he put it, they
“changed government statistics from a technical problem to a creative art.”
In the years when the
government allowed Argentinians to convert their pesos into dollars and take
them out of the country, people who had financial wealth moved their money into
investments in the United States. I am told that there is much more Argentinian
investment wealth in the US than in Argentina.
As a result of this
outflow of funds, investment in Argentina is low, holding down productivity and
growth. Gross capital formation represents only 17% of GDP in Argentina,
compared to 23% in Chile and Mexico.
Although President
Mauricio Macri’s new government is determined to reduce inflation and achieve
price stability, it is politically costly to do so. Tight money and high
interest rates depress demand and have caused real GDP to decline. At the same
time, the public cannot perceive a reduction of inflation from 20% to 15%. So
the government must pay a short-term political price to achieve a long-term
economic gain.
Argentina’s experience
holds two crucial lessons for other countries. First, price stability is
fragile, and the inflation rate can rise rapidly. And, second, high rates of
inflation remain in the public’s memory and have long-lasting adverse effects.
It is important to achieve price stability; but it is just as important to
maintain it, by continually managing monetary policy to target a low rate of
inflation.
Argentina
Inflation Rate was 52.9% in 2019 and is expected to average 19% in 2020.
The economy of
Argentina is an upper middle-income economy for fiscal year 2019 according
to the World Bank. It is the second-largest
in South America behind Brazil.
Argentina benefits from
rich natural resources, a highly literate
population, an export-oriented agricultural sector, and a diversified industrial base. Argentina's economic
performance has historically been very uneven, with high economic growth
alternating with severe recessions, particularly since the late twentieth
century, since when income mal-distribution and poverty have increased.
Early
in the twentieth century Argentina had one of the ten highest per capita GDP
levels in the world, on par with Canada and Australia and surpassing both
France and Italy.
Argentina's
currency declined by about 50% in 2018 to more than 38 Argentine pesos per U.S. Dollar and as of in that year is under a stand-by program from the International Monetary Fund. In 2019, it fell
further by 25%.
Argentina
has a population of 44.5 million and a labor force of 20.4 million.
Unemployment is 10%. Poverty is 33%. Nominal GDP is $446 billion. Nominal Per
Capita GDP is $9,888.
Comments
Argentina
is another resource-rich country with a long history of government instability,
property rights problems and economic mismanagement.
Norb
Leahy, Dunwoody GA Tea Party Leader
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