Is Argentina's Transition from the Peso to the Dollar Feasible?
Javier Milei's presidential win in Argentina sparks debate over his bold vision to replace the peso with the US dollar Can his right-wing Libertarian agenda overcome challenges and pave the way for dollarization? Obstacles and potential debt restructuring loom
Javier Milei emerged victorious in Argentina's recent presidential election, advocating for a complete transformation of the country's second-largest economy in South America. One of his key proposals involves replacing the peso with the US dollar. Can Milei's radical ideas actually come to fruition?
The Mileis La Libertad Avanza coalition emerged victorious in the election, securing almost 56% of the vote, overcoming the center-left Peronist party and its candidate, economy minister Sergio Massa.
During his victory speech on Sunday, Milei did not disclose many specifics regarding his economic agenda for when he assumes office on December 10. However, as a self-proclaimed "anarcho-capitalist" who symbolically brandished a chainsaw during his campaign to signify his intention to reduce government expenditure, he pledged to implement "drastic" reforms.
"The era of decadence has reached its culmination, with no possibility of reversal," declared Milei.
"Today, we bring an end to the detrimental paradigm of an omnipresent government, which solely serves the interests of a privileged few at the expense of the suffering majority in Argentina," he further emphasized, while acknowledging the obstacles that lie ahead.
We are faced with significant challenges lying ahead - inflation, economic stagnation, the absence of genuine employment, insecurity, poverty, and indigence.
Milei's victory was met with favorable reactions from financial markets, signifying a potential transformation in economic policymaking. Milei now confronts the task of addressing inflation rates exceeding 140%, a deficiency in foreign currency reserves, and the looming threat of another distressing recession.
On Monday, Argentina's dollar bonds experienced a rise, while the New York-listed shares of various Argentine companies saw significant gains. YPF, the state-owned energy company, witnessed a 40% jump, and banking institutions Banco Macro and Grupo Financiero Galicia gained 20%.
Although Argentina's financial markets were closed on Monday due to a local holiday, the peso saw a slight weakening in partial trade, with its value against the US dollar standing at around 353.58. Over the past five years, the currency has depreciated by 875% against the dollar.
Milei has made a commitment to eliminate currency controls and import restrictions, a move that experts believe would further weaken the peso, bringing its value closer to the rates traded on informal markets. Bruno Gennari, an Argentina specialist at fixed income broker dealer KNG Securities, stated that on Monday, the peso was trading at $1,009 against the dollar on crypto exchanges, significantly weaker compared to the rates of $869 and $975 observed on Friday.
Obstacles to dollarization
Promising to "break the status quo," former economist and TV pundit Milei campaigned for president with a bold solution for Argentina's hyperinflation: dollarization.
It is a step that Argentina is considering, a move that no other country of similar size in Latin America, except Brazil and Mexico, has taken. Dollarization involves Argentina abandoning the peso and adopting the US dollar as its currency, which would result in the transfer of monetary policy authority from Argentina's central bank to the US Federal Reserve.
The utilization of this maneuver would additionally strip Argentina's central bank of its capacity to engage in money printing, a strategy that has often been employed to assist the spendthrift government of the country in evading debt defaults. As a consequence, this has contributed to the exacerbation of widespread inflation.
Javier Milei delivers a speech after his victory over Sergio Massa, economy minister and the presidential candidate of the ruling Peronist party.
Natacha Pisarenko/AP
Analysts concur that implementing dollarization would aid in curbing inflation. However, there is skepticism regarding Milei's ability to garner the necessary political and public backing to accomplish this objective.
"We have reservations that some of his more radical suggestions, particularly dollarization, might not come to fruition due to insufficient support from both the legislative body and the general population," noted William Jackson, the chief economist specializing in emerging markets at Capital Economics, in a Monday memorandum.
Dollarization could effectively curb inflation, but it is not a remedy for the country's fiscal troubles, according to his remarks. In an effort to garner backing from moderate parties, Milei deliberately omitted any mention of dollarization or the proposed closure of the central bank during his victorious address.
"It is unlikely to occur in the foreseeable future," stated Thierry Larose, a portfolio manager at Vontobel Asset Management in Zurich. Apart from the political obstacles, Argentina's fragile economy renders it incapable of adopting the dollar, he informed CNN, labeling it as a "dreadful notion." This is due to the current circumstances, in which the exchange rate would heavily disadvantage the peso, resulting in a significant currency depreciation and potentially exacerbating the existing poverty levels, estimated at approximately 40% by government statistics.
Larose added that the economy could benefit from "the path towards dollarization."
Another debt restructuring?
In order to adopt the dollar as the official currency, the economy must be stabilized by addressing hyperinflation and rebuilding foreign exchange reserves," he stated. "Fiscal consolidation and gaining access to capital markets are also essential."
There might still be a considerable amount of time before that happens. The International Monetary Fund (IMF) has effectively prohibited Argentina from accessing global markets while the country repays its debts. Following a significant bailout in 2018, Argentina currently owes the Washington, DC-based lender approximately $44 billion.
On Monday, Kristalina Georgieva, the managing director of the fund, congratulated Milei on his election victory. "We anticipate collaborating closely with him and his administration in the upcoming period to formulate and execute a robust plan that ensures macroeconomic stability and reinforces inclusive growth for all Argentinians," she wrote on X, the platform previously referred to as Twitter.
Milei is in dire need of all available assistance. The Argentine economy is projected to shrink by 2.5% in 2023, according to the World Bank, mainly due to a devastating drought that has resulted in an estimated loss of $20 billion in agricultural exports.
Additionally, Jackson from Capital Economics anticipates a potential change in the International Monetary Fund's lenient stance towards Argentina. He stated, "It remains uncertain whether a debt restructuring will be mandated at this stage, but we are heading in that direction."
Valentina Gonzalez, Stefano Pozzebon, Olesya Dmitracova and Reuters contributed reporting.
