Analysis: Argentina's woes explained

Argentina's stocks traders are feeling the pinch

The ornate buildings and wide boulevards of Buenos Aires are testament to Argentina's once booming economy, fuelled by exports of agricultural products.

But poor economic decisions and political instability have contributed to Argentina's decline from the 10th richest country in 1913 to the 36th in 1998.

Argentina's $132bn debt currently represents about one seventh of all debt held by all developing countries. The International Monetary Fund (IMF) has extended loans or bailed the country out nine times since 1983.

Economic crisis

National debt: $132bn

Unemployment: 18%

Spending cut by $8bn

State pensions and wages above $500 cut by 13%

Private sector wages slashed by 20%

2001 Budget deficit predicted to be $7.8bn

So how did Argentina get into such a mess? The latest crisis stems from overspending on a national and domestic level during an economic slowdown.

Much of the money has gone on the welfare state and wages, but some analysts have also blamed state corruption.

As a result, the national debt has spiralled out of control. Argentina is well behind in meeting its economic targets under the existing $22bn loan programme with the IMF.

Inflexibility

Although linking the Argentine peso to the US dollar has kept inflation in check, the system offers little flexibility. The peso cannot now be devalued to lower prices, thereby boosting exports and raising revenue.

Economic Minister Domingo Cavallo resigned

And while prices have remained stable, austerity measures have seen wages cut and consumer spending plummet.

So far, persuading creditors to accept new terms, limiting cash withdrawals to stop currency leaving the country, and austerity measures including wage and spending cuts appear to form the government's main strategy.

Last month the government launched a debt rescheduling plan, allowing lenders to exchange government bonds paying double digit interest for securities yielding 7% or less, so saving the state billions of dollars in payments.

The government promised that lenders would be repaid in three years - but some credit agencies are still concerned.

But amid the world economic slowdown, austerity measures have also made it harder for the government to balance the budget.

Financial squeeze

Recent figures revealed that tax receipts had fallen by 17% in the first half of this month compared with the same period last year.

Argentina's competitors have also taken advantage of the country's monetary inflexibility, capturing export markets previously held by Argentine companies.

Lenders are demanding a bigger risk premium for lending money to developing countries, and private lending is running at far lower levels than it was in the early 1990s.

And on a long-term scale, many analysts believe only an intervention by the United States similar to Washington's bailing out of Mexico in 1995 and Brazil in 1998 will solve Argentina's problems once and for all.

Dollarisation?

Analysts offer a variety of solutions.

Steve Hanke, professor of Applied Economics at John Hopkins University in Baltimore and a strong advocate of dollarisation, argues that linking to the dollar will eliminate exchange rate risk, with little risk of hurting competitiveness.

"Take the exchange risk out of the system and interest rates will come down dramatically towards the rates paid on dollars," he said.

Others believe that dollarisation could make exports less competitive, while devaluation could increase the interest payments on dollar debts.

HSBC's emerging market analyst David Lubin suggests a mix of devaluation and dollarisation, which should in theory protect Argentines from the worst effect of either policy.

"The government or central bank could dollarise at a rate other than one to one, which is the current exchange rate," Lubin said.