Head of the Central Bank Federico Sturzenegger on inflation, Lebacs, public spending and that press conference on December 28.
How would you sum up exchange rate policy in these first two years?
We’ve strongly defended a floating exchange rate from day one, or rather day three since we lifted currency controls three days after I became Central Bank governor. It took a week, working 14 hours a day, to disarm the 89 regulations in place, which was a bit like defusing a bomb, as I recall from the tense board meetings of directors at the time.
In my view a floating exchange rate has three major benefits. Firstly, it absorbs external shocks remarkably well. Looking back over the past five quarters, Argentina has had the least volatile growth in its history. Secondly, it maintains internal balance. If somebody gets worried and says: “Hey, the trade deficit is really swelling,” the market spots that immediately. If the situation becomes unsustainable and goes generating exchange rate problems, the market will anticipate that. A floating exchange rate allows for adjustments and prevents the imbalances from growing more than they should. Thirdly (and here we’re looking a bit ahead), it will serve to ‘dedollarise’ the economy. As the dollar moves up and down, Argentines will at some point start saying: “What am I actually spending my money on? On local goods consumed here.”
For that they need to save in stable instruments, not in something which moves up and down. Weaning the economy away from the dollar would be great for Argentina.
What exchange rate for the dollar would the economy need to end the year in balance?
It’s hard to say because of the flexibility to adjust to shocks. It would depend on whether soy prices go up or down, on world oil prices, international interest rates – things like that. The important thing is to understand that we have an instrument which can adjust to calm the industrial sector, which is starting to realise that we are not using the exchange rate as an anchor.
When does the exchange rate lag? When there are stabilisation plans anchored on the exchange rate. For whatever reason inflation keeps climbing while the government sticks to its anchor. That’s not happening now. When the exchange rate has to adjust, it does so. Ditto interest rates, which are hard or soft according to the pace of inflation.
If, as you’ve said, the exchange rate in general is almost 25 percent more competitive than prior to the exit from currency controls and around 45 percent in relation to Brazil, why isn’t that reflected in the trade balance?
To that 25 and 45 percent you would have to add the export duty cuts, which average seven points.
Argentina has a trade deficit for two reasons. Firstly, we are undergoing an investor-led growth process with the intensive import of capital goods, up 25 percent. The perception of this growth makes consumers decide to spend more because of greater certainty about the future. The trade balance is the difference between what an economy produces and spends. A deficit is quite natural as an anticipation of growth. Indeed when we were making projections in 2015 for 2016 and 2017, we estimated higher deficits because we thought that the foreign direct investment would be arriving faster.
It doesn’t surprise us.
But doesn’t it worry you that exports aren’t growing?
That’s a process too. This year industrial exports have grown by more than 10 percent. Of course, Brazil’s return to growth after years of stagnation helped a lot there. Primary products have indeed sagged but that is partly because more of this harvest’s grain was held back – it was produced but not exported. In January Argentina returned to exporting gas for the first time in many years – energy exports will increase.
Chile and Brazil needed 10 years to reach single-digit inflation. How many years will it take Argentina?
Far less, definitely. Inflation has two tremendously toxic components. Firstly, it is a tax paid by those who earn the least, thus making the battle against inflation also a fight for equality which cannot wait. The second concerns growth itself. The economies which halve their inflation from 20 to 10 percent double their growth rates. In 81 case studies since 1990 of countries lowering their inflation by over 10 percent, the economy grew in 78.
But Martín Etchegoyen, the Industry Secretary in the Production Ministry, said that we could grow more with a bit more inflation – aren’t you afraid of the government finding inflation of around 20 percent to be something of a comfort zone, losing its motivation to lower it to a single digit?
Absolutely not. Try going round ringing door-bells and asking people if they find 20 percent inflation comfortable. I believe the entire government to be convinced as to that objective. This goverment is going to eradicate inflation down to the levels of normal countries. There is no other scenario.
But what consequences would it have if inflation again kicks off the year at a monthly rate of two percent?
That’s not a scenario we are considering. Not only the Central Bank but the entire government is committed to 15 percent. I’m sure we’ll do very well.
Should inflation-targeting be fixed by the Central Bank or the government?
The institutional arrangements vary around the world but there is nothing strange about the government fixing the targets. I’m very comfortable with the government setting the pace and identifying the objectives. But there has been no change in the goal. The relevant target remains five percent inflation – what the government recognised is that inflation ended up being higher.
The Central Bank did not target inflation for 2016 but society remembers that they were told 25 percent and it ended up as 40 percent, while in 2017 it was going to be 12 to 17 percent and finished at 24 percent. More than 60 percent divergence in both years. Aren’t the results disappointing?
You have to focus, I insist, on core inflation, which has followed a downward trend. Inflation fell heavily in 2017 but the regulated prices of public services rose more than expected. Core inflation for 2017 was 21 percent as against almost 30 percent in 2015. In that year they repressed inflation by keeping the exchange rate and utility pricing constant but the core inflation, as reflected by supermarket prices, was around 30 percent. In the second half of 2016 and the first half of 2017, core inflation did not budge from 1.7 percent, which is why we stiffened monetary policy so much in the second half of the year.
What’s your take on the controversial Lebacs?
This is an issue which we’ve found very difficult to communicate. When we entered, the stock of Lebacs was seven percent of gross domestic product while today it’s 11 [percent]. People say that the stock of Lebacs has grown but they are a Central Bank debt. In this period we accumulated five points of reserves. When you buy reserves, you must absorb them in order not to generate inflation. So you put the reserves on the active side of the ledger and the Lebacs on the passive. Thus minus the reserves, the Lebacs actually fell from seven to six points.
The real question about Lebacs is whether it makes sense or not for Argentina to accumulate reserves. Our conclusion in the Central Bank is yes, Argentina needs more.
In recent months both the business and political sectors, including within the government, have not concealed their displeasure with the high interest rates of the Lebacs and the presumed economic slowdown resulting.
A presumed slowdown because the economy keeps growing. It’s crazy – all the sectors sensitive to interest rates are soaring with 25 percent real growth for construction in November and the same percentage for capital goods imports (in dollars) and loans while investment rose 14 percent.
What’s good and what’s bad about public spending?
That’s what I love about PRO, that it has no ideological focus on issues. We simply ask ourselves why we are spending and if well or badly. Big or small matters far less than well.
For example, the Cristina [Fernández de] Kirchner government spent as much on roads in Santa Cruz as in Buenos Aires province. The former has 200,000 cars and the latter 18 million people. That’s absurd. With the Metrobus in La Matanza, 240,000 people save 40 minutes a day. On the basis of the survey showing average hourly earnings to be 70 pesos, this has an annual value of 2.7 billion pesos for a project costing 1.7 billion pesos, thus already paying its way in 200 days. With a useful life of 10 years, that’s a return of 150 percent. Good or bad? That’s a simple question.
Public spending in Argentina between 1961 and 2006 averaged 25 percent of GDP – in keeping with the rest of Latin America. But today’s public spending is 42.5 percent of GDP, which is incompatible with the aspirations of singledigit inflation. Reducing that public spending at root does not look very easy. Last year the tax whitewash contributed a point and pension reform another but these are extraordinary measures requiring political consensus.
A couple of comments here. [It is] not so that 42 percent [of public spending] is incompatible with zero inflation. There are European societies with those levels of spending without inflation. What is incompatible is to finance them by printing money. If that 42 percent of public spending is financed with taxation, there will be no inflation. There is no relationship between the size of the state and inflation.
But if there is no room for more taxes, you’re going to have a deficit financed with debt or inflation/printing money.
A society prepared to pay taxes requires quality spending from its governments. The Danes have no problem paying the 42 percent, or whatever they do, because they receive quality. There’s an important agenda behind improving the quality of spending. As to scale, there is one very practical focus – if something is no use to the people, cut it out.
Can public spending of 42 percent of GDP be financed in Argentina?
That depends on the quality of the public spending. Much of it is on pensions and social benefits. Society has opted to spend like this and that seems fine to me. The government not only respected social spending in its 2017 Budget but increased it by 33 percent while spending overall rose 21 percent. That spending will shrink as a percentage of GDP – I see no need to reduce the services provided by the state.
Shrink in relative rather than absolute terms?
Yes, in relative. The challenge facing the government is to improve the quality of what it does while cutting its cost.
How was that December 28 press conference decided?
At a certain point the decision was taken and, being an executive prerogative, it was announced by the Executive Branch. At some stage, I suggested that my participation would be convenient. That’s standard practice in Britain or the Unites States for issues like this one of the inflation targets which are of common interest, it is entirely natural that the Federal Reserve chair and the Secretary of the Treasury (in the case of the US) be present. It seemed to me to make much more sense that we were all aligned together and convinced of the change which had to be made.
What would have happened if the inflation target for 2018 had been left at 10 percent? What would have changed?
I said at the press conference. We were going to have a monetary policy of higher interest rates because we had to bring inflation down from 24 to 10 percent. I said that the change permitted this easing which in any case we had already seen because we had already broken the back of core inflation and were probably anticipating it a bit. We are going to have interest rates trending slightly downwards.
So if the more demanding target had been maintained, would inflation have been less?
Sure, we would have been shooting for lower inflation. But the important thing is that next year it will be on a sharply downward trend in Argentina.
A third of Argentines are poor. Is it possible to reduce that poverty, as President Macri aspires, by growing three percent a year, which is half the pace of emerging countries like China or India, and not much above the developed countries of Europe or the US, which do not have our levels of poverty?
We are tackling that issue on three fronts. Firstly, the main idea is investment-led growth generating well-paid quality jobs...
More a question of how you grow than how much?
Exactly. It is the investment which guarantees the process of growth. We come from five years of a declining GDP in real terms, which is not a propitious scenario for reducing poverty. Kirchnerism made no progress in that sense. If investment-led growth with quality jobs is the first factor, the second is the quality of public spending and the third the tax structure. Macri has been revolutionary in that sense.
What do you think the Macri presidecy’s legacy will be?
There are two dimensions which go largely unspoken but which I find highly relevant – the political and the cultural, of which the economic is a minor subproduct.
Argentina has a history of over 60 years of volatility under various names with thousands of persons intervening and always the same. That obliges us to step back and ponder the process. A highly unbalanced political scenario with a Peronism beyond control. A Peronism which in one decade can be the Washington Consensus and in another Hugo Chávez but always hangs around there floating, drifting from one wing to the other.
Why? Because it has no counterweight. What Macri will do if he succeeds, and I have no doubt that he will, will be to give life to another political structure which will not replace Peronism but will provide a counterweight. That will oblige both to converge in calm and moderate policies – more predictable with less change. Macri will do this and that will be the legacy he will leave us.
Checks and balances for Argentina?
Exactly. That will be done, regardless of who follows in power. They will be moderate, predictable and stable. That will be his great legacy, apart from the recovery of values. Mauricio is ready to say: “I believe in the value of merit, of individual effort, of growth, of work, of transcending oneself.”
The values which we associate with the Argentina of our grandparents and the immigrants are being redeemed by Macri.