President Javier Milei is ratcheting up his defence of Argentina’s currency ahead of another massive local debt auction, piling the pain on the banking system and the broader economy as he fights inflation.
The government is selling peso notes and dollar-linked securities on Wednesday in an auction – the second in two weeks – that aims to refinance about nine trillion pesos (US$6.6 billion) in upcoming maturities. That’s about the amount officials managed to place on August 13, a sale that fell short of expectations and pushed authorities to tighten liquidity to protect the peso.
This time round, they aren’t taking any risks. Policy-makers again increased the percentage of deposits that commercial banks must park at the Central Bank on Monday, essentially forcing them to buy up more government debt. Those moves soaked up liquidity, buttressing the fragile currency that had threatened to revive inflation.
It all points to one simple calculation by Milei ahead of congressional elections in October – after years of rampant consumer price increases and a free-falling currency, Argentines care more about inflation than economic growth.
“The government seems to prioritise a very high real rate that hits economic activity in order to moderate the rise in the exchange rate,” said Matías Montes, head of strategy at EMFI Securities.
The policy gained the peso some respite on Tuesday, halting a four-day sell-off as the market anticipates no new pesos will flow into the economy even if Wednesday’s auction fails to reach its rollover target. The currency gained as much as one percent after hitting a three-week low the day before.
“The economic team anticipated a possible low rollover and modified the reserve requirement policy prior to this new tender,” said Diego Chameides, head of research and strategy at Banco Galicia. With the changes, “the Treasury is guaranteed a demand of approximately five trillion pesos in the bonds they are offering,” he added.
The authorities may be playing for time. Voters go to the polls in Buenos Aires Province on September 7 to elect local lawmakers and municipal councillors. The results will indicate whether Milei can build momentum for the October midterms and reassure investors that his reform agenda has staying power.
In the meantime, the peso’s defence is coming at a high cost. Yields on local notes known as Lecaps have almost doubled in the last month, surpassing 90 percent ahead of the previous auctions. They’re currently at 75 percent.
The increase is pushing up funding costs and squeezing profit margins at banks already reeling from a jump in overdue debt. Shares of Argentina’s biggest banks on Wall Street – such as Galicia, Banco Macro and Supervielle – have tumbled as much as 47 percent over the past three months.
As liquidity dries up, bank loan growth is slowing. The sector, which under the previous administration had grown used to profiting from investments in Treasury securities, had nearly doubled private lending by March from a year earlier – one of Milei’s main financial achievements.
But the currency turmoil in July abruptly interrupted that trend as the government debt policies pushed banks into taking funds away from the private sector and funnelling them into government securities.
Argentine assets have been under pressure due to a barrage of political and economic troubles that investors fear could deteriorate Milei’s image ahead of October’s election.
After his efforts to rein in spending suffered a setback in Congress, new corruption allegations erupted at the highest levels of government, involving Milei’s sister, Karina. Although it’s unclear how the situation will affect voters, it dents the President’s anti-corruption brand.
Meanwhile, investors’ inflation expectations have risen in recent weeks. The breakeven rate on short-term local bonds climbed above two percent a month for September and October, up from 1.7 percent the previous month, according to the local brokerage Amauta Inversiones.
Risk perception has also increased, with the extra spread investors demand to hold Argentina’s debt widening to 829 basis points, the highest since the country signed a new deal with the International Monetary Fund in April.
Dollar bonds have underperformed emerging market peers, losing more than five percent in the past week. On Monday alone they slid by more than two cents on the dollar, as investors tried to grasp the political fallout from the corruption allegations. Meanwhile, a widely-followed index of government confidence by Torcuato Di Tella University stood in August at the lowest levels since the beginning of Milei’s term.
“The second leg of reforms that Milei needs requires support in Congress, but if this scandal gains traction a few weeks before the election, the situation becomes more complex,” said Claudio Zampa, founder of Switzerland-based Mangart Capital Management. “This is a marathon, not a sprint. If it’s not sustainable, eventually you have a problem.”
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