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UNCLAS SECTION 01 OF 05 BUENOS AIRES 000816
SENSITIVE
SIPDIS
E.O. 12958: N/A
TAGS: EFIN ECON EINV ETRD ELAB EAIR AR
SUBJECT: ARGENTINA ECONOMIC AND FINANCIAL REVIEW, JUNE 6 -
13, 2008
REF: BUENOS AIRES 782
1. (U) Provided below is Embassy Buenos Aires' Economic and
Financial Review covering the period June 6 - 13, 2008. The
unclassified email version of this report includes tables and
charts tracking Argentine economic developments. Contact
Econoff Chris Landberg at landbergca@state.gov to be included
on the email distribution list. This document is sensitive
but unclassified. It should not be disseminated outside of
USG channels or in any public forum without the written
concurrence of the originator. It should not be posted on
the internet.
----------
Highlights
----------
-- President Kirchner launches social redistribution program
with proceeds from increase in soy export tax revenue,
raising fiscal concerns. Farm strike resolution still
elusive.
-- Private sector deposits fall ARP 6 billion; financial
sector's worst month since October 2001.
-- GoA unveils new inflation index; underreporting continues
and market underwhelmed.
-- Consumer expectations lowest since October 2004; inflation
expectations balloon to 36.5%.
-- GoA public debt totaled $144.7 billion at the end of 2007,
similar to pre-default levels, but decreasing in terms of GDP.
-----------
Agriculture
-----------
President Kirchner launches social redistribution program
with proceeds from increase in soy export tax revenue,
raising fiscal concerns. Farm strike resolution still
elusive.
--------------------------------------------- -----
2. (SBU) President Cristina Fernandez de Kirchner announced
June 9 during a speech in the Casa Rosada that the GoA would
use the distribution of the marginal increase of the soy
export tax (all tax collection above 35%) to finance a social
redistribution program. (This followed the GoA's May 26
unilateral amendment on the export tax sliding scale, which
attempted to solve the conflict between the GoA nd the
farming sector triggered by the imposition on March 11 of the
export tax sliding scale -- for background see April 4 and
May 30 Econ/Fin Reports.)
3. (SBU) According to the Presidential Decree (N904)
published June 10 in the Official Gazette, expected revenue
from the increase of soy export taxes above 35% is $800
million in 2008 and $1.3 billion in 2009. The GoA will use
these funds to will finance the social redistribution
program, administered by the Ministries of Planning, Economy
and Health and focusing on building hospitals (60%), housing
(20%), and rural roads (20%). It is unclear (as it is not
mentioned in the Decree) how these funds will be allocated
among the provinces, which has aroused speculation in the
press that Governors with a close relationship to the current
administration will be the main beneficiaries. Following the
speech, in statements to the press, farmers' representative
stated that the rural organizations support the GoA's
effort's to tackle poverty, but argued that it was unfair
that the rural sector alone had to pay for the GoA's new
infrastructure programs.
4. (SBU) Investment Bank's reaction to the President
announcement:
-- According to HSBC, the call to dialogue and the tone of
the speech were positive. Still, the fact that additional
resources will not be saved but rather spent is a concern to
credit markets. Nevertheless, if the conflict is actually
defused - or moderated - the balance is positive, as
normalization of activity is a "necessary condition to revert
the ongoing re-dollarization process" (see next item under
Finance). HSBC also expects the GoA to announce additional
measures favoring farmers, such as widening the definition of
small producers to 1000 from 500 tons, thereby increasing
those qualifying for compensation (subsidies).
-- For CSFB, Cristina's speech was not conciliatory; in its
view, her remarks about the farmers were quite harsh. She
argued that the farmers were currently reaping very large
BUENOS AIR 00000816 002 OF 005
profits while investing "little capital" and hiring very few
workers. She continued that despite having so much, the
farmers are unwilling to share with those who have very
little. She justified the GoA's decision to hike the tax
rate on soy exports by noting that it was impossible to
reduce poverty in Argentina without taxing those with high
incomes. Interestingly, she mentioned that farmers had
benefited from the GoA's weak peso policy during recent
years, which she claimed had cost the GoA $12 billion.
-- According to Citi, Cristina's announcement sought not to
solve the conflict with farmers, but to gain the support of
the population, mayors, and governors because the execution
of the program will be decentralized, with procedures under
the supervision of governors and mayors (the same
decentralization applies to 93% of the current public works
projects, according to the President). (HSBC also emphasized
this issue, noting that this initiative results in previously
non-shared tax revenue being shared on the margin. Debate
over export tax revenues exclusion from the
"co-participation" tax sharing arrangement between the
central and provincial governments had intensified over the
course of the Ag conflict.)
5. (SBU) General Market reaction: concern over impact on
fiscal accounts. Markets were already concerned about
strength of fiscal accounts for the following reasons, and
this new plan has generated further uncertainty:
-- Questions over how the apparent deceleration of the
economy will impact revenue collection;
-- The dependence on export taxes and vulnerability to
international commodity prices;
-- The worrying trend in subsidies, which so far in 2008 are
rising at an annual rate of about 103% (y-o-y in the first
quarter), with little prospect that the GoA will reduce them
soon (for details see May 30 Econ/Fin report);
-- Pressure to increase public sector wages and pensions due
to rising inflation
6. (SBU) NOTE: In June 10 statements to the press, Chief of
Cabinet Alberto Fernandez clarified that expenditures
generated by this announcement were not included in the 2008
Budget, as the GoA had not included the tax collection
generated by the export tax sliding scale. According to
Embassy calculations, when including this new social
expenditure of $800 million, the 2008 primary fiscal surplus
will decline from an estimated ARP 36.0 billion (or 3.6% of
GDP) to ARP 33.4 billion (or 3.4% of GDP). (Note: this
estimate is based on the BCRA market consensus survey, as of
May 2008.)
7. (SBU) For reference: the GoA Primary Fiscal Surplus is
still at an historically high level in terms of GDP, albeit
lower than the post-crisis high of 3.9% of GDP set in 2004.
For the first four months of 2008, accumulated primary
expenditures reached ARP 53 billion (up 39% y-o-y), while
accumulated revenues stood at ARP 65 billion (up 44% y-o-y).
This resulted in an accumulated primary surplus of ARP 11.6
billion. According to Argentine consulting company "Economia
y Regiones," if revenue and expenditure growth dynamics
continue as they have through April, the GoA's 2008 primary
fiscal surplus may reach as high as 4% of GDP. This would be
significantly above the official 2007 primary fiscal surplus
of 3.2% of GDP (equivalent to ARP 25.7 billion or $8.1
billion). (Note: The 2008 estimate appears even stronger
compared to 2007 when taking into account that the 2007
primary surplus was only 2.5% of GDP when excluding the
one-time transfer of about ARP 7.5 billion that resulted from
the 2007 pension system reform.)
8. (SBU) Going Forward: When does the conflict end? Most
local analysts and commentators seem to agree that the
President's announcement erodes the farmers' public support
and undermines their ability to continue their protest.
However, opinions are still divided on whether the conflict
will now subside or continue at current levels. From
contacts with farm groups, the Embassy is seeing few signs
that the producers are tired of the dispute and ready to give
in. If anything, the debate seems to be over whether to take
stronger measures. However, Embassy financial sector
contacts expect it will gradually diminish in strength, but
will continue as a low-intensity conflict for a long time to
come. The latest wild card is that groups of truck drivers
are blocking roads, demanding that the GoA and farmers
resolve the strike. This has intensified concerns over
possible food and fuel shortages and over the possible
BUENOS AIR 00000816 003 OF 005
escalation of social tensions.
-------
Finance
-------
Private sector deposits fall ARP 6 billion; financial
sector's worst month since October 2001.
--------------------------------------------- -----
9. (SBU) Political uncertainty, accelerating inflation, and
the Ag conflict created a move towards the dollar in May at
the expense of private peso deposits.
10. (SBU) Private sector deposits dropped ARP 5.8 billion
(almost $1.8 billion) or 4% of total private sector deposits
during May, resulting in the worst month for the financial
sector since October 2001. Furthermore, an Embassy banking
sector contact estimates that total capital outflow (capital
flight) in May was $3.5 billion, compared to the $2.5 billion
outflow in April. During the month, savings accounts had the
worst performance, falling by 8% m-o-m (ARP 3 billion),
followed by current accounts falling by 4% (ARP 1.7 billion).
The first three weeks of May saw a rapid and constant
drainage of private sector deposits. This partially reversed
during the last week of May (see last graph below) helped by
rising interest rates and BCRA measures to ease liquidity
constraints (for reference see May 30 Econ/Fin report).
11. (SBU) According to Argentine daily "Cronista Comercial,"
retail investors continue withdrawing deposits, while
institutional investors are attracted by the high returns and
are beginning to increase deposits. Meanwhile, the Badlar
interest rate (the reference rate for one-month time deposits
over ARP 1 million) reached a high of 17.9% on May 29 (the
highest level since February 2003). The Badlar rate eased
slightly to end the month at 16.9%, but still representing a
huge spike from the 9% levels at the beginning of May.
12. (SBU) The fall in deposits and the skyrocketing interest
rates represent the flip side of the BCRA's dollar sales in
the FX market to satisfy the private demand for dollars
(mainly from retail depositors) and keep the peso stable.
The peso/dollar retail exchange rate ended May at around
3.10, compared to the 3.20 ARP/USD level of April 30 and the
high of 3.25 ARP/USD on May 9. The peso has strengthened
further in June, with the retail rate at 3.05 ARP/USD on June
12.
13. (SBU) The BCRA seems to have set its new "ceiling" level
for the peso at about 3.10 ARP/USD. Market analysts
speculate that the BCRA continues to sell dollars and
strengthen the peso to prove that it can set the exchange
rate at the level it desires (following the minor run on the
peso over the last few months, and in the face of
accelerating inflation -- estimated at an annual rate of
25-30% for 2008) and to assuage the markets' fears of a large
peso devaluation (as indicated by the current one-year
Non-Deliverable Forward (NDF) rate of 3.34 ARP/USD).
(Comment: A mid-level BCRA currency trader stated to the
Embassy that BCRA traders believe the objectives of the
continued dollar sales are at least in part to punish: 1)
speculators; 2) the Ag sector; and 3) the industrial sector
(for refusing to sign the President's Social Pact, or
"Bicentennial" agreement, before the GoA had resolved the Ag
conflict). During May, the BCRA sold $1.7 billion reserves,
leaving BCRA reserves standing at $48.6 billion as of May 30,
according to BCRA data. According to the June 5 report from
Argentine consultancy "Broda y Asociados," the estimate for
private sector dollar demand surged to $7.7-9.0 billion in
the period April-May.
-------------------------------------
Inflation and Consumer's Expectations
-------------------------------------
GoA unveils new inflation index; underreporting continues and
market underwhelmed.
--------------------------------------------- -----
14. (SBU) Argentina's national statistics agency INDEC
introduced its new CPI methodology with the publication of
May headline CPI inflation. Using the new system, INDEC
reported that May inflation was 0.6% m-o-m (0.4% for goods
and 0.9% for services) or 9.1% y-o-y (7.6% for food and 11.3%
for services). The 0.6% monthly increase was due to some
prices increasing due to seasonal reasons by 1.2% m-o-m,
BUENOS AIR 00000816 004 OF 005
regulated prices increasing 0.8% m-o-m and the rest (also
referred as "core" inflation) increasing 0.4% m-o-m. Private
sector estimates of May inflation were at over 1%.
15. (SBU) The new CPI methodology (see May 23 Econ/Fin Report
for background) includes a new CPI basket that was based on
INDEC's Greater Buenos Aires expenditure survey of 2004/5
(replacing the previous 1996 survey), which resulted in new
weights for the CPI formulas. The new weights have not been
disclosed publicly. "Broda y Asociados" wrote in their
weekly report that lack of information on the new weights
prevents the private sector from determining (and analyzing)
the incidence of each product's price on total inflation.
For example, from now on, there will be no possibility to see
how the price of beef, a key element for the average
Argentine's consumption basket, will affect total inflation.
However, INDEC did say that "Goods" account for 62% of the
new basket (up from 53% in the previous one), while
"Services" are 38% (down from 47%). This is a strange
development, as for most economies high economic growth is
accompanied by an increase in the share of service
consumption by individuals. However, this could have been
the result of INDEC only considering consumption from the
lower-middle-class to determine the new CPI basket.
16. (SBU) The last expenditure survey also resulted in a
reduction of the number of goods included in the monthly CPI
calculation, down to 440 items from the 818 previously
considered. The new list of goods was not published, nor was
the reasons for the reduction in the number of items.
17. (SBU) The CPI formulas (basically, Laspeyres-based) did
not change with the new method. INDEC maintains the same
nine price sub-indices. The innovation is that, within each
price sub-index, INDEC will use variable weights for the
goods and services whose prices exhibit large seasonal
variations, or volatility due to quality changes, among other
reasons. Well-known Argentine economist Ernest Kritz said to
Argentine daily "La Nacion" on June 11 said that the use of
variable weights will result "in the institutionalization of
political discretion into the CPI," if this is not coupled
with periodic surveys on new consumption patterns, providing
grounds for the changing weights.
18. (SBU) INDEC has not disclosed the new methodology in
detail in any official document yet, nor have they provided a
disaggregation of the May outcome by product or group of
products, which makes the CPI figure less transparent and
contributes to confusion.
Credit Suisse said that in their view, the new CPI continues
to understate significantly the "true" level of inflation,
which is probably in the 25%-30% range on a y-o-y basis.
JPMorgan's alternative proxies for the CPI suggest that true
inflation was advancing in at an annual rate of between 22.6
- 27.2% in May, reflecting a "very mild acceleration". Local
consultancy "Evaluadora Latinoamericana" has its own
inflation survey, and estimates that CPI grew 0.9% in May
m-o-m, and 21.5 y-o-y.
Consumer expectations lowest since October 2004; inflation
expectations balloon to 36.5%
--------------------------------------------- ----
19. (SBU) The index of consumers' economic expectations
published by TNS Gallup and Argentina's Universidad Catolica
(UCA) fell sharply in May to 94 from 100 in April, bringing
the index to its lowest point since October 2004. May was
the fifth consecutive monthly drop in the index, reflecting
consumers' concerns about high inflation and the
unsatisfactory handling of the situation with farmers and
truckers. All sub-indices that make up this index fell in
May relative to April. The largest declines came from the
sub-indices tracking consumers' perceptions about the current
economic situation, which fell to 107 in May from 115 in
April, and the sub-indices tracking consumers' intention to
purchase durable goods, which fell to 101 in May from 109 in
April.
20. (SBU) A key factor affecting consumer sentiment is high
inflation, as demonstrated by the public's increasing
expectations. Torcuato Di Tella University's index on
consumers' inflation expectations for the next 12 months
jumped 3.7 percentage points (pp) in May over April, reaching
36.5%. This is a record high for the time series started in
August 2006. Higher inflation expectations come from all
over the country; no region is exempt from this trend. The
BUENOS AIR 00000816 005 OF 005
consensus forecast published by the BCRA, known as REM and
which averages approximately 50 organizations estimates of
inflation in Argentina for the next 12 months is 9.3% or 27.2
pp lower than consumers' expectations.
----
Debt
----
GoA public debt totaled $144.7 billion at the end of 2007,
similar to pre-default levels, but decreasing in terms of GDP.
--------------------------------------------- -------
21. (SBU) In the fourth quarter of 2007, the GoA debt stock
(excluding the so-called "holdouts," or bondholders who did
not participate in the 2005 debt restructuring) increased
$7.6 billion to $144.7 billion, or 56% of GDP. This was due
to $3 billion in GoA bond issuances, an $825 million increase
in IFI lending (mainly IDB), and $3.2 billion in short-term
financing to the GoA (from the BCRA and other public sector
agencies). When including holdout debt, currently totaling
about $28.8 billion, the public debt stock rises to $173.6
billion, almost 67% of GDP.
22. (SBU) Many analysts have criticized the GoA for the fact
that current debt levels are similar and even slightly exceed
the pre-default level of $144.2 billion (as of December
2001). However, it is worth noting that while the GoA debt
stock has increased in dollar terms since the 2005 debt
restructuring, it has decreased in terms of GDP every year
since 2002 (with or without including holdouts). Compared to
other Latin-American borrowers, Argentina's debt to GDP ratio
is slightly lower than Brazil's, but higher than Colombia,
Peru, Mexico, and Chile. However, Aldo Abram, Director of
the Argentine Institutions and Markets Research Centre at
Eseade business school points out that the worry is not the
nominal amount of debt (or that is decreasing in terms of
GDP) but that Argentina does not have access to credit. The
GoA is essentially barred from issuing bonds in international
capital markets, a consequence of holdout lawsuits, and has
been forced to rely increasingly on financing from Venezuela
and Argentine public agencies (such as the tax authority )
AFIP ) and Social Security Agency ) ANSES).
WAYNE