With the election of Milei and the dramatic change in economic policy, the outlook for medium-term economic and financial stabilization has improved dramatically; but absent political-institutional reform, the risk of a return to instability will increase over the long term, largely due to the political system’s inability to manage fiscal-distributional conflict. Under Fernandez (2019-23), pre-electoral spending splurge risked pushing the economy into hyperinflation and a failure to adjust its external financial position, following the 2020 debt restructuring. With the election of Milei, Argentinian economic policy underwent radical change. A reform program anchored on a massive fiscal adjustment has received support from the IMF program and has led to a sharp of inflation, an improving government and external debt position, while also reading to a sharp drop in economic activity. The government has made extensive use of its decree power to push through reform due to a lack of congressional support. If the government persists in following IMF-guided policy adjustment, which is likely, the economy will recover in the context of much reduced inflation by 2027, boosting Milei’s reelection prospects.
> The IMF projects real GDP growth of 4% and inflation of less than 20% by 2027, a substantial decline from the triple-digit rates in the past few years.
> President Milei has only limited support in Congress, complicating structural, less so macroeconomic economic reform. The Ley bases, which comprises far-reaching market and liberalization structural reforms, was passed by the lower house in April and expected to be approved by the Senate.
Since taking office, Milei has made solid progress towards putting the economy on a more solid footing. A massive fiscal adjustment has allowed the government to generate primary fiscal and overall surpluses. It has also allowed it to stop the inflationary monetary financing of the government, deficit be the central bank as well as improving the profile of domestic debt, including domestic debt swap to reduce roll-over risk. On the external debt side, Argentina has received financing assurances from multilateral lenders and, crucially, China, pledging to roll over portion of PBOC swap not drawn. External surpluses have helped improve the central bank’s financial position. Fiscal and current account surpluses have allowed the authorities to refrain from further monetary financing and the BCRA to strengthen its balance sheet and improve its FX reserve position, even though not negative anymore remain inadequate.
> IMF successfully concluded eight review under current program in June. Argentina exceeded all quantitative performance criteria with a significant margin and progress on structural benchmarks.
> The IMF expects (hopes) that the government will be able to access international capital markets by the end of 2025. As long as Argentina overdelivers on program targets, the IMF will continue to provide support, thus limiting financial risks.
The economic and financial (reform) outlook will remain challenging. First, while parts of the economy seem to have stabilized, a prolonged economic downturn could weaken the president’s popularity and embolden political opposition, which would lead to a worsening of the reform outlook. Second, further fiscal consolidation to make sustainable. Following the massive fiscal adjustment by presidential decree, the governments needs to lay the foundation for institutionalized fiscal stability by extensive expenditure and revenue reform. Third, the removal of capital controls and the liberalization of the exchange rate are key to reviving international investor interest in Argentina. MCP and exchange restrictions remains in place hindering resource allocation etc. The establishment of an inflation-targeting monetary and flexible exchange rate regime, including MCR and exchange restrictions, is highly desirable to strengthen stability. This will require higher domestic interest rates to create sufficient incentives to get residents to hold pesos. But real interest rates remain in negative territory. The government has pledged to moving toward a liberal foreign-exchange and capital account regime, but this will require higher interest and could in the short term increase inflation, and might thus weigh on the president’s popularity. A failure to pass could lead to renewed domestic political conflict with the president taking more forceful action without necessary political or social support, which could reignite social dissatisfaction, even unrest.
> IMF favors improving the quality of fiscal adjustment and establishment of a monetary and exchange rate regime as well as structural reform aimed at lifting economic growth and productivity/investment and employment
> External surpluses required to re-access international capital markets and generate sufficient liquidity to repay its maturing obligations including IMF loans.
> The government has taken some steps towards greater currency liberalization, but it is far from liberal
The short-term economic and financial outlook is manageable, but it there is little reason to believe that Argentina is in the process of overcoming its long-term susceptibility to recurrent economic instability and financial crises. Argentina has experienced recurrent economic instability and financial crisis. Most recently, Argentina defaulted on its foreign obligations in 2001, 2016 and 2020. While the long history of defaults suggests that defaults happen under differing political regimes, a comparison with more successful and lasting economic stabilization in other Latin America economies suggests that Argentina may yet again fall short of establishing long-lasting economic stability. Chile, Mexico and Brazil have not experienced major destabilization in the past few decades, let alone an external debt restructuring. The countries brought about economic-institutional change without fundamentally changing the political system or constitution. Floating exchange rate, independent and inflation-targeting central bank and commitment to fiscal discipline. Fiscal dominance and political conflict over fiscal and secondarily interest rates. But in Brazil, fragmentation of political system difficult to reverse reform, even though under Lula/ Dilma lack of respect for rules can lead to trouble, but enough checks-and-balances and robust institutions. In Mexico, this will be challenged given MORENA dominance and in view of proposed constitutional reform. Institutional reform necessary to boost long-term confidence and sustainability of reform. Argentina has a history of fiscal dominance, whereby a high-spending government forces the central bank into monetary financing of its deficit in the context of tightening foreign and exchange controls. Distributional politics and government ability to solve distributional issues through higher, if inflationary government spending.
> The last time, Brazil or Mexico defaulted on their foreign obligations was during the so-called Latin American debt crisis of the early 1980s. The last time Brazil and Mexico IMF adjustment program to avoid a broader systemic financial crisis in was in the early 2000s and mid-1990s, respectively.
> Both Brazil and Mexico underwent important reforms of their policy regimes, including the establishment of an independent, inflation-targeting central bank, a flexible exchange rate regime and a political or institutional (even constitutional) commitment to fiscal discipline. This has helped both economies absorb severe exogenous shocks, such as the dotcom bust, the global financial crisis and COVID-19.
> By contrast, Argentina restructured its foreign debt in 2020, following a major default in 2001 and a selective default in 2016. Ironically, Argentina is a major international creditor with household holdings of foreign assets far exceeding public external liabilities. If Argentina managed to convince Argentines that economic and financial stability is here to stay, it could benefit from massive capital reflows.