Two risks: Execution Risk and Transition Risk
Execution Risk:
The 1st review of the program is in May
2022: more inflation and less growth
Transition risk:
Post-agreement roll over of Pesos
The Achilles heel of debt in Pesos
The agreement with the IMF attempts to reduce the rate of deterioration in relative prices (without a starting correction and indexing the dollar, interest rate and utility rates to ex-ante inflation) and gradually improve the BCRA’s (Central Bank) balance sheet with a goal of an aggressive accumulation of reserves (which reduces the availability of dollars to pay for imports) and a low limit on monetary financing.
This scheme, with a much more gradual reduction in the fiscal deficit, requires the Treasury to achieve almost 2 p.p. of GDP per year of additional financing in the local market. Notice that the Banks, Insurance Companies and Mutual Funds trapped in pesos buy Treasury debt and that the demand for pesos remains stable in a context of growing but not explosive inflation.
For the moment, this is happening, and even non-resident funds are coming back looking for the high returns generated by the carry trade in instruments with CERs in the face of an inflation that would be around 6% in March and 5% in April. And it occurs while the exchange rate gap narrows (it went from 120% to 70%), the swap is reversed (dollars in the country cost more than abroad) and the country risk fell below 1,700 basis points. But with this country risk, access to credit remains closed and the rollover of the debt in pesos occurs mostly at short terms (before the next Primaries) and with a growing degree of indexation piggybacking on accelerating inflation.
There are two risks in the background.
One is the risk of execution of the program that at some point in the next 18 months the deviation from any of the goals might put IMF disbursements at risk and the fear appears again that the country will fall into arrears. In this report, we begin to follow the quarterly fulfillment of the goals of the program, the first review of which will take place next May with the close of the first quarter of the year (the IMF Board only approved it on March 25th). Two of the four objective goals (reserves and monetary financing) have already been met and only the floating debt and fiscal deficit of March remain. The latter must reach $129 billion to reach the goal for the quarter given the results already released for January and February ($93 billion).
We also include an evaluation of the impact of the war on the dollar account and the peso account of the economy within the framework of the commitments assumed in the agreement and its consequences on the nominal value of the economy and growth. For now, we project a growth of only 0.5% in 2022, cutting the carry-forward of 3.6% left by the January data and raising the inflation projection to 64% in a context where the program remains in place, disbursements are made effective, and the country does not enter arrears.
The second is the transition risk. The program depends on a roll over of 130% of debt maturities in pesos in the local market in 2022 and 114% in 2023 (public intra-sector debt is assumed to represent 60% of the total without transitory advances, it is refinanced fully but not used to finance the primary deficit). Market maturities in the next 12 months accumulate 4.8% of GDP and with the program guidelines they would rise to 6.5% in December 2022 and 8.3% in December 2023.
The open debates on the economic policy schemes in a future administration in 2024 (such as dollarization, the bi-monetary economy and/or the rapid exit from the exchange controls) in a context of strong overhang (surplus) of pesos, for now does not affect demand for peso instruments, but they are certainly not innocuous as we enter the electoral year where the result is going to be directly associated with the rupture or not of one or both coalitions (the government and the opposition) in a context where the economy is not going to help.
It is precisely this risk of transition in an otherwise cracked context that is behind the questions about the risk of re-profiling. Debt sustainability requires a horizon. With an increasingly shorter horizon and extraordinary profitability in a few months, the incentives to take profit at some point as we head into the election year are high. Once again, the Achilles’ heel of the program is the rollover of the Treasury’s short debt (this time the peso debt) and the risk of reprofiling and/or monetization by jumping the limits of the program with the IMF that it implicitly carries.
Certainly the exchange rate gap generated by this administration scheme of the “self-generated” shortage of dollars, in an economy with a fiscal deficit, an excess of short-term pesos and without credit in dollars or reserves (other than the one that now came from the IMF), generates an enormous distortion in the functioning of the economy and a violent transfer of income from the exporting sectors to the importing ones, which is reflected in an escalation of inflation and the distortion of relative prices. Without basic consensus that lengthens the decision horizon, the way out is not intuitive, and the transition risks escalate.
