Argentina and Reputational Risks: Hats Off to the IMF and U.S. Treasury

June 12, 2018

Pundits have rightly underscored that Argentine president Mauricio Macri’s bold and surprising decision to turn to the International Monetary Fund (IMF) is a potentially high stakes gamble on Argentina’s—and his own political—future.

Garnering far less attention, Macri’s gambit also poses large reputational risks for the IMF and U.S. Treasury. The preliminary reports on the IMF staff-level agreement on a standby arrangement with Argentina show that these risks are being well managed. The Treasury is backing the Fund and Argentina. Hats off to the IMF and Treasury.

Argentina and the IMF need to walk a narrow path. The basic premise of the Argentine strategy has been to provide for a gradual fiscal adjustment, as liberalization unshackled the economy and boosted underlying productivity, thus avoiding a sharp contraction in jobs and growth.

But the Argentine woes that have emerged are straight out of the Fund’s traditional macroeconomic textbook. To finance a large fiscal deficit, Argentina turned to external borrowing, which has been a factor behind the current account deficit and overvalued peso. It also resorted to printing money, pushing up inflation and then interest rates. The markets got spooked as rollover risks loomed.

How to thread the needle is the main challenge facing the Fund and Argentina? “Austerity” will harm activity and risks causing popular uproar. Excessive gradualism won’t put Argentina on the path to sustainability. To merit Fund support, the Argentine program necessarily needed to balance these factors with a greater front-loaded fiscal adjustment, while bringing inflation down and protecting the most vulnerable segments of society. Central bank independence and a floating exchange rate will only strengthen competitiveness and the future conduct of monetary policy. Preliminary reports suggest the program was designed to target these objectives. The provision of IMF financing itself should help keep Argentina out of the markets.

A lot of sensitivity is needed in threading the needle. Given widespread loathing of the IMF in Argentina, the Fund has properly shown great sensitivity to popular feelings and Macri’s partnership. The Fund’s reputation more widely in Latin America is also at stake. In taking a low profile, the Fund has done remarkably well. First, even though it is used to playing the role of stern taskmaster, in this case Argentina has been clear that the IMF program reflects Argentine priorities and that Argentina’s program is homegrown. Second, given the very strong relationship and frequent interactions between the Argentine and IMF economic teams, the Fund has been comfortable negotiating in Washington or over videoconferences and steering clear of the Buenos Aires media circus and spotlight.

The IMF being quick on its feet has paid off. The quick move by the Fund and Buenos Aires to commence discussions contained substantial wider damage, both in Argentina and in global markets. When an emerging market crisis is brewing, one key question is whether a country’s situation is a case of illiquidity or insolvency. Often, there is a gray zone between, and illiquidity can quickly turn into insolvency. There was every reason to see Argentina’s case as one of illiquidity given its low debt load. Still, even though Argentina’s problems are mainly idiosyncratic, quick action has been all the more critical given the recent spike in turbulence and contagion fears in global financial markets, against the backdrop of rising U.S. interest rates. Being paired as part of a “Terrible Twosome” with Turkey didn’t help.

The program correctly provides for “exceptional access” to Fund resources. Sound reforms, backed by a big pile of financing, can quell market turmoil. The $50 billion standby figure certainly qualifies as large. Extending large financing, however, is a risk to the IMF and to the U.S. Treasury.

There is a long history of controversial IMF programs with exceptional access, from the Mexican and Asian crises of the 1990s, to the Latin and Turkish programs in the early 2000s, to the emerging market programs before and during the Great Financial Crisis. The controversy grew far louder with the Fund’s programs for Greece, Ireland, and Portugal and with attacks suggesting that the Fund was providing massive infusions into unsustainable situations, not sufficiently safeguarding its resources, and fomenting moral hazard.

In the wake of the attacks, the Fund reinforced its criteria for exceptional access lending and eliminated the so-called systemic exception to the criteria. (The “systemic exemption” allowed the Fund to lend exceptionally in systemic circumstances, even if the four criteria were not met: the member was experiencing exceptionally large balance of payments needs; the debt was sustainable with a high probability; the member has prospects for gaining/regaining access to private capital markets; and the member had the institutional and political capacity and commitment to implement an IMF-supported program.) The four criteria remained on the books and exceptional access is still permitted when these are met.

Republican administrations have consistently supported exceptional access programs when they were in power. But the elimination of the “systemic exemption” was seen during the last administration by many Republicans, including on Capitol Hill, as code for ending IMF exceptional lending altogether and thus made a quid pro quo for U.S. support for legislation in late 2015 for an IMF quota increase.

In supporting Argentina, the Fund is dipping its toes back into the waters of exceptional lending.

Significantly, the current U.S. Treasury, which has expressed misgivings about the IMF and its lending terms, let alone multilateral institutions more generally, wasted no time in publicly backing Argentina, supporting Macri’s effort to reach out to the IMF, and approving exceptional access for Buenos Aires.

In seeking the Fund’s support, the Macri government has shown tremendous courage. The IMF’s deft handling of the situation so far is helping Argentina restore market stability and showing that the Fund can be tactically smart and wise. The strong support for Argentina from the current U.S. Treasury is highly welcome and hopefully will convince the Trump administration that international financial institutions strongly advance U.S. interests and merit the United States’ backing.

Now, all that is left is for Argentina to implement its program!

Mark Sobel is a senior adviser with the Simon Chair in Political Economy at the Center for Strategic and International Studies in Washington, D.C. He was deputy assistant secretary for international and monetary financial policy at the U.S. Treasury from 2000 to 2014 and subsequently a U.S. representative at the IMF through early 2018.

Commentary is produced by the Center for Strategic and International Studies (CSIS), a private, tax-exempt institution focusing on international public policy issues. Its research is nonpartisan and nonproprietary. CSIS does not take specific policy positions. Accordingly, all views, positions, and conclusions expressed in this publication should be understood to be solely those of the author(s).

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