By Win Thin
Argentina President Fernandez easily won a second four-year term in weekend elections. She won 54% of the votes and avoided a second round vote, with her nearest challenger at 17%. Indeed, a weak and divided opposition helped Fernandez win, as did a booming economy and increased government payouts designed to help offset the negative impact on households of high inflation. But there is a growing feeling that her second term will be rockier than her first. Fernandez will try to maintain the unorthodox mix of policies for as long as she can, and has shown little willingness to more towards orthodoxy during her first term. Troubles will come both internally and externally, with the growing fear that the exchange rate will bear the brunt of adjustment in the coming months.
Inflation as measured by state statistics agency INDEC has crept back towards 10% y/y, and is widely viewed as understating actual inflation by about half. Yet Fernandez has minimized the political cost of high inflation by tailoring government handouts to the populace that are meant to offset the burden of inflation. Clearly, those measures worked and allowed her to win the presidency again. Economic growth remains robust, with GDP up 9.1% y/y in Q2 vs. 9.9% y/y in Q1. Monthly data so far are pointing to a further slowdown to around 8% y/y in Q3. Unemployment is at the cycle low of 7.3% in Q2.
On the external side, export growth remains strong, averaging 25% y/y in Q3 vs. 20% y/y in Q2. However, we remain concerned that ongoing troubles in the euro zone will continued downward pressure on commodity prices. Argentina’s largest trading partner Brazil is undergoing a slowdown too, and so will have some spillover onto Argentine exports and growth. Furthermore, the current account surplus is rapidly falling and the balance is likely to move into deficit as we move into 2012. Also on a worrisome note, the capital account was in deficit in both Q1 and Q2, suggesting capital flight is picking up even as the need for foreign capital is rising. Argentina cannot yet tap global markets for borrowing yet given the continued fallout from its debt default. Foreign reserves will have to be run down, and the authorities are not shy about raiding the central bank from time to time.
High inflation, slower growth, and deteriorating external accounts are likely to maintain downward pressure on the peso in the coming quarters. Indeed, we believe that the authorities will continue to encourage peso weakness, and there is a risk that the pace of depreciation will accelerate in 2012 as Argentina tries to recapture lost competiveness. YTD, ARS has lost only 6% against USD and so with true inflation thought to be running close to 20%, that has translated into a huge real appreciation for the peso.
In order for Argentina to regain its competitiveness, it will have to achieve either greater nominal appreciation or lower actual inflation. The former will be much easier to achieve than the latter, we suspect. USD/ARS remains in an upward sloping bull channel in place since early 2009 that has upper and lower bounds currently around 4.2350 and 4.10. With ARS currently trading right at that upper limit, a break above moves us to an even steeper trajectory ahead.
Source: Bloomberg