An unlikely Phoenix: The recovery of Argentina’s monetary and financial system from its ashes in the 2000s and its lessons

ABSTRACT

The study discusses the recovery of the Argentine financial system after the crisis of the so called convertibility regime of the 1990s. The Argentine macroeconomic regime established in 1991 and based on the hard peg of the peso to the dollar at a 1 to 1 parity ended in a multiple crisis in 2001–2. Beyond the default on the public debt, the crisis also involved the breakdown of the domestic financial system, and an almost complete isolation of the country from the international financial markets as a consequence of the default. Under such a deep crisis and the consequent uncertainty, the recovery of the solvency of the financial institutions was an almost insurmountable enterprise. However, with a gradualist approach (contrary to the advice of the International Monetary Fund) and a degree of “regulatory forbearance,” the financial and monetary authorities were able to recover the health of the financial system, which became much more resilient to shocks, even if its development has been very slow and, as a consequence, the contribution of domestic credit to the economic expansion of the 2000s can be considered almost negligible.

KEYWORDS:

• Argentina
• debt default
• financial crisis
• financial recovery
• financial regulations

JEL CLASSIFICATIONS:

• E5, E50, E51, E52, E58, G2, G21, G28

Notes

¹Together with Congo, since 1970, Argentina has suffered the highest incidence of banking crises (four) in the whole world.

²The other triplet crisis in Argentina took place in 1980–82, when a banking crisis (1980) was followed by a currency crisis (1981) and, in turn, by a sovereign debt crisis (1982).

³The “timeline” does not cleanly reflect this causality because the bank run and imposition of controls on deposit withdrawals preceded the sovereign default, which, in turn, preceded the devaluation of the peso, but the causality is nevertheless clear.

⁴In many respects the country's macroeconomic performance after the convertibility crisis was outstanding. But the period of fast economic growth came to an end around 2011, after the less virtuous management of macropolicies brought the economy to a stagflationary scenario under which GDP and employment stopped growing, and entered a “plateau.” For a more comprehensive discussion of the macroeconomic evolution of the country from the beginning of the century and of what we label the “populist macroeconomic policy” period (from 2010 on), see, for instance, Damill et al. (2014, 2015).

⁵According to the official data (Boletín Estadístico del Banco Central–Balance de las Entidades Financieras), at the end of June 2001, the total lending of the domestic financial institutions in foreign currency (U.S. dollars) surpassed by slightly more than 10 percent the amount of total banks’ liabilities in that currency. Meanwhile, total bank credit in foreign currency to the domestic private sector surpassed by more than 30 percent the total outstanding liabilities of the public sector to the domestic banks.

⁶Under the so-called Bonex Plan, during the 1989–90 crisis, the Argentine government had not made this mistake. It froze term deposits and exchanged them for dollar bonds.

⁷Liquidity was extremely scarce and, in general, the payments system faced severe problems.

⁸There were exceptions, mostly foreign trade credit lines and debts under foreign laws or foreign jurisdictions.

⁹Dollar deposits fulfilled the store-of-value function of money, and represented accumulated savings. Deposits that were originally denominated in pesos suffered the full impact of the ensuing inflation, but were mostly current account and savings deposits, which served the purpose of medium of payment. In other crises (Greece's for instance), there is no such distinction.

¹⁰Later, low-amount mortgage loans and loans to individuals were indexed to wages, and, finally, indexation of debt was completely abandoned.

¹¹Firms, however, could not pay their domestic creditors while they were in default on their external debt, so they had to put funds into domestic escrow accounts.

¹²Thus, the asymmetry would depend on the evolution of the real wage. It was initially negative, but later turned positive, so by 2004 the banks were no longer worried about this asymmetry.

¹³According to Halac, Marina, and Schmukler (2003), large and foreign depositors (or investors with access to foreign-based accounts) were fully compensated for their losses, or even obtained capital gains, while small depositors suffered capital losses. Moreover, given the income level of the different social groups involved in the transfers, this may have had negative effects on income distribution.

¹⁴But, of course, banks could not sell their government bond holdings at this higher implicit price in the market, since for the buyers that “special price” did not apply, and also because banks would have had to record the loss compared to the accounting value. Thus, these holdings became quite rigid in the banks’ balance sheets, until the situation improved markedly.

¹⁵To the extent that it increased the government's negotiating position. It was clearly a case of lack of capacity to pay, rather than a case of unwillingness to pay.

¹⁶It started by intervening in the wholesale market, but this proved to be insufficient to have a corresponding impact on the retail market, which was crucial for the formation of expectations. This led the Central Bank to create a mechanism to operate in that market almost directly.

¹⁷By February 17, the Mercado Abierto Electrónico (MAE), where banks trade with each other bilaterally (without a central counterparty), had not recorded a single transaction.

¹⁸Some institutions that had sold dollars forward reneged on their obligations and were sued by their counterparties.

¹⁹This was a correct stance in the first years after the outbreak of the crisis, but it would later create significant distortions once macroeconomic policy became systematically expansionary, leading to double-digit inflation.

²⁰In this regard, one of the lessons of the crisis, which was rapidly included in the Central Bank's regulatory framework, was that it is essential that domestic branches of international banks (not only subsidiaries) have their own capital in the country, instead of relying on presumed support from their parent. This would later be a crucial issue during the banking crisis in Iceland and, more generally, in the eurozone.

²¹Banks could not sell these bonds without suffering a loss equivalent to the gap between the accounting and the market value.

²²These figures are from the Banking Crises Database by Laeven and Valencia (2012). Fiscal costs are defined there as the component of gross fiscal outlays related to the restructuring of the financial sector. They include fiscal costs associated with bank recapitalizations but exclude asset purchases and direct liquidity assistance from the treasury.

²³The guaranteed deposits and the assets with economic value of the failed bank are transferred to create a new “good bank.” The assets can then be transferred directly to the acquiring bank or to a trust fund that ultimately issues certificates of the participation to the acquiring bank. Internationally, this is quite standard nowadays.

²⁴It was often the case that debtors that benefited from pesification had in reality a long dollar position, if funds outside the domestic banking system are considered, including undeclared funds abroad.

²⁵Abiad et al. (2011) find that creditless recoveries tend to be relatively weak and output growth is on average a third lower than in normal recoveries.

²⁶Argentina's recovery in 2003–5 is acknowledged to be a “true miracle” by Abiad et al. (2011), together with the cases of Chile's and Uruguay's crises in 1984–86, and Mexico's crises in 1995–98. They are characterized by double-digit falls in GDP during the recessions (though Mexico's was “only” 6 percent). Thus, Argentina's fast recovery was, in part, due to a “rebound effect.”