Thomas Catan

This selection first appeared in the Financial Times on Dec 20, 2000.

After two nerve-wracking months, Argentina finally has the details of a package of financial aid that will pull it back from the brink of a potentially serious crisis.

The question is now whether the package, which totals nearly US$40bn, will be enough to put the struggling Argentine economy back on its feet. Should it not, analysts warn, the country might find itself in the same position in a year.

Argentina accounts for up to a quarter of tradeable emerging market debt, and international finance officials are concerned that a default by the nation on its US$123.5bn in foreign debt could set off a new round of financial contagion.

The current crisis began when investors, worried about the country's ability to continue meeting its payments, steered clear of Argentine debt.

That forced it to turn to the International Monetary Fund for help in meeting US$15bn in foreign debt payments next year and in financing a US$6.5bn budget deficit.

Although this week's IMF-led package buys Argentina time, it is unlikely to restart economic growth by itself.

The economy has been hit by external factors in the past two years. Russia's debt default caused Argentina's cost of financing to soar and set off events that forced its principal trading partner, Brazil, to devalue.

Not only was Argentina unable to respond to the sudden loss of competitiveness, its currency moved steadily in the other direction. Under its currency board system, which pegs the peso to the dollar, the currency has marched steadily higher while the euro fell—squeezing the economy further. Add to that the falling price of Argentina's commodities and many economists wonder that the economy has not already collapsed.

In their more optimistic moments, IMF and Argentine officials paint the following scenario: with the spectre of default lifted, Argentine debt begins to look cheap by international standards.

Investors should again start buying the country's bonds, bringing down interest rates and helping kickstart the economy.

International factors aiding that scenario are expected drops in the value of the dollar and the level of international interest rates.

The government has also taken steps to reduce its exposure to future credit shortages. As part of its IMF programme, it has pledged to eliminate its budget deficit by 2005 and embark on reforming the social security and pension systems.

"We believe that with these measures, with this financing and with the private-sector involvement, we will be able to restore the Argentine economy to growth," says a senior IMF official.

But a second scenario fills officials in Washington and Buenos Aires with dread. The government fails to get co-operation from the opposition-dominated Congress and cannot implement its measures. Investors remain wary and interest rates do not come down. Confidence fades and Argentina again faces the same problems meeting its foreign debt payments - this time with no foreign backing.

The government of Fernando de la Rua depends on a fragile two-party coalition and the co-operation of an opposition-dominated Congress to implement its legislative programme. But so far, opposition politicians have shown little inclination to help the government.

"The political environment has shown that it's not conducive to successful implementation of reforms," says Bruno Boccara, director for Latin American sovereign ratings at Standard & Poor's. "Those signals do not belong in Argentina at a time of such a serious crisis."

In short, the new package buys time for the government, but little breathing space. International investors will be paying close attention to local politicians in the next few weeks.

Copyright: The Financial Times Limited