Thomas Catan

This selection first appeared in the Financial Times on Feb 8, 2001.

If Argentina's economy minister Jose Luis Machinea looked relieved on his trip to Washington this week, he was not alone.

Just a couple of months ago, it looked as if Argentina would start the year with the sort of hangover experienced in recent years by Russia, Asia, and Mexico.

With investors unwilling to lend to the country, international financial officials feared that it could be unable to service its US$123.7bn in foreign debt. Such a default, they feared, could again set off a renewed wave of financial contagion in the world financial system.

At home and abroad, critics from all parts of the political spectrum were calling for Mr. Machinea's head.

Fast forward to February, and Argentina is back in business, having returned to international capital markets far quicker than anyone could have expected. Yesterday, it launched an operation to stretch the maturities of around US$3bn in bonds coming due in the next five years. The results of the debt swap, due to be announced today, are widely expected to be favourable.

On Tuesday, the country auctioned US$700m in Treasury bills at the lowest interest rate in 21 months. On Friday, the country broke a six-month dry spell in international markets by selling a Euros 500m (US$470m) international bond at a rate comparable to those it paid before the financial crisis began.

Because of the country's success in returning to capital markets, Mr. Machinea was able credibly to declare that Argentina's financial crisis was at an end.

The reason for the change in the country's fortunes owes much to the evolution of international factors, which began to move in Argentina's favour about the time it got a helping hand from the International Monetary Fund. In December, the IMF spearheaded a package of financial aid totaling nearly US$40m, quelling fears the country would be unable to meet its debt payments this year. Then the US Federal Reserve moved aggressively to cut interest rates—by a full percentage point since the start of the year.

Because of Argentina's peculiar currency regime, which pegs the peso to the dollar at a rate of 1-to-1, the country is unusually sensitive to changes in US interest rates. Furthermore, a cut in US interest rates directly lowers the country's borrowing costs, providing immediate savings to the Treasury.

The dollar has also weakened against the euro, taking the Argentine peso down with it. That has helped Argentine businesses become more competitive abroad, particularly in Europe, where they sell around a fifth of their exports. Prices of the country's agricultural commodities, such as wheat and soya, have rebounded, proving a further boost for the economy.

All of the good financial news notwithstanding, there are many dangers still ahead. The financial crisis may be over, but the recession that has wracked the country for the past 31 months is not.

"The last two months have gone about as well as we could possibly have hoped," said Francis Freisinger, senior Latin America economist at Merrill Lynch. "The question now has to be refocused on the real economy. We've seen the financial variables move in the right direction, but they will only be sustained if the real economy follows through."

So far, there have been some encouraging signs. After reaching record lows, consumer confidence rebounded sharply in January—crucial in an economy that is powered mostly by internal consumption. Car dealerships and mortgage lenders are reporting a rise in inquiries by customers, and construction is already showing signs of recovery.

The stakes are high. Unless the country can demonstrate some signs of growth this year, it could again be facing the same crisis of confidence in the markets from which it had to be rescued in the last.

"If the economy doesn't exhibit signs of growth, say, by the middle of 2001, the financial markets will prove less willing to provide capital," said Marco Santamaria, Latin American debt strategist at Lehman Brothers. That being the case, the government would quickly exhaust its financial aid, reviving questions over how it will raise the estimated US$24bn it needs for 2002.

In the short term, both Mr. Machinea and the IMF are crossing their fingers that the country will grow fast enough to dispel such fears, continuing the virtuous circle that first began in December. But over the long term, they know that the country will always be engaged in a similar financial juggling act unless it can reduce its dependence on foreign capital markets.

Copyright: The Financial Times Limited