What Happened to Argentina?

[ full report - http://www.cepr.net/IMF/what_happened_to_argentina.htm ]

What Happened to Argentina?
By Mark Weisbrot and Dean Baker

January 31, 2002

Introduction

On December 20, President Fernando de la Rua of Argentina resigned, after weeks of rioting and looting that had left 27 people dead. Within 14 days the government was officially in default on its international debt, the largest default of a national government in recent memory.

As reported in the United States and the international press, the story was one of a profligate government that could not contain its spending, and make the necessary "hard choices" to build confidence among investors and lenders, including official creditors led by the International Monetary Fund. Indeed, the Fund precipitated the final crisis by refusing to disburse a scheduled $1.3 billion loan on December 5, 2001, because of "Argentina's inability to meet the targets under the zero deficit law."[1]

As millions understand it, Argentina's credit card was cut off because it ran up too big of a tab and couldn't pay its bills. But the official numbers tell a very different story. It is the story of debt, inherited from the past, that was perhaps manageable until—through no fault of the debtor—interest rates on the country's borrowing increased. Higher interest payments, not increased spending, led to higher deficits. Growing deficits in turn created doubts about the overvalued exchange rate, which pushed interest rates still higher, creating larger deficits, in a hopeless spiral that ended in default and devaluation.

As will be seen below, policy failures played a role in Argentina's economic collapse. The most important mistake was the fixed exchange rate, which tied the Argentine peso to the US dollar. But the immediate cause of Argentina's crisis was a series of external shocks that were beyond its control, beginning with the US Federal Reserve Board's decision to raise interest rates in February of 1994. The effect of each of these shocks was much worse than it otherwise would have been, because of the fixed exchange rate. But the commonly believed story that the government could not accept a sufficient dose of the painful medicine of austerity, or spent its way into a hole, is not supported by the data.

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