The new president of Argentina is ushering in a very extensive tax scheme to try and stimulate the economy, and reduce the purchase of US dollars, but he is doing so without an economic plan.
January 19, 2020
By: Bobby Casey, Managing Director GWP
Argentina has been struggling for a while, and there is a clear desire to get out of the economic tar pit they are in. The sentiments are like that of Spain, Italy, France, and Greece: Fix this mess, but don’t touch the public programs.
The earlier administration was short-lived under Mauricio Macri. He had a lot of yarn to untangle in a short period, and ultimately could not carry out what he set out to do in four years. He tried to take the slow route, to make the changes more palatable while appealing the foreign investors with his pro business policies.
As Foreign Policy reports, Macri was in an impossible situation. This is what he was up against:
Macri also had to tackle a tangle of price controls, export taxes, and capital controls that throttled economic activity, not to mention a bloated public payroll and unaffordable subsidies for public utilities, including natural gas, electricity, buses, and subways. Many of these policies had been in place since Argentina’s 2001 economic collapse—costly emergency measures that Argentina’s populist leaders never unwound.
The new president, Alberto Fernandez, brought back the previous president, Cristina Fernández de Kirchner. They reject Macri’s austerity programs which they claim is exacerbating the recession.
It was not the austerity so much as a confluence of unfortunate events:
One of the worst droughts the country had seen in decades, reducing their exports and consequently expected revenues from those exports.
Interest rate increases in the US, making borrowing more expensive during a time they could not afford it.
Economic troubles in Turkey, which seemed to have many emerging market investors recoil.
That the country is this fragile that it couldn’t withstand any of these, much less all three, is telling; but the fact remains, austerity was not the culprit.
Their Economic Minister, Martin Guzman, likewise understands that they can’t keep printing their way out of debt.
The current economic conditions in Argentina are not quite Venezuela, but they are not enviable:
Argentina is suffering with double-digit unemployment, inflation above 50%, and more than a third of citizens living below the poverty line. Additionally, the government is running low on foreign reserves and must renegotiate its debts with private creditors and the International Monetary Fund, which gave the previous government a record $56 billion bailout. Investors see a very high chance of a sovereign default.
One of the key issues here is that this administration has come up with an elaborate tax scheme for the purposes of generating revenues, but no actual economic plan on how they intend to move forward and no projected revenues from this emergency tax scheme.
When you execute without a plan, unintended consequences are inevitable.
Bloomberg writes out the key tenets of the tax scheme:
Authorize the executive government to carry out measures necessary to ensure the sustainability of public debt
Authorize the government to issue as much as $4.6 billion of 10-year, dollar-denominated notes to the central bank in exchange for hard currency, which will be used to service dollar debt payments
Boost salaries, attending to the most vulnerable sectors and creating mechanisms to facilitate salary agreements
Boosting salaries, as we’ve seen in the US, will slow hiring if not hurt existing businesses.
Utility prices will remain unchanged for 180 days
Maintain electricity and natural gas subsidies under federal jurisdiction and authorize the executive government to start the renegotiation process
Authorize the executive branch to “administratively intervene” in national energy regulators
Nationalized energy doesn’t have a good track-record either, when we look at places like Venezuela and Puerto Rico.
Soybean export taxes may rise to 33% from 30%
Wheat and corn export taxes may rise to 15% from 12%
I don’t see how the farmers are helped by squeezing their margins when they are still trying to recover.
U.S. Dollar Purchases
Argentina to apply 30% tax on dollar purchases during five fiscal periods
Government to use 70% of those proceeds for social security
Tax will also apply to foreign transactions
The government went out of its way to fight the Blue Dollar, only to institute policies that will more than likely breathe new life into it. That which is taxed and regulated the most, have the most robust black markets. The US drug war corroborates this.
More specifically, where there is “legality” and high taxes, there are still black markets; as demonstrated by California’s legalization fine print. If it’s cheaper to buy it on the streets, that’s where people will go.
Taxes on the wealthy
Tax of 0.75% on assets between $3 million and $6.5 million
Tax of 1% on assets valued between $6.5 million to $18 million
Tax of 1.25% on assets $18 million and higher
We can expect capital flight soon of the wealth left in Argentina. Without a doubt, the wealthy connected folks out there already know not to keep their wealth in the country for these very reasons.
What is the point of all this?
Daniel Kerner, managing director at Eurasia Group, wrote in a note published before the bill’s formal announcement, “The government has two main goals with respect to the economy: boost growth quickly through domestic consumption and minimize dollar outflows.” (Source: Bloomberg)
If either are achieved, it will not be on any sustainable basis. Macri was on a better course, but for some reason, the people of Argentina have a higher threshold of patience when it comes to taxing and spending than they do for austerity and course correction.
Not only is it easier to get into trouble than get out of it, it’s seemingly more comfortable to stay in trouble than get out of it.