All Out June 2nd: Argentina and It’s Multiple Dollars and Multiple Defaults
We’re writing this on a plane on our way to Argentina and were reminded of a very interesting article we read some years ago. I don’t know if you’ve been to Argentina before but it’s our first time here. Before coming we reached out to some local contacts to see how the currency situation worked. They told us to bring USD cash and exchange it in the black market. Argentina has had currency controls on and off for some years, but the most recent one started in 2019. The way it works is that there is an official exchange rate set by the central bank, currently at around 245 Pesos to the Dollar. However, the black market rate, called the Blue rate, sits at around 485 Pesos to the Dollar. Incredible that the unofficial rate is close to being twice the official rate. Why does this happen? Basically the government has imposed currency controls and has set limits as to how much you can exchange into dollars and limited currency transactions out of the country. Since inflation is extremely high (100% as of the last reading), people want USD instead of Pesos. Imagine trying to save in a currency that is depreciating at such a high rate…impossible. Our concern coming here was how do we not get ripped off with the official exchange rate. The answer was basically bring USD cash and exchange it on the streets, they even provided some contacts to do this. This dual exchange rate has become so extreme that the credit card processors (Visa and MasterCard at least, AMEX we think hasn’t), has started using a rate close to the Blue exchange rate. The government realized this was getting out of hand for tourists and came to an agreement with credit card processors for them to use a rate close to the Blue rate if you use an international credit card.
Talking with several locals here we can see what damage these series of defaults and inflation has on local business. Having two exchange rates (well actually there are many, apparently during the world cup there was a Qatar dollar and Coldplay came down to play and they had a Coldplay dollar), makes even day to day life complicated. The people we were talking to have a tech company, and many of their sales are outside of Argentina. Therefore they accumulate dollars and eventually need to bring them back to spend in the country. However, if you simply transfer money in it will automatically be converted into pesos at the official exchange rate. People here have implemented creative solutions to bring money into the country at better exchange rates than the official. One of these solutions is to buy Argentinian bonds trading in New York, transfer them locally and then sell them here (apparently there’s another dollar exchange rate for these bonds). Another surprising fact is that they said it was so complicated to have Argentinian clients that it wasn’t worth them taking them on unless it was a very large account. Billing was complicated because since inflation is so high (100% / month) they had to bill in dollars, but getting paid was complicated because of the exchange rates etc. The amazing thing about Argentina is that this has been 100% self inflicted by bad government management. This (along with Venezuela and other countries) should be a warning to us all of what can happen to a country with terrible economic policies. Not to mention taxes here are insanely high, apparently there’s a wealth tax for money held offshore of up to 2.25%.
The US has finally passed a debt ceiling bill, suspending the debt ceiling until January 1, 2025 (essentially kicking the can down the road, and we’ll probably be writing about this in a year and a half). The people who are against the deal will claim that it’s irresponsible and that the US is on an unsustainable path of spending. That if the US doesn’t “get its house in order” then the government will be bankrupt (impossible since they are literally the only entity in the world that can print dollars) and there will be hyperinflation.
With this trip to Argentina and the recent debt ceiling debacle we thought it would be interesting to look at hyperinflations and what caused them (hint: they weren’t caused by just printing too much money). We’re basing this off a paper by GMO’s James Montier, you should read it if you have the time. Montier studies 8 hyperinflationary episodes and their root causes. He says that there are essentially 3 elements that lead to hyperinflation: large supply shocks, big debts denominated in foreign currency, and a transmission mechanism (such as a wage price spiral). He lists the following inflationary episodes which supports his argument:
- Weimar Republic (1922 – 1923): damaged production capacity following WWI and large foreign claims from war reparations
- Hungary (1945 – 1946): destruction of Hungary’s capital stock during WWII and reparations
- China (1937 – 1949): war, invasions
- Bolivia (1984 – 1985): drop in mineral prices led to a collapse in exports and heavy reliance on external financing
- Brazil (1987 – 1994): oil supply shock and reliant on external debt financing
- Federal Republic of Yugoslavia (1992 – 1994): war led to large supply shock, sanctions
- Georgia (1992 – 1994): breakup of the Soviet Union led to large supply shocks, relied on large energy imports
- Zimbabwe (2007 – 2009): drop in productive capacity leading of food to massive import needs
So those that say that the US will experience hyperinflation because of money printing appear to be wrong. The US has none of the elements present. It hasn’t suffered a large supply shock, it has no foreign currency debt, and there is no transmission mechanism present. As further validation to Montier’s argument is the inflation we’ve experienced after Covid. Covid was a huge supply shock, this led to high inflation which we’ve experienced during the last year and a half. However, the supply shock was temporary, so it didn’t lead to hyperinflation and inflation has been actually coming down.
Another interesting fact about Argentina, from 1815 – 2016 they have defaulted 7 times on their sovereign debt. The latest default was in 2020, and before that it had been in 2014 (2nd time in 10 years, since they had defaulted in 2001) and it took them several years to get out of default. There was even a hedge fund which embargoed an Argentinian warship as part of the debt restructuring negotiations. However, during 2017 there was such euphoria in markets and apparently the government at the time was implementing reforms, which made it possible for Argentina to issue a 100-year bond (yes one hundred years for a country which had defaulted 2 times in the 2000s alone), at an coupon rate of 7.125% and denominated in USD. Imagine buying a 100 year bond from a country which had defaulted twice in the 10 years prior and had a history of serially defaulting; who in their right mind would buy such a bond? Argentina defaulted 3 years lated but the bond traded as low as 25 cents on the dollar in 2020…
