Argentina - Economic Briefing March 2003

Macroeconomic Fundamentals Improving but Outlook Clouded by Politics

The recession is beginning to ease and the strengthening of the exchange rate in recent months along with the absence of significant utility rate hikes is containing inflationary pressures. The only doubt overshadowing the economic picture is the political uncertainty related to the 27 April presidential and congressional elections, which raises concerns about the effectiveness of governance under the new president that enters office in May.

Recession eases as economic activity moving towards positive territory
In December, the monthly indicator for economic activity (IMAE, Estimador Mensual de Actividad Económica) contracted 0.3% over the same month the year before. The December figure confirmed the gradually improving economic setting, as it represented the sixth consecutive monthly improvement. In November, the economy still contracted an annual 4.8%. However, in seasonally adjusted terms, economic activity dropped 0.2% compared to a 0.6% increase in November, which indicates that the recovery remains fragile. Final gross domestic product (GDP) figures for the fourth quarter are not scheduled for release until 19 March. However, the preliminary IMAE data set shows that the economy contracted by 11.1%, which is 0.2 percentage points better than last month’s Consensus.

More recent data from the National Statistical Institute (INDEC) show that industrial production is recovering rapidly from the massive blow dealt in the past recession. In January, manufacturing output was up 17.9% over the same month last year. The January figure represented an improvement over the 10.8% annual growth observed in December. Furthermore, industrial activity rose for the third consecutive month with all sectors reaching positive growth. The textile industry led the sub-sectors, expanding a whopping 178.8% over the same month last year. Similarly, automobile and mechanical equipment output rose 96.0% and 86.3% respectively. The slowest growing sectors were food and beverages along with oil refinery, where activity rose a much more moderate 0.1% and 3.1% respectively. In seasonally adjusted terms, industrial production expanded 4.0% in January over the preceding month.

Private consumption remained depressed in December. In December, real supermarket sales were down 28.2% over December 2001, a slight improvement compared to the 28.8% in the prior month but also a clear confirmation that the near-term outlook for consumption remains very depressed, as tight credit, high unemployment and real wage deterioration continue to weigh heavy on the potential for any rebound.

Despite the less propitious consumption data, the government is encouraged by more favourable developments in industry. As a result, the government decided to revise its growth target for this year upward from 3.0% to 3.6%. Participants also believe that the gradual improvement in economic indicators is likely to accelerate this year, with GDP beginning to expand already in the first quarter at a 2.4% pace. Quarterly economic growth rates are likely to accelerate more notably in the second half of the year, lifting annual GDP growth to 3.4% - among the highest in Latin America for 2003. This month’s figure has been revised upward again – by 0.3 percentage points – over last month. The favourable growth trajectory is expected to persist into 2004, when growth should accelerate further to 4.6%.

Government working towards compliance with IMF fiscal targets
According to the Ministry of Economy, the primary public sector surplus reached 854.3 million pesos (US$ 262.5 million) in January, virtually twice the monthly target agreed to with the International Monetary Fund (IMF) and well on target with the 1.5 billion pesos (US$ 430 million) target for the first quarter of this year. The strong January reading bolsters the government’s ambition to generate a primary fiscal surplus (i.e. without interest payments to service debt) of 2.5% of GDP for this year. The January surplus was the result of a strong rebound in tax collection, which rose 64.2% in nominal terms over January 2002, driven by a surge in sales tax receipts (+75.9%) and capital gains taxes (+67.2%). Participants expect the new president, who will be inaugurated on 25 May, to maintain fiscal discipline this year, which, along with higher tax inflows resulting from the pickup in economic activity, should strengthen fiscal balances. As a result, the fiscal deficit is anticipated to remain contained, rising a notch from 1.4% GDP in 2002 to 1.5% this year.

Currency strengthens against regional trend
In February, the peso appreciated 1.4% in nominal terms to reach 3.20 pesos to the US$. The February strengthening followed a 3.5% nominal appreciation in January and confirmed a gradual appreciation in the currency observed since the end of August last year. While the current rebound in part reflects a classic overshooting pattern observed in other economies following devaluation, increased Central Bank intervention in the foreign exchange market has also served to bolster the peso. From August through December of last year, the Central Bank has purchased an average of approximately US$ 500 million monthly. However, the government’s desire to take advantage of the inflationary pass through of a weaker peso to bolster value added tax collection and improve the competitive position of the country’s external sector prompted the Central Bank to ease strict foreign currency controls on 13 February. Monetary authorities decided to allow banks to hold foreign exchange up to 10% of their equity and ease restrictions on the amount of foreign currency that companies are allowed to send abroad for debt service payments. Consensus Forecast participants expect the peso to experience some weakening from its current levels through the end of the year with the currency closing at 3.87 pesos to the US$ - a 13.1% nominal depreciation.