Element of International Business - Case Study Example

ARGENTINA Before 1930, Argentina enjoyed a 70-year period of political stability that fostered impressive economic development, causing the country to be ranked as one of the richest in the world. Its per capita in the 1920s was the seventh highest in the world.1 However, the 1940s saw the country’s global status drastically fall as it succumbed to the forces of isolationism, followed first by military rule, and then by internal disturbances. By the end of the 1980s, the crisis-hit government pushed the country into hyperinflation through deficits and printing excess money, so much so that inflation rate soared to 200%.2 In 1989, prices were galloping at the rate of 5,000 per cent a year, prices were being adapted almost daily, and panic-stricken people were getting rid of their currency as though it was scalding them.3 Carlos Menem, who became president of Argentina in 1989 tried to rectify matters by cutting red tape in a determined effort to rejuvenate industrial development, liberalising trade, throwing open state run enterprises to privatisation.4 Privatisation witnessed Argentina disposing off, what Argentines now remorsefully refer to “las joyas de miabuela” (grandmother’s jewels): Vivendi of France won the privatised water sector, while U.S giants Enron and Fleet were successfully allocated the gas and banking sectors respectively.5 Menem’s ambitious plans did not succeed even after giving it time until March 1991, mainly due to apprehensions over the amount of state deficits.6 The Argentine financial crisis came about from a combination of several incidents, some clearly and unambiguously linked to its political and economic policies, and some 1: SULLIVAN, M. P. Argentina – Political and Economic Conditions and U.S. Relations: fpc.state.gov. 2: Q&A - Argentina’s Economic Crisis: BBC News. 3: Those Who Ruined Argentina: Worldpress.org 4: Q&A - Argentina’s Economic Crisis: BBC News. 5: PALAST, G. Four Steps Which Destroyed Argentina: Prosperityuk.com. 6: Q&A - Argentina’s Economic Crisis: BBC News. beyond the parameters of these national policies.7 The first incident occurred on April 1991. Due to the strong recommendations of Carlos Menem and Minister of Economy Domingo Cavallo, the Argentine Congress passed the Convertibility Law, officially adopting a currency board.8 This move ensured that the peso and the U.S. dollar both circulated freely and in conformity with the law at a 1-to-1 exchange rate.9 In a bid to prevent the government from printing excessive money, the total currency flowing inside the country was rigorously indexed to the number of dollars in the custody of the central bank. The currency board succeeded in bringing back public confidence in the economic system. Secure in the confidence that their monetary possessions (assets, savings and investments) could be converted into U.S dollars at a one-to-one rate, the peso began to be used freely and without apprehension by both Argentines as well as foreigners working in Argentina.10 The second incident took place in May 1995. Carlos Menem, one of the architects of the currency board, was re-elected as president of Argentina. This effectively translated into an assurance that the country would continue adopting the currency board as the fulcrum of its economic policies. However, Argentina’s Gross Domestic Product {GDP} (which is the value of all goods and services produced in a country during one year) fell by 2.8% at the end of 1994.11 The third incident began in 1995. A steady rise in real appreciation of the U.S dollar began, and due to the one-on-one backing to the Argentine peso, the latter too began experiencing the same rate of real appreciation. The Argentine GDP recorded a rise of 7: HORNBECK, J. F. The Argentine Financial Crisis - A Chronology of Events: Iwar.org.uk. 8: Ibid. 9: HANKE, S.H. Argentina’s Current Political-Economic Crisis: CATO Institute. 10: Those Who Ruined Argentina: Worldpress.org 11: HORNBECK, J. F. The Argentine Financial Crisis - A Chronology of Events: Iwar.org.uk. 5.5% in 1996 and 8.1% in 1997. However, there was a definite worsening of current account deficit and debt measures positions.12 The fourth incident took place in July 1997. The East Asian financial crisis began, soon spreading to Russia and Brazil by 1998. As a result, Brazil devalued its currency (the ‘real’) in January 1999. The Argentine peso could not follow the path of the Brazilian real. The resultant overvaluation of the peso caused Argentine exports to become much more expensive as compared to those of Brazil. The matter was exacerbated by the fact that Brazil was the destination of 30 per cent of Argentina’s exports.13 One of the export items was a unique type of long-grain rice liked by Brazilians; even though Brazil experienced a hunger crisis, huge quantities of Argentine rice lay unsold, unable to be marketed to Brazil due to the peso’s overvaluation.14 In addition, a reduction in global farm product prices, and an increase in world oil prices added to Argentina’s economic woes. All these factors combined to severely dent its capability to earn valuable foreign exchange need to repay its dollar debts.15 The fifth incident occurred in September 1999. The Argentine Congress enacted the Fiscal Responsibility Law that required mandatory cuts in federal and provincial government expenditure.16 This law, coming at a time when the economy was already grappling with overvalued peso fallout, triggered off a vicious cycle: the government was forced to curtail its expenses to pay back foreign debt, but by doing so brought the economy to a virtual halt; this lead to a reduction in government revenue, which forced it 12: HORNBECK, J. F. The Argentine Financial Crisis - A Chronology of Events: Iwar.org.uk. 13: Ibid. 14: PALAST, G. Four Steps Which Destroyed Argentina: Prosperityuk.com. 15: Those Who Ruined Argentina: Worldpress.org 16: HORNBECK, J. F. The Argentine Financial Crisis - A Chronology of Events: Iwar.org.uk. to curtail its expenses even more.17 The sixth incident began in October 1999. Carlos Menem’s party was defeated in the elections that month. Fernando de la Rua was elected president of Argentina.18 Soon after his inauguration in December 1999, the new president applied to the International Monetary Fund (IMF) for financial help. The IMF responded positively on March 10, 2000 granting Argentina an amount of U.S $ 7.2 billion spread over a period of 3 years. This standby arrangement was subject to a strict fiscal adaptation, taking for granted that the Argentine GDP would improve on its actual growth rate of 0.5% and rise by 3.5% in that year.19 The seventh incident occurred on May 29, 2000. The Argentine government declared a budget reduction of $ 1 billion, expecting that general financial accountability would revive the economy with revitalised self-assurance.20 The eighth incident occurred on January 21, 2001. The IMF, which had completed its mandatory thorough yearly review of member nations’ economies (called the Article IV Consultation), decided that Argentina’s economic performance was below expectations, and granted it a $ 40 billion multilateral assistance deal. The new deal took for granted that Argentine GDP would rise by 2.5% in 2001 (the country’s GDP that year was actually –5 per cent).21 The ninth incident began on March 19, 2001. Domingo Cavallo, the co-architect of the currency board policy, was re-appointed Minister of Economy, supplanting Ricardo Lopez Murphy, who resigned. On June 16, 2001 the government declared it would adopt 17: Those Who Ruined Argentina: Worldpress.org 18: SULLIVAN, M. P. Argentina – Political and Economic Conditions and U.S. Relations: fpc.state.gov. 19: HORNBECK, J. F. The Argentine Financial Crisis - A Chronology of Events: Iwar.org.uk. 20: Ibid. 21: Ibid. a $ 29.5 billion voluntary debt restructure involving short-term debt being swapped with new debt characterised by higher rates of interest and longer maturity period.22 This announcement was followed by another on June 19, 2001 when the government, acting on the instigation of Domingo Cavallo, altered the peso’s anchor from the dollar to a 50-50 basket featuring the euro and the dollar,23 and sacrificed a 7 per cent devaluation for foreign trade in the expectation that the country’s competitiveness on the international stage would be enhanced. This move prompted several economic analysts to raise doubts about the soundness of the convertibility system that was being followed by Argentina.24 Also during that month, Pedro Pou, the central bank president who was free from undue control by any party or interest group, and who liked dollarisation better than devaluation, was removed from his job citing fictitious reasons, paving the way for the appointment of the more flexible Roque Maccarone in his place.25 The tenth incident occurred on July 10, 2001. Minister of Economy Domingo Cavallo declared the country’s intention to adopt an austerity plan to balance its budget. The plan, named “Zero Deficit Law,” was eventually passed by the Argentine Congress 19 days later, but not before 2 things happened: the markets immediately reacted negatively by showing a decline in confidence, and the country was traumatised by a countrywide strike instigated by unions against the Zero Deficit Law.26 The eleventh incident began on September 7, 2001. To help Argentina effectively implement the Zero Deficit Law, the IMF increased the already lent amount by a further $ 7.2 billion. Following the coming to power in both chambers of the Argentine Congress 22: HORNBECK, J. F. The Argentine Financial Crisis - A Chronology of Events: Iwar.org.uk. 23: HANKE, S.H. Argentina’s Current Political-Economic Crisis: CATO Institute. 24: HORNBECK, J. F. The Argentine Financial Crisis - A Chronology of Events: Iwar.org.uk. 25: HANKE, S.H. Argentina’s Current Political-Economic Crisis: CATO Institute. 26: HORNBECK, J. F. The Argentine Financial Crisis - A Chronology of Events: Iwar.org.uk. of the Peronist party which won the mid-term elections on October 14, 2001, public sector salaries began to be paid in the form of “scrip” (temporary paper currency) because federal funds were seriously depleting. On November 6, 2001 Argentina declared a second debt exchange, swapping $ 60 billion of bonds bearing an interest rate between 11 and 12 per cent with new debt characterised by longer maturity periods but bearing a reduced interest rate of 7 per cent.27 The country was forced to do this as its foreign debt had reached 50 per cent of its GDP, and it found that it could no longer borrow to roll over those debts and pay the interest.28 The reduced interest rate was against economic ethics, prompting international bond rating institutions to charge Argentina with default.29 The twelfth incident began on November 30, 2001. Panic-stricken Argentines rushed to withdraw money from banks. The central bank’s reserves plummeted by $ 2 billion within just 24 hours, prompting President de la Rua to enact a rule that a maximum of $ 1,000 could be withdrawn from personal bank accounts each month.30 Massive protests over this announcement began all over the country from the very next day as irate Argentines recalled how high inflation during identical bank deposit freezes in 1982 (instigated by Cavallo) and 1989 had ripped off the real value of their savings.31 The IMF exacerbated Argentina’s problem by refusing to give it a $ 1.24 billion loan installment although it was due on December 5, charging the country with constantly not being able to honour its financial commitments. Faced with no other solution, the Argentine government declared on December 7 that it was no longer in a position to give 27: HORNBECK, J. F. The Argentine Financial Crisis - A Chronology of Events: Iwar.org.uk. 28: FELDSTEIN, M. Argentina’s Fall – Lessons from the Latest Financial Crisis: Foreignaffairs.org. 29: HORNBECK, J. F. The Argentine Financial Crisis - A Chronology of Events: Iwar.org.uk. 30: Ibid. 31: HANKE, S.H. Argentina’s Current Political-Economic Crisis: CATO Institute. foreign debt payment assurance.32 The thirteenth incident began on December 13, 2001. The Argentine government declared that the unemployment rate (a measurement of the proportion of unemployed persons in the labour force of a country during one year) had risen to an all-time high of 18 per cent. Unions immediately responded by calling a countrywide strike on the same day. Argentines began looting supermarkets from the next day. This was soon accompanied by violent public disturbances in all major Argentine cities.33 Joseph Stiglitz, an American economist, calls this stage in Argentina’s austerity process as “the IMF riot,” saying that when a country is “down and out, [the IMF] takes advantage and squeezes the last pound of blood out of them. They turn up the heat, until, finally, the whole cauldron blows up.”34 The fourteenth incident began on December 19, 2001. Minister of Economy Domingo Cavallo resigned. President de la Rua resigned the next day, prompting the Argentine Congress to appoint Senate President Ramon Puerta as provisional president for 48 hours, replacing him after that period with San Luis Governor Adolfo Rodriguez Saa as interim president. On December 26, Saa announced quick-fix solutions, relaxing liquidity standards for banks and proclaiming a new 3-pronged economic scheme whereby public debt payments would be put on hold, new jobs would be created, and a new currency called “Argentino,” which was not convertible into the U.S dollar, would come into effect from January 2002. His scheme did not go down well with the public. Violent public disturbances continued all over the country, precipitating the resignation of President Rodriguez Saa as well as Senator Ramon Puerta (who feared he would again be 32: HORNBECK, J. F. The Argentine Financial Crisis - A Chronology of Events: Iwar.org.uk. 33: Ibid. 34: PALAST, G. Four Steps Which Destroyed Argentina: Prosperityuk.com. appointed provisional or interim president) on December 30. The Argentine Congress appointed Peronist Senator Eduardo Duhalde as president on January 1, 2002.35 The fifteenth incident began on January 6, 2002. President Duhalde instigated radical changes in economic policies. First of all, the currency board policy was totally scrapped. Secondly, the Argentine peso was subject to a 2-tier policy: devaluation by 29 per cent (equal to 1.4 to a dollar) for large foreign trade transactions, and a floating rate for smaller value transactions. Thirdly, all debts up to $ 100,000 were changed into Argentine pesos (devaluation costs were transferred to creditors). Fourthly, the government confirmed its total backing for dollar deposits. Fifthly, while retaining the restriction of $ 1,000 maximum monthly withdrawal from personal savings, all checking accounts with balances more than $ 10,000 and all savings accounts with balances more than $ 3,000 were to be covered by deposit certificates that could be cashed only after 12 months. Sixthly, a new tax on oil was passed to reimburse creditors for losses they would incur.36 The sixteenth incident began on January 11, 2002. As a result of the new economic reforms, the Argentine peso fell 2 times in a space of 4 days when the foreign currency market opened after 3 weeks: On January 11 it fell to 1.7 per dollar, and on January 15 it fell to 2.05 per dollar. Seeing the precarious position of the Argentine economy, on January 16, the IMF granted it a 12-month extension on the $ 936 million that was due from it on January 17. In what was a body blow to banks, causing a massive incompatibility in their balance sheets, on January 17 the government declared that all dollar loans of $ 100,000 or more would be changed to Argentine peso at the immovable 35: HORNBECK, J. F. The Argentine Financial Crisis - A Chronology of Events: Iwar.org.uk. 36: Ibid. rate of 1.4 to the dollar. On January 19 President Dulhalde retracted the government’s commitment to give total backing to dollar deposits (which he announced 9 days earlier), instead declaring that dollar deposits would be changed to Argentine peso at a rate to be announced later. His announcement was followed by the enactment of the bankruptcy law on January 23 that envisaged employing capital controls to streamline private foreign debt payments due up to December 2003.37 The seventeenth incident began on January 28, 2002. Argentine Foreign Minister Carlos Ruckauf had a meeting with the Bush Cabinet members to request U.S political and financial help, especially by using its influence with the IMF. The U.S complied, and as a result, IMF officials had a meeting with Argentine ministers on January 30 during which the latter promised that the country would switch over to floating exchange rate soon. The Argentine Chamber of Deputies enacted a contentious new bankruptcy law that made 3 changes in the previous bankruptcy law passed 7 days earlier: foreign debt payment would be definitely made, dollar debts below $ 100,000 would be permitted to be converted into Argentine pesos at the rate of one-to-one which would be favourable to debtors, and creditor action on loan debt defaults would be placed on hold for 6 months. This marked the end of the Argentine financial crisis.38 Argentina was saved from its financial crisis by 3 factors: the increasing global demand for its main exports (agricultural and mining products), the extremely good financial condition of its two largest importers – China and Russia,39 and high world commodity prices.40 This enabled the Argentine government to restructure its 37: HORNBECK, J. F. The Argentine Financial Crisis - A Chronology of Events: Iwar.org.uk. 38: Ibid. 39: MITROPOLITSKI, S. Argentina – Economic Miracle: International Real Estate Digest. 40: Economic Data - Argentina: The Economist. defaulted bond debts of over $ 100 billion at an impressive discount in 2005,41 paving the way for a re-start of the country’s economic development. At the close of 2005, the Argentine GDP was $ 13,100.42 Argentina paid back the final 9.5 billion loan amount to the IMF in 2006; the same year witnessed its GDP growth rate rise to 8.5%, and the exchange rate of the peso-U.S. dollar stabilised at 3.1.43 Carrying the expectations of its 39.9 million population {as on July 2006},44 Argentina is headed for the future on a more stable economic platform headed by current president Nestor Kirchner who has instigated impressive changes in sectors of human rights, economic policy and institutional renovation that have caused Argentines to once more believe in democracy.45 Kirchner and his senator wife Cristina are the frontrunners to win the coming presidential elections to be held on October 28, 2007.46 The experience of Argentina exposes the glaring faults in the IMF free market policies. The IMF was not willing to accept that a free market is not created spontaneously, but needs the presence of risk-free transactions, a fair judiciary, sound infrastructure, capable government administrators and government action to alleviate as much as possible the fallout of the reform on the poorest sectors of society.47 A liberalised free market liberates capital, causing it to flow in and out across borders; but once Argentina’s economy began to weaken, money just kept flowing out.48 Holding on tenaciously to its dogmas while relying ideologically and psychologically on powerful financial partners, the IMF turned a blind eye to the disaster brewing in Argentina. A 41: SULLIVAN, M. P. Argentina – Political and Economic Conditions and U.S. Relations: fpc.state.gov. 42: HORNBECK, J. F. The Argentine Financial Crisis - A Chronology of Events: Iwar.org.uk. 43: Economic Data - Argentina: The Economist. 44: HORNBECK, J. F. The Argentine Financial Crisis - A Chronology of Events: Iwar.org.uk. 45: SULLIVAN, M. P. Argentina – Political and Economic Conditions and U.S. Relations: fpc.state.gov. 46: Economic Data - Argentina: The Economist. 47: Those Who Ruined Argentina: Worldpress.org 48: PALAST, G. Four Steps Which Destroyed Argentina: Prosperityuk.com. modern, brave nation that had broken the shackles of a military dictatorship was subjected to the draconian directions put forward by the IMF and leaders of the global financial world that ultimately proved too stringent to be practically followed. Argentina’s predicament was well worded by the French Observatoire Francais des Conjonctures Economiques in its October 2001 edition: “No one can expect the impossible from Argentina.” Instead of alleviating its stringent loan terms and conditions, the IMF did the opposite – until the country that could take no more austerity measures responded with an unprecedented public explosion of anger, large scale looting and rioting that brought down its government and put an abrupt end to the IMF schemes. The traumatic Argentine experience can be termed as the most serious, absolute, dramatic and repulsive economic and financial failure the world has seen since World War II.49 The Argentine lesson will make all emerging market nations very wary of adopting the IMF free market policies that promise to boost the living standards of their people.50 A lesson for them from Argentina’s unsuccessful currency board is that an unsuitable exchange rate peg is destined to fail no matter how strictly conditions are enforced to create trustworthiness. A peg anchored to a basket of currencies would be more appropriate – for example, during the July 1997 South Asian crisis, Singapore, which used a flexible basket peg, put up a better performance than Hong Kong whose currency was pegged to the U.S. dollar.51 49: Those Who Ruined Argentina: Worldpress.org 50: FELDSTEIN, M. Argentina’s Fall – Lessons from the Latest Financial Crisis: Foreignaffairs.org. 51: SPIEGEL, M. Argentina’s Currency Crisis – Lessons for Asia:Federal Reserve Bank of San Francisco. References used: ANON. 2007. Economic Data - Argentina: The Economist. [Online]. Available: http://www.economist.com/countries/Argentina/profile.cfm?folder=Profile-Economic%20Data [9 April 2007] ANON. 2003. Q&A - Argentina’s Economic Crisis: BBC News. [Online]. Available: http://news.bbc.co.uk/2/hi/business/1721061.stm [9 April 2007] ANON. 2002. Those Who Ruined Argentina: Worldpress.org. [Online]. Available: http://www.worldpress.org/americas/0302observateur.htm [9 April 2007] FELDSTEIN, M. 2002. Argentina’s Fall – Lessons from the Latest Financial Crisis: Foreignaffairs.org. [Online]. Available: http://www.foreignaffairs.org/20020301facomment7968/martin-feldstein/argentina-s-fall-lessons-from-the-latest-financial-crisis.html [9 April 2007] HANKE, S.H. 2002. Argentina’s Current Political-Economic Crisis: CATO Institute. [Online]. Available: http://www.cato.org/testimony/ct-hanke030502.html [9 April 2007] HORNBECK, J. F. 2002. The Argentine Financial Crisis - A Chronology of Events: Iwar.org.uk. [Online]. Available: http://www.iwar.org.uk/news-archive/crs/8040.pdf [9 April 2007] MITROPOLITSKI, S. 2006. Argentina – Economic Miracle: International Real Estate Digest. [Online]. Available : http://www.ired.com/news/mkt/argentina2006.htm [9 April 2007] PALAST, G. 2003. Four Steps Which Destroyed Argentina: Prosperityuk.com. [Online]. Available: http://www.prosperityuk.com/prosperity/articles/argen.html [9 April 2007] SPIEGEL, M. 2002. Argentina’s Currency Crisis – Lessons for Asia: Federal Reserve Bank of San Francisco. [Online]. Available: http://www.frbsf.org/publications/economics/letter/2002/el2002-25.html [9 April 2007] SULLIVAN, M. P. 2006. Argentina – Political and Economic Conditions and U.S. Relations: fpc.state.gov. [Online]. Available: http://fpc.state.gov/documents/organization/75250.pdf [9 April 2007] Read More