The Argentine Economy in the year 2006 ECONOMIC REPORT Year 2006
1. The Current Recovery from a Historical Perspective The Argentine economy has completed another year of significant growth with an 8.5% annual rate, averaging annual growth rates close to 9% in the last 4 years. What was once interpreted as an incidental economic recovery after a serious economic and financial crisis has turned into an unprecedented growth process entering its 5 consecutive year. Argentina s economic performance in the last few years has been remarkable, even if compared against past similar crises and recovery processes. From the beginning of the last century, at least 3 cycles can be identified where the GDP dropped in excess of 20% (on a cumulative basis) and then recovered vigorously again (see Table 1). As shown in Table 1, the GDP fall during the last recession was the second worst crisis in analyzed history. A comparison among these 3 cycles, in turn, has revealed that the 1998-2006 cycle showed the highest GDP per capita growth rate. This increase has already surpassed its prior peak by 6%. Table 1 Boom and recession cycles as from 1990 GDP change Cycle Cycle Year per capita (1) duration Peak 1912 Low 1927-33,3% Peak 1920 23,2% 8 years Peak / Peak Change -12,3% Peak 1929 Low 1932-22,6% Peak 1935 13,7% 6 years Peak / Peak Change -9,6% Peak 1998 Low 2002-23,4% Peak 2006 31,4% - In the international arena, comparisons are somewhat more difficult to make since depressions similar to the one suffered by Argentina towards the end of the Convertibility Plan are certainly not frequent. Nevertheless, the current Argentine recovery may be compared with the process undergone by Chile after the 1981 financial crisis. This crisis had a very serious impact on the subsequent year s output, when the GDP dropped by 14%. The Chilean economy surpassed its previous GDP peak by less than 10% over the 5 years of growth following this crash. During an equivalent period, the Argentine economy outmatched its highest peak since 1998 by almost 15%. Similarly, after 5 years of growth, the level of per capita income in Chile remained lower than the highest point previous to the crisis, whereas Argentina has already exceeded that figure by far (6% higher). Peak / Peak Change 6,0% Changes in Argentine economy development are (1) Low and Peak change, respectively. reflected by the new relative significance of the productive sectors leading this growth. Between 2003 and 2006 the activity of producers of tradable goods recovered substantially, largely as a result of a sustained competitive and real exchange rate. Industry was at the forefront of this group, with an aggregate 67.5% rise from its base level in March 2002, entailing an increase in the added value share of this sector from 14.7% at that time to 16.6% at present. The industrial sector has accounted for more than 20% of the whole economic growth since this upswing started. 13 Introduction The primary sector performed very well too. Its added value rose by 18.6% from its low in February 2002. Although this sector s contribution to GDP growth is relatively small since its weight in the added value is not high, increased agricultural productivity played a key role in improving the external situation. A highly favorable development was shown by sectors producing tradable services in the last few years. Particularly, Tourism (estimated on the basis of Hotels GDP performance) increased by 75% since the first quarter of 2002 on the strength of the competitive advantages furnished by a competitive, real exchange rate. A remarkable growth in the foreign sales of business, professional, and IT (software) services was registered which reduced the negative real services balance of trade which had historically characterized Argentina. Although, in principle, tradable activities were favored by relative prices, non-tradable goods and services producing sectors also performed well. The construction industry played a major role in connection with goods, with a 175% growth since the low recorded in March 2002, accounting for 6 of the 48 points of growth accrued since the beginning of recovery.
Public and private services have accompanied this upswing, booming in the last 2 years as their growth rates developed at a scale comparable to the growth rates recorded for goods. Services associated to the production of goods, basically Trade, and Transportation and Communications, showed the best performance at first. Later, other services such as financial sector and business services started to grow at an accelerated pace and have continued to do so. 2. Macroeconomic Conditions for Sustained Growth 14 Introduction 2.1. Twin surpluses The situation Argentina has experienced in the last few years is practically unprecedented in Argentina s history, not only because of extraordinary growth rates, but also, and particularly, because of the sound macroeconomic bases supporting this expansion. Since 2003 Argentina has had current account and public finance surpluses for the first time in more than 40 years. By mid 2007, positive external and fiscal balances in excess of 3% of the GDP will have been achieved for 5 consecutive years. The balance of payments current account surplus grew by 43% in 2006. In GDP terms, it rose from 3.07% in 2005 to 3.75% in 2006. This surplus level has been recorded for more than 2 years without any immediate sign of decrease, mainly on account of a good export performance. In 2006, in fact, exports grew by 15.4%, while imports increased by 19.4%, the elasticity of imports to economic activity reaching less than 2. This level is significantly lower than in the past decade. Thus, the trade surplus tends to remain close to 6% of the GDP, even within a context of thriving economic activity. Even if the impact of higher international commodities prices on annual results cannot be disregarded, the satisfactory performance of manufacture exports is to be highlighted. The volume of industrial exports grew by 14% in 2006, accounting for 44% of the total increase in foreign sales. Jointly with Manufactures of Agricultural Origin, exports of industrial origin accounted for 77% of the largest exports over the term. Once again, public finance was exceptionally sound considering the last few decades. In 2006, the Nation s primary fiscal surplus was 3.54%, exceeding the 3.26% provided for by the Budget Law. This overperformance seemed to offset the primary surplus reduction recorded in the provinces and municipalities, where this surplus decreased from 0.68% of the GDP in 2005 to 0.50% of the GDP in 2006. The Nation s financial surplus in 2006 remained at 1.8% of the GDP, although in December 2006 the first payment on the GDP-coupon was made. Tax collection continued to rise on a sustained basis, mainly on account of improved collection efficiency resulting from campaigns against tax dodging and labor market improvements (formalization). All this brought about a significant growth in the resources secured by tax payments and social security contributions. The elasticity to tax collection on a national level (without including federal tax sharing) remained above 1 during 2006 (tax collection increased by 26.2% against a 23% growth of the nominal GDP). In 2006, public spending continued to reflect the priority assigned by the Executive Power to improving Argentina s social and productive infrastructure, displaced in the past decade. Primary spending grew by 26.2% over the year. Among these, the most dynamic component was capital expenditure, which increased by 64.5% over the same period. If public investment is estimated as the sum of capital expenditure, the capital transfers made to the provinces, and the resources used by the provinces for this purpose, infrastructure expenditure reached about 3.5% of the GDP against a weak 1.4% of the best year under the Convertibility Plan. Recovering the purchasing power of pensions and the decision to expand the social coverage addressed to the elderly who cannot afford to pay for private services resulted in a 26.9% increase in social security expenditure over the year. Finally, public sector wages were also raised. This increased the purchasing power of civil servants wages by approximately 6% during 2006. The past year marked the return of Argentina to the international markets after the foreign debt was restructured in 2005. Placements in 2006 not only succeeded in extending financing terms for the Government, but also achieved a large reduction in financing costs due to a strong fall (both in absolute terms and relative to other Latin American countries) of the spread associated to country risk. Fiscal improvements were reflected by the performance of the Public National Sector s (SPN-Sector público nacional) gross public debt, which, by the end of the third quarter of 2006, accounted for approximately 65% of the GDP (56% in net terms). Both figures reflect a large reduction against the end of 2005, when the gross and net debt reached 75% and 63% of the GDP, respectively.
In 2006, the macroeconomic equilibrium and the tax collection policies implemented by the Government contained inflationary expectations. By the end of 2006, the Consumer Price Index (IPC) had grown by 9.8% on an annual basis, which means a decrease of 2.5 percentage points against December 2005. Wholesale domestic prices (IPIM - Indice de precios internos mayoristas) also slowed down, increasing by 7.1% on an annual basis against 10.7% in 2005. Inflation had a much lighter impact on the poorest sectors. In fact, in 2006 the IPC increase for the lowest income quintile was 7.5%, while for the highest income quintile the increase reached 11.2%. Relative prices continued to readjust in 2006, service prices recovering against the prices of goods, which grew faster during last year than in 2004 and 2005. A strong rise in the price of commodities exported by Argentina was recorded, which had an impact on domestic prices. 2.2. Investment and savings The economic activity between 2003 and 2006 recorded annual growth average rates of 8.9%, driven by an increase in internal absorption, particularly investments (its most dynamic component). Actually, in 2006 the GDP growth rate was doubled by the investment growth rate, which reached 21.7%, exceeding the maximum value registered over the 90s. Table 2 Savings and Investment At current prices, GDP % Fixed Gross Internal External savings domestic investment savings (indebtedness) 1993-1994 19,5% 15,6% 3,9% 1996-1998 19,2% 15,3% 3,9% 2003-2006 20,4% 23,4% -3,0% Private consumption was also boosted in these years of growth as a result of a continuous increase in the level of employment and worker s wages. The aggregate consumption s share of the GDP in 2006, however, was 3 percentage points lower than that of the previous decade. Naturally, the expansion of internal savings produced an opposite effect, making it possible not only to finance the increasing levels of local investments, but also to maintain a high external surplus (see Table 2). 15 Introduction Chart 1 Lending rates and LEBAC rate Real and nominal % 25 20 15 10 5 0-5 Jan-04 Apr-04 Jul-04 Nominal LEBAC rate Oct-04 Real LEBAC rate Jan-05 Apr-05 Jul-05 The difference of almost 8 percentage points between internal savings during the 90s and the present time reflects the difference between an unsustainable economy which became more and more indebted by financing an ever growing private consumption, the expansion of non-tradable sectors, and the development Nominal lending rate of external assets, against an 18,2 economy which can successfully create the necessary resources 11,8 to finance its investment plans from within and, at the same time, 7,5 reduce its external indebtedness. These resources are fairly Real lending rate 1,7 distributed between the tradable and non-tradable sectors of the economy. As the new configuration of relative prices mainly fosters a more balanced expansion of tradable and non-tradable sectors, it also helps reduce the financial exposure of Argentina and significantly moderates the external weaknesses which had been traditional in Argentine economic history. Oct-05 Jan-06 Apr-06 Jul-06 Oct-06
In 2006 the domestic financial system continued to recover. Private deposits increased at a 20% annual rate and today they account for 23% of the GDP. This increase in deposits and a reduction of the bank s liquidity position helped expand credit, the growth rate of which was close to 40% in 2006, involving a significant share of loans for productive activities. Regarding the financing cost for the non-financial private sector, lending rates remained practically unchanged in the past year. Even though the Central Bank s (BCRA - Banco Central de la República Argentina) liabilities have grown as a result of the sterilization policy carried out by the Bank, LEBAC rates, which rose in the first months of 2006, tended to become stable in the last months of the year (Chart 1). 16 Introduction 2.3. The Role of the Foreign Exchange Policy Keeping a competitive and real exchange rate is one of the keys to the good results achieved in the external sector of the economy (Chart 2). The external surplus, in turn, has contributed to the short- and long-term fiscal soundness, not only because of the fiscal resources associated to the export of primary products, but also, and particularly, because the availability of foreign currency lets reduce the country risk premium, therefore decreasing financing costs for the public sector. It is against this background of external and fiscal comfort that the international investors confidence in Argentina has been reestablished. The private Financial Account has achieved a surplus result for two years now. The inflow of private capitals has kept a reasonable pace as the country risk decreases at great speed and Argentina tends to bring down the cost of foreign indebtedness (Chart 3). The accumulation of international reserves was high in 2006 based on the positive performance of the current account and the financial account of the balance of payments; this accumulation level more than offset the repayment of almost U$s 10.000 million made to the IMF in early 2006. The high stock of international reserves currently available in Argentina can provide coverage for disruptions in international financial markets. This was actually observed in May and June 2006, when the strong ups and downs of international asset markets did not have an impact on the level of internal activity. It should be highlighted that the concentrated effort involved in recovering international reserves was successful without multilateral aid, while net repayments exceeding U$s 25.000 million dollars were made to multilateral credit agencies (Chart 4). 3. Improved Social Indicators All social indicators improved rapidly on the strength of a good macroeconomic performance coupled with the income policies supported by the Government (e.g., minimum wage increases, higher pensions, or the effect of an Inclusion Plan for Pensioners ( Plan de Inclusión Previsional ). Chart 2 Multilateral real exchange rate Base 1998=100 325 300 275 250 225 200 175 150 125 100 75 50 25 I/01 III/01 I/02 III/02 I/03 III/03 I/04 III/04 I/05 III/05 I/06 III/06 Multilateral real exchange rate index Bilateral real exchange rate - Brasil Bilateral real exchange rate - Euro zone Bilateral real exchange rate - USA By the end of 2006, the unemployment rate was 8.7% in the cities surveyed by the Permanent Household Survey (PHS - Encuesta Permanente de Hogares). This was the first value below 10% recorded from the early 90s. Since May 2002, when the urban unemployment rate was 23.4%, the number of unemployed individuals fell by 2.1 million.
Chart 3 Private capital, cost of indebtedness, and country risk In million U$s dollars and annual % Flow in million U$s 4000 3500 3000 2500 2000 1500 1000 500 0 357 2509 4,64 3199 3,49 4,98 2626 3524 3,44 3,17 4,19 4,24 4,92 1824 The major cause for the decrease in unemployment over this period was a higher demand for employment based on an increase in the economic activity on the grounds that employment supply (the rate of activity) rose uninterruptedly since recovery started. In fact, from the first quarter of 2003, the economy could create an aggregate of 3.7 million full-time jobs, without counting in employment Plans. Solely in 2006, 774,000 full-time jobs were created, which implies that the elasticity of employment to GDP remained high, reaching an average of 0.64 in 2006. The concurrence of a favorable macroeconomic background and income policies intended to counter-balance the situation of the most needed sectors have led to a sustained reduction of poverty and indigence since 2003. This trend was maintained in 2006. From the first semester of 2003, the number of poor in the main urban centers in the country decreased by 5.7 million people. Only in 2006, a reduction in excess of one and a half million was achieved. At present, poverty incidence reaches 26.9% in urban centers. Indigence also decreased at a fast pace. From the first semester of 2003, there are 4.1 million fewer indigents, and the most recent figures indicate that the percentage of individuals whose income is below the indigence line is 8.7%. 01 02 03 04 05 06 The necessary corollary of these developments is a significant increase in the real per capita family income, which has grown by 38.2% since the second half of 2003, and a marked improvement in income distribution, evinced by a high reduction in the Gini coefficient. This is a structural indicator that tends to show very slow changes over time and which, nevertheless, exhibited an uninterrupted fall from the second half of 2003, going from 0.519 to 0.489 in the second half of 2006. The real income of the poorer quintiles recovered much more rapidly than higher income quintiles, as reflected by a significant reduction in the average income gap between the richest and poorest deciles, which decreased from 51.5 in the second half of 2003 to 33 for the same period in 2006. 2053 2386 I 05 II 05 III 05 IV 05 I 06 II 06 III 06 IV 06 Rate of public financing Country risk spread Private Capital inflow Chart 4 International reserves and net repayments to international financial agencies In million dollars 60.000 56.000 52.000 48.000 44.000 40.000 36.000 32.000 28.000 24.000 20.000 16.000 12.000 8.000 4.000 0 Accrued payments: U$s 25,547 million Reserves: U$s 32,037 million 3,77 3,42 2,17 5,37 4,98 5,86 J M M J S N J M M J S N J M M J S N J M M J S N J M M J S N J M M J S N 10 9 8 7 6 5 4 3 2 1 0 % rate 17 Introduction