Oratoria

The Argentine Currency Board

Miguel A. Kiguel Chief of Advisors and Undersecretary of Finance Ministry of Economics and Public Works and Services Argentina

I am grateful to Alejandro Guerson and Silvia Triaca for their assistance in preparing this paper. The views expressed in this paper do not necessarily reflect those of the Ministry of Economics and Public Works and Services

AbstractThis paper evaluates the usefulness of a currency board regime based on Argentina’s experience. Argentina adopted the currency board in March 1991 to put an end to a long history of large macroeconomic imbalances and high inflation that culminated in the hyperinflation process of 1989-91. The regime has been extremely successful in restoring macroeconomic stability and ensuring low inflation. Theadoption of a tight fiscal stance, and of sound polices to strengthen the financial system were critical to ensure the resilience of the economy to respond to adverse external shocks. The paper will argue that a strict exchange rate rule like the one used in Argentina can be a strong alternative to other exchange rate regimes to ensure macroeconomic stability in a globalized world with highlyintegrated capital markets.

Index

1. Introduction

2. Inflation and stabilization in Argentina

3. The Convertibility Plan 3.1. The Monetary Regime 3.2. The Fiscal Adjustment 3.3. Financial Reform and the Capital Market

4. The Results of the Convertibility Plan 4.1. The Initial Results 4.2. The Convertibility Plan during the Tequila Effect 4.3. The Banking System during the TequilaEffect 4.4 Dealing with Failed Banks

5. The Policy Response to the Tequila

6. Argentina during the Crises of the late Nineties 6.1 Macroeconomic Performance 6.2 The Banking System

7. Conclusions

1. Introduction

The recent turmoil in international capital markets has generated an unprecedented degree of volatility in exchange rates and domestic interest rates. Devaluations in emergingcountries were the prelude to a period of high volatility, where sharp increases in interest rates failed to avoid an uncontrolled collapse of the currency. Foreign exchange crises were usually accompanied by banking crises and problems to service private and public sector debt. As a result of this turmoil many emerging market economies suffered deep recessions. The severity of these crises hasstarted a debate about their causes and about policies that can help to avoid them. While there is an ongoing debate among economists and policy makers about the ability of alternative exchange rate regimes to deal with this type of crises in a globalized world, there are signs that the debate is converging to two main alternatives: freely floating exchange rates or currency boards. Argentina is oneof the few countries that has had a successful currency board in place for a number of years. The currency board was adopted in April 1991 in response to one of the worst inflation track records since the sixties that culminated in the hyperinflation of 1989. Since its adoption, Argentina has experienced one of the most remarkable turnarounds in economic performance and has managed to overcomethree large external shocks (the tequila effect, the East Asian crisis and the Russian default). The convertibility plan has been extremely effective in restoring price stability and growth. Few countries experienced such a dramatic improvement in a short time. Table 1 shows the significant change in performance between the eighties, the decade of the debt crisis, and the nineties, the time when thecurrency board has been in place in Argentina. Inflation fell from more than 600% in the eighties to international levels in the nineties, while economic growth experienced a sharp reversal from an average contraction in GDP of 1.1 percent in the eighties to an increase of 5.8 percent in output in the nineties. And the country has attracted a large pool of foreign direct investment, improve...