21 August 2001 Bonds replace cash in Argentina

By Thomas Catan Desperate times call for desperate measures.

This week, employees of the cash-strapped province of Buenos Aires will start receiving part of their salaries not in the country's official currency, the peso, but in one-year bonds, christened "Patacones" by the province's governor after a long-defunct national currency.

Electronic cash machines belonging to the provincial bank are being loaded up with $90m in the freshly-minted bills, and, barring any more court interventions, 150,000 state employees will start receiving Patacones for wages of more than $740 a month.

The move is a sign of problems faced by Argentina as a whole as it struggles to keep up payments on its $130-billion in debt following three years of recession.

A high-level delegation of Argentine officials has been locked in talks with the International Monetary Fund for more than a week, seeking a fresh injection of aid to tackle the crisis of confidence engulfing its economy.

On Sunday, the G7 nations issued an ambigious statement echoing recent remarks by Paul O'Neill, US Treasury secretary, that the US is working to create a "sustainable" Argentina.

George W. Bush, the US president, also said recently the US was keeping all options open on Argentina, leading some investors to speculate that the US could be demanding Argentina restructure its $13-billion in debt before receiving further aid.

As Argentina anxiously awaits word from Washington, the national drama is being played out on a smaller scale all over the country. Provincial governments have been hit by the recession, squeezed by falling tax receipts and cut off from any borrowing.

With an estimated $25-billion in provincial debt outstanding, the worry is that a default by a big province such as Buenos Aires could force the federal government to step in, putting its shaky finances further at risk.

Investors recall a similar occasion provided the catalyst for Brazil's crisis nearly two years ago, ending in a devaluation in January 1999.

The printing of new pseudo-currencies raises questions about the future of Argentina's "convertibility" system - the 10-year-old currency regime that keeps the peso tied to the US dollar.

Historically, when governments were hard pressed to pay workers and suppliers they resorted to printing money, resulting in inflation rates that peaked at several thousand per cent in the late 1980s.

Argentina's chronic hyperinflation was eventually vanquished with the introduction of the currency board in 1991, which mandated that every peso in circulation be backed by a dollar in reserve.

With the printing press off limits to politicians, it was thought the government would have little option but to impose fiscal discipline.

But a boom in foreign investment during the 1990s allowed successive administrations to finance budget gaps by issuing international bonds instead, with the result that the country accounts for nearly a quarter of emerging market bonds outstanding.

Today, with credit cut off, several provinces are again starting the presses rolling to pay workers and suppliers. Workers, in turn, fret that the new bonds could be virtually worthless. With the introduction of the Patacon just days away, there is widespread confusion about just what they will be useful for.

In theory, the bonds will pay 7% interest and be redeemable in a year. But in practice, Carlos Ruckauf, the governor of Buenos Aires province, knows he must make them widely acceptable as a currency if he is to prevent them from quickly falling below par. Such a fall could prove fatal to his long-held presidential aspirations.

"His popularity is at stake," said Federico Thomsen, an economist at ING Barings in Buenos Aires. "If he can make it widely acceptable, people will be slightly inconvenienced but at least not hurt. But if each bond was 50 cents to the peso, people would not feel kindly towards him."

The new currency will be accepted by both the provincial and federal governments to settle tax obligations.

Water utilities such as Azurix and Aguas Argentinas have also agreed to take Patacones, as have the foreign-owned telephone companies Telefonica and Telecom Argentina.

The big surprise is that McDonald's, the fast-food chain, will accept the currency in exchange for its new "Patacombo" - two cheeseburgers, fries and a drink.

The news caused laughter among emerging market debt traders on Wall Street when it was reported by Bloomberg News. But the Patacombo also gave economists useful chance to calculate the real value of the currency.

Because of its ubiquity around the world, the Big Mac has long been used by economists to calculate the real value of national currencies.

Using such "burgernomics", economists at Merrill Lynch found that the true value of a Patacon, at least to McDonald's, is between 67 and 78 cents of a dollar.

Many books have been written on how Argentina, once the seventh-richest country in the world, could have degenerated into the global economic basket case it is today. But the potential subsistence of Buenos Aires' teachers, bureaucrats and policemen upon a diet of McDonalds' must surely be one of the stranger effects of the country's latest crisis. Financial Times

http://www.bday.co.za/bday/content/direct/1,3523,911461-6078-0,00.html

-- Martin Thompson (mthom1927@aol.com), August 20, 2001

Answers

Sounds like a return to 1,000% inflation is just around the corner.

-- Uncle Fred (dogboy45@bigfoot.com), August 20, 2001.