Chart of the Month. Fx is catching a breath

October was split in two, around the peak of the currency run. A lot happened to finally end up in a place very similar to where it started. Our baseline “continuity” scenario, however, remains largely unchanged.

Some positive signals: COVID dynamics are finally inproving for the first time since the outbreak

Activity picking up in sept/oct in line with our -11.5% scenario for 2020

Industry has almost fully recovered to pre-pandemic levels. Activity not yet. Probably around -5%

Caution with some atypical growth dynamics. Is it genuine growth or precautionary durables hoarding?

Mobility improving accross the board

Other positive signals: World in “risk on” mode. Positive for commodities & FX

Rebalancing of power within the coalition?

Growing signals of internal rebalancing are showing up, strenghtening Guzman “ortodox” view vis a vis more “heterodox/inconsistent” policy mixes from other cabinet officers.

  • Interest rate hikes and explicit mentioning of montary financing as a source of concern.
  • The government has unnoficially transpired it’s intention to achieve a fiscal consolidation beyond budget figures (4.5%)
  • Tariff hikes seems to be on the pipeline.
  • The government will seek an EFF (extended fund facility) with the IMF instead of kicking the can down the road with a quick solution for 2020. EFF usualy a consistent program and structural reforms.

Sources of riks: Inflation is picking up again. September 3.0% with high carry over for October.

Running inflation is 4% even with frozen tariffs, anchored FX and GDP in -5% YoY

Fiscal: Tax collection is improving

but July and August expenditure reductions proved transitory. Only income is doing the work.

Beware with subsidies as a source of fiscal risk

Balance of payments. Trade Balance is gone!

October currency run took a toll on Alberto Fernandez support.


Panic has receded but, how may a Shock scenario look like?

We “reverse engineer” macro dynamics: we simulate how much the official FX needs to increase in order to generate an inflation outburst that eliminates the monetary overhang.

How are the mechanics of our simulation for 2021? We define the monetary overhang as the difference between the end-2020 and the pre-pandemic (February) level of monetary aggregates (in terms of GDP). We then estimate how much inflation is required from January to April in order to decrease aggregates to that level and, assuming a pass-through coefficient of 0.65, calculate the required increase of the official FX rate for the same period. We also estimate the impact of the FX depreciation on growth, fiscal accounts, financial needs, and interest rates, assuming that the government will try to contain the shock with monetary policy (ie: higher interest rates) and will not loosen fiscal policy, so as to avoid a depreciation-inflation spiral. In our simulation, any damage control policies to minimize the social impact of the crisis imply a rearrangement of spending items

Our simulation shows that the official exchange rate should increase by 53% to eliminate the monetary overhang

This steep FX depreciation would derail the economic recovery. With the crisis occurring so early in 2021, the activity would suffer yet another decline. GDP would fall an average of -1.8%, ending the year at -4% YoY and almost 10% below pre-pandemic levels.

The financial program is still very tight and a new risk is building up: Short term USD public position