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Argentina: Debt Shock Demands Fiscal Austerity

Core Content

This document provides an analysis of Argentina's fiscal and debt sustainability challenges, particularly in the context of a weakened Argentine peso (ARS) and increased funding costs. It outlines the current state of public debt, the role of the International Monetary Fund (IMF) in providing financial assistance, and the necessary fiscal reforms to ensure long-term stability.

Key Points

Public Debt Ratio

• The public debt ratio is expected to rise to 82% of GDP by year-end 2018 due to the weakening ARS against the USD.
• If the 0% of GDP primary fiscal surplus target is met in 2019 and no front-loaded IMF disbursements occur, the government would need to issue USD 7 billion in capital markets.
• With front-loaded IMF disbursements, the net financing needs and hard currency bond maturities would be fully covered.

Debt Composition

• Private market holdings of public debt are currently low, at 26.6% of GDP, compared to 59.3% of GDP in total public debt.
• The central bank (BCRA) and Anses (Social Security Administration) are major holders of public debt, with BCRA holding USD 32.4 billion in USD-denominated Treasury IOUs as of September 2018.
• The share of debt in private hands is expected to decline near term due to the closure of capital markets, which reduces the need for market rollover.

Fiscal Austerity and Reform

• Fiscal austerity is essential to stabilize the debt ratio, especially given the high debt-to-GDP ratio and rising interest costs.
• The primary fiscal surplus required to stabilize the debt ratio is estimated to be around 1% of GDP if real funding rates are at 4%, and 3.9% of GDP if the debt-to-GDP ratio reaches 90%.
• Social security expenditure is a significant portion of primary spending, at 40% (or 57% when including all social outlays), making it a key area for reform.

IMF Assistance

• Argentina has sought IMF financial assistance to address the debt sustainability challenge.
• The IMF's support has helped reduce market rollover risk, as the cost of debt rollover is expected to be lower than market rates due to the front-loading of disbursements.
• The 5-year CDS spread has been compressing, reflecting improved market sentiment around the IMF negotiations.

Long-Term Outlook

• The debt-to-GDP ratio is expected to remain fairly stable in 2019, even under a 0% primary surplus scenario.
• A 1% primary surplus in 2019 is expected to result in a gross debt-to-GDP ratio of 83%, slightly above the 2018 level, indicating tentative stabilisation.
• Fiscal reforms will be necessary to maintain this stability, especially post-2019 presidential election.

Main Views

• Fiscal austerity is crucial to ensure Argentina's debt sustainability, given the current high debt levels and the risk of capital market closure.
• The IMF's role is pivotal in mitigating the impact of higher interest rates and stabilizing the debt ratio.
• Social security reform is likely to be a key component of the fiscal adjustment, as it represents a large portion of public spending.
• The debt structure is shifting, with a decline in private market holdings expected due to reduced market access.

Key Information

• ARS weakness has significantly increased the public debt ratio.
• IMF assistance is being used to cover financing needs, reducing market rollover risk.
• Primary fiscal surplus is a rare occurrence in Argentina's history but necessary for debt stabilisation.
• Social security expenditure is a major component of public spending, suggesting potential for reform.
• Market debt ratio is expected to decline near term, reflecting capital market constraints.
• Fiscal targets for 2019 include a 0% primary surplus, which is seen as feasible given the new export tax and potential IMF disbursements.

Conclusion

Argentina faces a significant debt sustainability challenge due to ARS depreciation and rising funding costs. While IMF assistance provides short-term relief, long-term fiscal reforms, particularly in the social security sector, are essential for debt stabilisation and economic recovery. The government's fiscal adjustment efforts are seen as crucial to maintain financial stability and market confidence in the coming years.