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Economic News Year XXVII, No. 91 – January / April 2017

ISSN 2250-754X online

Monetary Essays for Open Economies: The

Argentine Case
Monetary Essays for Open Economies:
The Argentine Case

Javier Gerardo Milei*and Diego Pablo Giacomini**

*
Acordar Foundation;**Economy & Regions
*
jmilei@gmail.com

Summary Abstract
In the present work, a series of seven essays and three This paper presents a series of seven essays and three
appendices are presented that deal with the debate on appendices that deal with the exchange rate debate
exchange matters that has taken place in the last three that has taken place in the last three years in the
years in the Argentine economy, in which, together Argentine economy, in which together with a group of
with a group of colleagues, we have taken a position. colleagues we have taken a position that Implies an
which implies an absolutely opposite vision with which absolutely opposite view with which they have been
these topics have been studied in the last 40 years. The studying these subjects in the last 40 years. The
divergence has much of its origin in a huge set of divergence has much of its origin in a huge set of
fallacies emerging from the “General Theory of fallacies emerging from John Maynard Keynes's
Employment, Interest and Money” by John Maynard “General Theory of Employment, Interest, and Money”
Keynes published in 1936, whose bad influences still published in 1936, whose bad influences extend to this
extend to the present day and which , together with day and that, along with local structuralism, have
local structuralism, have caused so much damage to caused so much damage to the economy of the
the country's economy and its inhabitants. country and its inhabitants.
Keywords: monetary economy; mountain politics; Key words: Monetary economy; Monetary policy;
exchange rate; inflation. exchange rate; inflation.

JEL code: E3, E52.

Received: 1/4/2016 Accepted: 12/21/2016

1. Introduction in terms of inflation with monetary origin.

Therefore, this essay closes with a proposal
In the first of the essays, the problem of the to reform the BCRA's Organic Charter and a
CEPO is addressed, its consequences on the suggestion on how to conduct monetary
monetary level, the effects associated with a policy until inflation is reduced.
disorderly exit (without cleaning the excess pesos
from the economy) and why lifting the Next, linking monetary problems with
restrictions is a necessary condition (but not exchange problems, we proceed to study the
enough) to grow again. To support the point, an debate around the real exchange rate. In
absolutely novel theoretical plot is developed that sense, it is clear that the traditional
regarding the theoretical foundation of money analysis of the real exchange rate is wrong.
overhang, which is based on the Walrasian Firstly, because even if the tool were correct
tradition of general equilibrium and the Austrian- (which is not true) the issues linked to the
monetarist approach.

A.E.
Monetary Essays for Open Economies: The Argentine Case | This work is under a
Javier Gerardo Milei and Diego Pablo Giacomini | Creative Commons License
Economic News, No. 91, Jan. / Apr. 2017. pp. 5-26. | ISSN 2250-754X online | http:// Attribution-NonCommercial-
revistas.unc.edu.ar/index.php/acteconomica/index NoDerivs 4.0 International

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 Year XXVII, No. 91 – January / April 2017 Economic News
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long-term trend and confidence. At the same Finally, the last two essays are about
time, even if this difficulty were overcome, the monetary policy. The first explains the
analysis would still remain invalid, since for this impossibility of moving to an inflation
analysis to be relevant, a set of conditions must targeting system, while the last, by way of
be met that are impossible to occur in real life. conclusion, presents a proposal for monetary
Therefore, in light of the precariousness of this reform and the bases under which monetary
type of analysis, the solution that we have policy should be conducted in Argentina.
proposed together with Nicolás Kerst to measure
the level of competitiveness of the economy is 2.Dismantling the CEPO to grow again
mentioned.

Based on this, the third essay analyzes 2.1. Demand for money, surplus of pesos and
the destruction in Argentina from 1942 to inflation
the present, through the presentation of the
“Wealth Thermometer”, which measures the The Argentine economy, according to the
competitiveness of the economy. In this money demand function that we have estimated,
sense, a set of interesting results is shown: shows a surplus of pesos around 3.7% of GDP
(i) every time the indicator was above unity ($200,000M). If we add to this that the USD
the economy has grown, (ii) every time the 26,000M of reserves reported by the BCRA
economy fell below a level of 0.6 it has become almost zero when the banks' reserve
presented a violent crisis, (iii) the indicator requirements and the different debts that have
presents formidable strength for predicting been contracted to disguise the monetary story
a crisis and (iv) it sheds light on structural are refined, it should be clear that, if a sudden
reforms that favor a higher growth rate. drop in the demand for money, an exchange
crisis would be inexorable.

Once the fundamental issues related to In this sense, the empirical evidence for
competitiveness have been analyzed through the Argentina from 1955 to 2015 is compelling. In the
use of the wealth thermometer, we move on to graph it is possible to see that this situation of
the exchange debate in terms of the transition to excess pesos in the economy has taken place on
devaluation prices. Once again, at this point the two occasions. The first case is observed between
Keynesian origin of said fallacy is demonstrated, the years 1957 and 1958, where after a surplus of
the result of a poor construction in terms of the about 4 points of the GDP, this ended in an
theory of value. In turn, this analysis is supported inflationary outbreak of 113.7% in 1959. In
from an empirical point of view by the cases of second place we have the Rodrigazo, where with
the United States of North America, Chile and a surplus Similar during the years 1973 and 1974,
Peru, in which the absence of a relationship in 1975 inflation climbed to levels of 182.8% and
between devaluation and the transition to to 440% during 1976.
inflation emerges with complete clarity. In this
sense, the country's empirical evidence is an In this sense, following the postulates of the
emergent of the continuous monetary validation quantitative theory of money, with an economy
resulting from the application of passive money that remained stagnant and with a zero
models of structuralist origin. Thus, as a monetary emission rate, repressed inflation is
contrasting vision, the following essay presents 44%. However, given the deterioration in the
the vision of devaluation as a monetary public sector accounts, it is expected that the
phenomenon. After this, the ideas with which the money creation rate will be at least 40% annually,
departure of the CEPO was being analyzed by so if the demand for money were adjusted to its
different professional economists are presented, equilibrium level (8 .5% of GDP) inflation would
which are a kind of mixture of partial equilibrium rise to 150%. At the same time, if the demand for
analysis together with an improper use of the money fell towards its long-term level (3.8% of
PPP that could end in a true social disaster. . GDP) the inflation rate would rise to 450%.

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Graph 1: Historical evolution of the demand for money in Argentina 1955-2015

Source: Own elaboration based on data from MECON, BCRA and Orlando Ferreres.

2.2. The gestation of surplus pesos

Secondly, we have the creation of surplus
In light of the local experience and how money as a direct consequence of the coercive
socially disruptive the dismantling of excess intervention of the market by the Government.
money in the economy has been, it is Thus, when “social scientists” apply the
extremely important to understand the Keynesian recipe known as “income policies”
causes that give rise to said imbalance. At they set the monetary price of goods below
the same time, this will make it possible to equilibrium, generating excess demand in said
devise a solution for the current situation, market, its counterpart is an excess supply of
minimizing social costs considerably. money (surplus of pesos), which not only
uncoordinates the level of activity but generally
Simplifying the analysis to the extreme, the its exit is usually traumatic. Alternatively, when
surplus of pesos in an economy can take place in these controls are carried out in an open
two ways. The first of them, and with transitory economy with a managed exchange rate, the
characteristics, is linked to the delays in monetary counterpart is a loss of Central Bank reserves.
policy. International empirical evidence allows us In this sense, when controls tighten due to the
to observe that during the first two years, loss of reserves, situations such as the
increases in the amount of money, although they exchange rate CEPO appear, which is
have a positive impact on the inflation rate, it is equivalent to setting the price of foreign
low. This situation, which reveals the presence of currency below the market equilibrium. This
a “trade-off” between inflation and short-term situation produces an excess of demand in said
unemployment and with real effects on activity market and whose counterpart is an excess of
and employment, has as its counterpart an supply in the rest of the economy that implies:
increase in monetary aggregates in terms of (i) high interest rates (bonds), (ii) pressure on
GDP. However, when one studies the results of prices (money), ( iii) fall in GDP per inhabitant
monetary expansion over five and ten years, the (goods) and (iv) lower demand for productive
initial positive effect on activity and employment employment (work). Naturally, all these effects
disappears and with it the surplus of money. have been present in Argentina since 2011,
Thus, in this case, the “money overhang” is the while reserves should be between USD
flip side of the delays in monetary policy. 90,000M and USD 120,000M.

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23. Dismantling the Overhang and credibility and anti-inflationary reputation built, in
monetary reform the medium term the BCRA will be able to move
towards a rule of objectives (Inflation Goals),
Given the negative effects that the CEPO which is a later stage that requires floating of the
has on the functioning of the economic exchange rate and therefore banishes the
system, its immediate elimination is extremely possibility of there being a structural surplus of
important. However, the liberation of the pesos . Chile, Peru, Colombia and other countries
foreign currency market with a large surplus of apply Inflation Targeting which has translated
pesos and meager reserves, where the price of into low and stable inflation (between 2% and 5%)
assets (dollars for the financial market) adjusts with economic growth. Therefore, in light of
instantly and that of slow goods (commercial international experience and the damage caused
dollars), make disarmament betting on “the by a BCRA co-opted by politicians, the key will be
good vibes of the market” is very dangerous. whether the latter will be willing to give up their
To this end, it is key that prior to lifting the privilege in favor of greater general well-being.
CEPO, the surplus pesos be absorbed through
the placement of a title in foreign currency
(freely subscribed in local currency) 3. The exchange rate debate: When
simultaneously with the implementation of a economists are part of the problem
monetary reform.
After 70 years of strong exchange rate
The reform begins with a new Organic Charter instability and heated debates about the “correct
for the BCRA establishing the sole objective of value” of foreign currency (especially the price of
maintaining low and stable inflation. In this way, the US dollar), it is very difficult to understand
discretion is eliminated by institutionalizing a how it is possible that we have learned so little
monetary policy that must always be conducted about this issue. . Perhaps, the exaggerated neo-
based on a rule. Thus, in the short term, the rule Keynesian imprint of the macroeconomics,
establishes a nominal anchor to prevent politicians international economics and monetary theory
from exploiting the short-term “trade-off” between courses (among other areas) that have been
inflation and unemployment, which nullifies the taught and continue to be taught in this country
temporary “money overhang.” Said nominal anchor, has so deformed the minds of economists, to the
established independently by the BCRA, is a rule point that they cannot be grasped. the most basic
that fixes the growth of M1 (instrument) and issues of economic analysis.
prevents the generation of surplus pesos (future
inflation). The following graph, and in line with the
argument most used by local economists,
This instrument rule (M1) must be: presents the evolution of the real exchange rate
i) efficient (minimize the volatility of M1); ii) of the Argentine currency with respect to that of
simple (easy to understand); iii) precise (there the United States since 1950. In this sense, the
is no doubt that it follows or not); iv) evolution of the rate real exchange rate shows
transparent (it must be announced so that the two essential characteristics: (i) a continuous
public knows it and incorporates it into their tendency towards currency appreciation (black
expectations); v) robust (valid for any model) line) and (ii) great volatility in the series, a
and must have vi) audit mechanisms. With situation that one could rationalize with a case of
these characteristics, uncertainty about multiple equilibria where in the cases of high
monetary policy disappears and both confidence, such as the '60s, the beginning of the
expectations and inflation decrease, favoring exchange rate table and convertibility, the
savings, investment and growth. currency appreciated, while in the '50s, the first
part of the '70s (with a peak in the Rodrigazo), the
The instrument rule (M1) should be maintained '80s (with a peak in hyperinflation) and so far in
until inflation converges to single digits annually. the 21st century (with a jump in the exit of the
Then, with expectations already “tamed,” convertibility plan) are

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Graph 2: Real exchange rate against the US dollar (1950-2015)

ITCR (1=2001) Exponential (ITCR (1=2001))

4.5

Rodrigazo
4.0

3.5

3.0

Post-Default
2.5

2.0

1.5

1.0

0.5

0.0

98 six
19 ninety
56
58

64

08
50

60

66

76

82

92
68

74

78

86

94

00
02

10
52
54

62

70
72

80

84

88
90

04
06

12
14
n
ee
19
19

19

19

19

19

20
19

19

19
19

19

19

19

19

20
20

20
19
19

19

19
19

19

19

19
19

20
20

20
20
et
nin
Source: Own elaboration based on data from OJF, BCRA and MECON.

moments characterized by a high level of cheap, for which, taking the real exchange rate
mistrust. Therefore, the first lesson that the on a particular date, they make a kind of
graph leaves us with is that it is incorrect to say inflation adjustment on the nominal value and
that the currency is depreciated or appreciated with this they “substantiate” their statement.
without referring to the level of confidence and For example, if one takes the real exchange
the long-term trend. rate that CFK started with, the price of the
dollar should be $16 per dollar. However, this
However, despite the fact that said analysis has at least three problems:
analysis is used persistently, that does not (i) What are the elements that prove that said real
prevent it from being erroneous. The problem exchange rate was equilibrium and not
is that it implies completely ignoring what the another?
price system is and how it works (typical
Keynesian trait). Every market price constitutes (ii) the account implies assuming that nothing has
a specific historical phenomenon, which always changed both in the local economy and in the
reflects what happened on a certain occasion world, and
and time under specific circumstances. Thus, (iii) as if all that were not enough, it would be good
the exchange relations (between money and to know what the price index was by which the
the rest of the commodities that interest us pertinent adjustment was carried out since,
- including foreign currency -) are in even if there were official undrawn statistics,
permanent mutation. There is nothing in them who could ensure that said index adjusts to
that is constant. A certain price may be re- the realities? of the foreign exchange market
registered, but there is no certainty that this and its spillover effects on the rest of the
will happen. What's more, even if it were the system.
case that it actually reappears, it is not possible
to ensure whether it is the result of the To get an idea of how ridiculous the
circumstances that caused it to reappear methodology is, let's take the price of ENRON
yesterday, or whether it results from a new in September 2000 when it was trading at USD
and totally different constellation of forces. 87.63 per share. Now, if we adjust said price
for US inflation, the method would indicate
Thus, ignoring the concept of what a that the value of said share should be USD
market price is, a group of “economists” try to 120.95. However, today's price is zero, since
reflect on whether the dollar is expensive or the firm in question went bankrupt.

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Along the same lines, stating that, given that brutally punished, so that “the caste” that has
today's real exchange rate coincides with the one taken power continues to enjoy its enormous
that governed at the end of Convertibility and other privileges and that it generates so much
traumatic episodes in history, the currency is wealth.
appreciated, strictly speaking, says nothing, since
The configuration of the economy at any given time 4.The destruction of wealth in Argentina
has nothing to do with the one that governs today.
For example, after the exit from Convertibility and Although the fact that the expansion
the default, the country restructured its public debt rate of the economy (there was never
through a haircut that left it as a net creditor to the growth, but a mere cyclical recovery) has
world, so if it were not for the distrust generated by been falling very sharply, going from a level
Kirchnerism, the currency It could have appreciated of 8% annual average during 2003-2007 to
even more (think of the exchange rate that the 4% for 2007-2011 and reaching at 0% during
soybean producer receives after withholdings). In CFK's second management, while inflation
fact, the current situation would allow Argentina to accelerates, there is no creation of genuine
live with a permanent current account deficit jobs and foreign trade levels contract by
comparable to the financial income derived from more than 20% compared to historical highs,
said external position even without touching the they should be examples more than enough
stock. of an exterminated model, different political
sectors question the vision of “orthodox”
That is why, together with my colleagues economists who speak out about the poor
Diego Giacomini and Nicolás Kerst, in order to management of the economy and who point
analyze in greater depth the issues linked to out the opportunity that has been lost to
competitiveness, we developed “the wealth accelerate convergence in the light of the
thermometer” which indicates that best international context of the country's
competitiveness is given by the ability to have history.
profitable businesses. Thus, the indicator
combines both internal and external factors, such In line with this vision of the Argentine
as the evolution of labor productivity compared economy, a study on competitiveness prepared
to the evolution of real wages (wages in terms of by the World Economic Forum (WEF) shows our
prices), the United States interest rate, country country in 140th place in a sample of 141
risk, expectations inflationary pressures, fiscal countries, where we have only missed out on
pressure, the quality of public goods and the surpassing the formidable achievements of the
international context. Based on all these Venezuelan model, which with so much effort
elements, the indicator shows that never in the (economic and social) we try to copy every day.
history of the country was so much wealth
destroyed as during the Kirchner regime, where, Naturally, what was expressed by the WEF
if it were not for the formidable international is not new for local economists, since today,
context, the policies that have been carried out the debate on the competitiveness of the
would have generated four major crises. . economy is at the top of the agenda. Based on
this, and given that the competitiveness of a
Therefore, based on the “wealth country is determined by its ability to earn
thermometer” it is clear that the economy shows money (generate wealth), together with Diego
a serious competitiveness problem and that if Giacomini and Nicolás Kerst we have
there are no profound changes in the rest of the developed an indicator that we have called
factors, the currency will end up devaluing. “The Wealth Thermometer”, which represents
Whether by complacent omission and/or an expansion of James Tobin's uses of “q” as an
ignorance, when the only tool you have is a analytical tool within economic analysis.
hammer, it is natural for everyone to look like a
nail. That is, in a frank complicity between The idea of developing this indicator based
politicians and Keynesians, once again the most on the “q” theory arises from the fact that the
vulnerable sectors of society will be latter synthesizes all the social information.

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Graph 3: Wealth Thermometer adjusted by Terms of Trade (1942-2014)

Source: Own elaboration based on data from Orlando Ferreres and MECON.

about the future that is relevant for making international conditions, the indicator has
investment decisions by the agents, since in been corrected by the terms of trade.
its assembly the equilibrium conditions of
both the goods market converge (the The construction of the indicator shows
income is sufficient to cover all operating that throughout the period under analysis, it
costs, the tax and capital) and capital (the has been located on average 3.3% above unity,
return on assets is equal to the opportunity which explains why, despite the poor relative
cost of capital). At the same time, if one performance shown by the economy
assumes that the economy under analysis is compared to the world , has been able to
open and that purchasing power parity (PPP) sustain a positive growth rate. At the same
is met in the long term, from the equilibrium time, the indicator shows that every time it fell
conditions in the “q” model it is possible to below unity, the economy presented a balance
determine the equilibrium exchange rate, of payments crisis (shaded areas), except for
which will be given by the real wage (wages the year 2014, which is explained by the fact
in terms of the general price level) relative to that we are facing the best international
the productivity of labor, the opportunity context in the entire history of the country.
cost of capital (which takes into account the
leverage of the economy, the rate of US Additionally, the indicator also shows that
interest, country risk and expected never in the history of the country has so much
devaluation), fiscal pressure (public spending wealth been destroyed as in the period from
and its efficiency) and the productive scale, 2003 to 2013. In this sense, the current economic
all relative to the reference economy (that of policy has achieved a destruction of 1.61 points
the currency being compared). of the indicator, followed by the economy of the
dictatorship during 1977-1982 with 1.27 points,
From this conceptual structure, “The Wealth the exit from convertibility (2000-2002) with 0.97
Thermometer” was built, which takes 1942 as its points, the rodrigazo (1973-1975) with 0.81 points
base year, given that after that year, the country and the years that go from 1945 to 1949 during
was a victim of the establishment of a populist the first government of Juan Domingo Perón with
regime that has turned the country into a rich 0.74 points. On the other hand, although it is true
country. on a border and that if we continue that during the government of Raúl Ricardo
along the same path we face a situation of Alfonsín the indicator showed the lowest level of
poverty. At the same time, so that the evaluation the series (greater process of value destruction),
of economic policy is not affected by the the fall in the thermometer

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Graph 4: Observed state of the economy and estimated probabilities (1942-2014)

Source: Own elaboration based on data from Orlando Ferreres and MECON.

of wealth was only 0.29 points between the In turn, the same statistical study shows
extremes of the period (where in the middle of the that when the indicator falls below 0.6 the
period the Austral Plan marked a strong jump but probability of crisis accelerates strongly. In
which later ended in hyperinflation). other words, when the indicator loses 0.4
points with respect to the historical average
On the other hand, given the strong level, the economy enters a crisis. Once again,
relationship between the moments in which the this analysis confirms that we are facing the
indicator falls below unity and the presence of worst government in history, since over the
balance of payments crises, a statistical study last 12 years it has generated a fall that could
was carried out using a Logit model, which yields have generated four crises, if it were not for
as a by-product to the analysis of wealth creation the structural reforms. of the '90s, the
(competitiveness), the probability of falling into a adjustment made by Eduardo Duhalde and the
balance of payments crisis and the levels that best international context in history.
mark entry into the danger zone. In this sense,
the graph that shows the state of the economy Finally, the indicator is useful for the
and the probability of crisis reveals the statistical design of economic policies that lay the
robustness of the indicator. foundations for future growth and

Graph 5: Probability curve according to changes in adjusted index

Source: Preparation based on own estimates.

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the associated per-capita product. In this sense, of the measure in question. However, this
for an average international risk-free rate level debate is fully contaminated by the use of
(that of the US) of 3%, an average country risk Keynesian “analytical tools”, which
level of 550 basis points (5.5%), an average tax - as usual - is wrong, whose conceptual format is
pressure of 32% of GDP, a financial leverage of equivalent to maintaining that the sun shines
16.3% and a value of the marginal product of brighter because the ice cream businessmen
capital in dollars of 13.8%, the Argentine have decided to reopen their sales premises.
economy would tend in the long term to a GDP
per inhabitant of 40% of that of the US. In turn, if The “theories” on the determination of the
we consider that under the government of general level of prices with Keynesian roots are
Cristina Fernández de Kirchner, the average especially inspired by chapter 21 (The theory of
country risk was in the order of 1,500 basis points prices) of book V (Nominal wages and prices) of
(measured by the 5-year CDSs), the tax pressure “the general theory” by John Maynard Keynes. In
is located at 50% of GDP , the marginal this sense, in the second section of the
productivity of capital fell to 10.1% while the aforementioned chapter, the Cambridge
economy does not grow, the GDP per inhabitant Englishman maintained: “The price level in a
would tend to 10.2% of that of the US, which specific industrial branch depends, in part, on the
would cause the country to leave the definition of rate of remuneration of the productive factors
a frontier country and become a poor country. that enter the marginal cost and, in part, part, of
the scale of production. There is no reason to
Simultaneously, and looking to the future, change this conclusion when we turn to the
with this indicator it is possible to determine the industry as a whole. The general price level
policy conditions that would allow convergence depends, in part, on the rate of remuneration of
to be achieved, which consist of: (i) eradicating the productive factors that enter into the
the fiscal deficit and achieving intertemporal marginal cost and, in part, on the scale of
solvency in a sustainable manner such that the production as a whole, that is, (considering the
country risk disappears. , (ii) reduce the fiscal equipment and technique known) , of the
pressure to 26.1% of GDP and (iii) recover the occupancy volume.” Therefore, under this format,
productivity level of the '90s (where it was 20.1%). when the exchange rate rises (the currency
In this way, we will be able to grow faster and in a depreciates), there will be a transfer to prices. At
sustained manner so that we can reach the per the same time, this formulation also allows us to
capita product of the United States. Of course, a understand the reason why, when faced with a
reform of these characteristics will have rise in the inflation rate, the workers are blamed
resistance, especially in the political corporation, (targeting the unions) and the greed of the
which should be informed that even carrying out businessmen (who "shovel it up"). .
points (i) and (iii) it would not be possible to
achieve convergence since there would be a However, despite how “reasonable” the
ceiling for the GDP per inhabitant of 55.2% argument might sound in the context of a
compared to that of the USA. In short, a very high very light reading and lacking rigor, this
cost for such poor performance in the services analytical scheme is wrong. Thus, both on a
provided by the public sector. theoretical and empirical level,
Keynesianism's mechanism for determining
the general price level is a grotesque fallacy.
5. Money, prices and exchange rates

5.1. The debate around devaluation and the 5.2. Keynesianism and non-existence of
transfer to prices pass-through

Currently, in the Argentine economy, taking into Naturally, and as expected, the
account that it is already taken for granted that sooner analytically correct answer is the one that
rather than later there will be a devaluation of the local John Maynard Keynes himself, who despite
currency, associated with this there is discussion about having taken only a single economics course
the transfer to prices (pass-through). (with Alfred Marshall), tried to uncover

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Graph 6: Fluctuation of the Dollar/Euro relationship and inflation in the US (1999-2015)

Source: Own elaboration based on data from the FED.

lify. In fact, at the beginning of the global trend, the evidence is overwhelming.
aforementioned chapter, the “father” of For example, in the case of the United States
macroeconomics pointed out: “While and the dollar-euro relationship, if one takes
economists deal with what is called the the inflation of a semester and the lagged
theory of value, they have accustomed to semiannual devaluation in a period during the
teaching that prices are governed by the last 15 years, it is observed that the
conditions of supply and demand; having depreciation of the dollar was followed by a
played a prominent role, in particular, greater inflation 57% of the time, while in the
changes in marginal cost and in the elasticity remaining 43% the movement was the
of supply in short periods. But when they opposite. In turn, if the variations are
move,..., to the theory of money and prices, averaged, on average they have been negative.
we no longer hear about these familiar but Finally, if one regresses inflation as a function
intelligible concepts and we move to a world of devaluation, the level of explanation sits at
where prices are governed by the quantity of 3%, so dollar devaluation has nothing to say
money, by its velocity-income, by the speed about inflation in the United States.
of circulation relative to the volume of
transactions, by hoarding, by forced savings, On the other hand, empirical evidence from
by inflation and deflation et hoc omne; and the last 20 years in Chile and Peru indicates
little, if any, effort is made to link these almost the same results. In Chile, a devaluation
vaguer phrases with our earlier ideas of the was followed by higher inflation only 55% (that is,
elasticities of supply and demand.” it fell 45% of the time) of the time, while in Peru it
was 53% (that is, 47% of the time it fell). On the
Therefore, if in line totally opposite to other hand, the average of the variations in Chile
Keynesian “thinking” we consider that has been slightly positive (4%), while in the case
nominal prices are guided by the interaction of Peru it has been negative (-15%). Finally, the
between supply and demand for money, level of explanation is located at 9% and 1%
while relative prices will depend on the real respectively. Therefore, the data show the
configuration of the economy as a whole, In empirical poverty of the Keynesian instruments.
those countries where the Central Bank aims
for a low inflation rate, the “pass-through”
should be negligible. 5.3. Carl Menger, the Law of Imputation and
Milton Friedman
Based on the above, if one takes the case of the
United States compared against Europe and the cases This lack of empirical relevance for the
of Chile and Peru against the maximum power “pass-through” arises from Keynes assuming

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“that the types of remuneration of the different not from relative price changes. That is, if the
productive factors that enter into the marginal Central Bank does not stop issuing money
cost all change in the same proportion… it above demand, the currency will lose value
follows that the general level of prices against all assets in the economy, and since
depends, in part, on the unit of wages and, in foreign currency is an asset like any other, the
part, on the volume of occupation” this implied devaluation will be inexorable.
going back to the labor theory of value of
David Ricardo and Karl Marx, which had been In turn, the Argentine case presents an
discredited by William Stanley Jevons, León additional complication as a consequence of the
Walras and especially by Carl Menger and his presence of an excess of money in the economy
Law of Imputation. of 3.7% of GDP (as a result of the CEPO and the
fiscal deficit financed by emission). That is, to the
Under the postulate of the law of problem of flows due to the issuance of each
imputation, it is prices that determine costs period, a stock problem is added. Therefore, if
and not the other way around. Thus, the CEPO were opened without eliminating the
consumers not only determine the prices of surplus of pesos and betting that confidence will
consumer goods, but also of all factors of bring enough foreign currency for the dollar to
production, thus setting all the income of those be in a pseudo-equilibrium around $14, in case
who operate within the scope of the market the demand for money In a good equilibrium,
economy. It is they, not the businessmen or inflation would be 150%, while in the bad case
the union members (much less a politician), (most likely) the inflation rate would rise to 450%.
who, in short, pay for each input and each If this were the situation, the much-mentioned
worker his salary. pass-through could range between 75% and 95%,
where in addition, the level of activity could fall
Therefore, if one wanted to determine the between 3% and 6% and poverty would exceed
causes of why all prices in the economy rise (and 50% of the population. In short, a formidable
among them that of the foreign currency - the idea, poorly implemented or implemented by
dollar -) the causes are not in the costs, but in the incompetents, could end in a new social disaster.
continuous increase in the emission. monetary.
In other words, if the prices of the economy's
goods are determined in monetary units, when 6. Dollar: that green Argentine passion
an amount of money is issued that exceeds its
demand, this will cause the relative value of the The exchange debate, both due to the
currency to fall or, what is the same, that the search for a reference level – price – and its
price of goods expressed in money rises. Hence potential effects on the general level of
the famous phrase of Milton Friedman (the prices (inflation), has taken center stage. The
executioner of the Keynesians): “inflation is meager level of BCRA reserves (which clean
always and everywhere a monetary of loans with Central Banks, outstanding
phenomenon.” debts and bank reserves would pierce the
line of USD 5,000M), is testimony to an
5.4. Nominal devaluation as a monetary inconsistent and unsustainable monetary
phenomenon policy.

Based on all of the above, it is very Although it is true that it would be feasible to
evident that the relative prices of the system have a fixed exchange rate without reserves, this
are given by the preferences of individuals would only be possible if at least one of the
and scarcity, while nominal prices are following conditions were met: (i) a granite
determined by the conditions of the money downward demand for money – and, depending on
market. Put in other terms, variations in the the case, even strongly increasing. -, (ii) unrestricted
exchange rate do not affect the inflation and instant access to the capital market and/or (iii)
rate, since the latter depends on monetary absolute downward flexibility in public spending (to
conditions and extract excess pesos via surplus). Naturally,

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Argentina does not remotely comply with any of Unfortunately, and despite the “euphoria”
these points, which is why if it opted for a managed generated by the possibility of moving towards a
exchange rate it would have to have a huge amount new government that does not mistreat capital as
of reserves that it does not have. Therefore, the the Kirchnerist regime has done in these twelve
country will have to choose between the option of years (which does not require great efforts), the
free floating of the dollar or a strong increase in preceding analysis has great number of
controls, which not only raise the interest rate, put problems. On the one hand, it is a simple partial
pressure on prices and cause per capita GDP, equilibrium analysis, where assuming everything
employment and employment to fall. and the real is constant, the price in question would explain a
salary, but also puts individual freedoms in check (as real equilibrium translated into a monetary
is the case of Venezuela). format. Naturally, if we do not take into account
what could be happening in other markets, both
In this way, and given the imminent local (where preferences, resource endowments,
possibility of moving towards the implementation technology and tax system come into play) and
of a system of free floating of the peso, many international (especially with respect to the
economists have begun to conjecture about what international interest rate and the terms of
the movement of the exchange rate could be. In trade , among other things), the analysis in
general, these analyzes are based on the typical question could surely prove insufficient. On the
case of a market that has a maximum (managed) other hand, the absolute omission of monetary
price below the equilibrium level, from which two issues causes the problem of the nominal scale to
results emerge: (i) at the set price there is a be overlooked, that is, given a set of relative
shortage, given that the quantity demanded prices, the different levels in the quantity of
exceeds to that offered and (ii) compared to the money will have different levels of value
amount of foreign currency that the bidders are associated with them. nominal prices in the
willing to take to the market at the official price, economy (including that of the dollar).
there is the possibility of selling it in the parallel
market at a price above the equilibrium price to Additionally, for the exchange rate
agents with greater will to do good. Therefore, analysis based on purchasing power parity to
following this logic, if the restriction on the be true, the economy should be perfectly open
administered price were eliminated, the official and have simultaneous balance in the labor,
price should rise and the parallel price should fall goods and money markets. In this sense, the
until said prices are unified at an intermediate number of trials in the WTO, a labor market
point, while the quantities traded would increase. that has not generated genuine jobs for four
Put in white on black, the free exchange rate years now (where unemployment data is
should be at a level between $9.7 and $16. disguised and an army of public employees has
been recruited) within the framework of an
economy stagnant with growing inflation and a
At the same time, these analyzes are surplus of money of around 3.7% of GDP (stock
complemented (and supposedly validated) by similar to that observed during the years 1959
work based on the application of the purchasing and 1975) to which should be added the
power parity model (law of the single price for an emerging flow of monetary financing of the
open economy -PPP-), where, taking a basket of fiscal and quasi-fiscal deficit (derived from
goods in Argentina denominated in pesos and positions in LEBACs and in the future dollar
divided by the same basket denominated in market), they point out that this vision is at
dollars in the US, it is determined that the prices least reckless.
of the Argentine economy are set with a dollar of
$14. Therefore, when combining this result with In this sense, beyond the importance of all
the previous one, it is affirms that if it is decided the market imbalances that would strongly
to leave the CEPO, this would only imply a jump discourage the use of the PPP to make an
in the exchange rate, placing it above the official economic policy recommendation, the case of
one without an inflationary effect. the money market occupies a prominent place.
Thus, if when the CEPO opens,

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If there were not an extremely strong confidence which should be clear that the mission of the
shock that would increase the demand for money BCRA has to be reconsidered very seriously.
(M1) and this would contract towards the good
equilibrium (8.5% of GDP), the inflation rate If one were to assume that in the economy
would climb to levels of 150%, while in the case there was a single representative agent, where
bad (3.8% of GDP) the inflation rate could be relative prices are also constant such that it can
around 450%. In this context, the level of activity be thought in terms of a single good and that
could fall between 3% and 6% and poverty would given these elements there would be no
exceed 50% of the population. Needless to say, distribution effects in terms of income and
under nominal dynamics with similar wealth (regardless of the fact that additions of
characteristics, the idea of talking about a price money would affect the agent's level of utility and
for the dollar is strongly blurred. therefore his spending), it could be defined that
the only objective of the Central Bank should be
Therefore, given the risks involved in to preserve the value of the currency, that is,
the money market, before opening the defend its purchasing power. In other words,
CEPO, the excess pesos should be eliminated given the balance of the real side of the economy,
and a program put in place to put a stop to the BCRA should minimize the growth rate of the
the issuance of money. That is, a formidable economy's prices, which under this framework
idea like raising the CEPO, but poorly would mean maintaining a low inflation rate.
designed or carried out by incompetents,
could end in a new social disaster. To achieve this objective, there are at least two
methodologies. On the one hand, there is the
inflation targeting system, which has been applied
7. The impossibility of applying inflation
in the world with great success. On the other hand,
goals in the BCRA
there is the method based on the control of
monetary aggregates, which has fallen into disuse
Without a doubt, judging by the
since the mid-1980s in developed countries and in
inflation results throughout the country's
emerging countries after the 1990s.
history, the performance of the BCRA is far
from being a matter of pride. Specifically,
prior to its creation in 1935, the amount of Although the latter seems to indicate that
high-power money (monetary base) grew at the method to follow to reduce inflation in
a rate of 6%, while inflation and the Argentina should be the inflation targeting
exchange rate rose at a rate of around 3% system, its implementation requires nine
and 4% annually. . In turn, in the first ten conditions that are not met today: (i) institutional
years of operation, the amount of money framework that ensures the operational
grew at a rate of 14%, while inflation and the independence of the Central Bank and its
exchange rate grew at 6% and 2%. responsibilities, (ii) transparency in
communication, (iii) having inflation expectations
However, after the nationalization of the anchored, (iv) reputation and credibility, (v)
“Monetary Control Body” in 1946, the average transparency of monetary policy, (vi)
growth rate of the amount of money shot up to transparency of information, (vii ) present an
levels of 130%, while inflation and devaluation objective with floor and ceiling goals on a reliable
rates climbed to levels of the 160% and 150%. price index, (viii) coordination with fiscal policy
Therefore, the performance of the Central Bank and (ix) development of prediction models
since the middle of the 20th century has been
highly questionable, where in addition, its brands At the same time, the supposed success
record periods of very high inflation, two referred to in its use during 2002 and 2003 has been
hyperinflations and the destruction of five the result of what is known as type II error (desired
monetary signs (actually there are six if we take result doing the wrong thing), where the strong
into account that the current pesos stopped illiquidity emerging at the exit of Convertibility, the
being convertible in 2002), which is why exaggerated devaluation of the currency

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regarding the dollar and Duhalde's Homeric fiscal took place in 1959 and the second in 1975 (the
adjustment, were the bases of the success achieved. Rodrigazo). In both cases, the inflation rate
In fact, the conditions of the economy today are multiplied by six times and the GDP fell by 6%
radically different: (i) the treasury is the most at the most acute moment of the crisis.
important source of peso issuance, (ii) there is no Therefore, in the face of this risk, it is advisable
surplus of dollars and (iii) there is an appreciable to place a bond in dollars subscribeable in
excess of pesos, which is why which is impossible to pesos, so that the excess pesos are withdrawn.
anchor expectations. In turn, as this solution implies a manifestation
of potential demand for foreign currency,
On the other hand, according to a series of when neutralized, the exchange CEPO could be
works that we have published (“The New BCRA and opened successfully and without any run.
the Monetary Reform” and “Essays on Monetary
Economics: The Argentine Case”) there is a very
deep causal relationship between M1 (circulation in Finally, from the point of view of risks, if
the hands of the public but demand deposits) and the bonds in question were not in demand, this
nominal GDP (existence of cointegration), which is would not only have no costs, but would also
why the specialized literature on the subject would imply a strong expression of confidence in the
be suggesting that monetary policy, until the local currency. However, if, on the contrary, we
inflation rate is reduced and expectations regarding worked with the hypothesis that there is no
it are anchored, should be designed based on surplus of pesos and when the CEPO opens the
quantitative goals on M1. demand for local money collapses, generating
an exchange rate run, the economy could
This statistical importance of M1 on the replicate the Rodrigazo experience.
determination of nominal GDP and given the Consequently, both in terms of monetary
level that the economy's growth rate usually policy design and in terms of risk control, the
has, this amplifies the causal link between the new authorities should refrain from betting on
growth rate of said monetary aggregate with the Type II Error while at the same time they
the inflation rate. In this context, it is where should try to minimize the risks, since if the
the discussion about the existence of a surplus existence of a surplus of pesos and in this case
of pesos also becomes more relevant. there is not a large dose of good luck, the final
result could be very negative for the well-being
According to the work carried out previously of Argentines.
mentioned, when we proceed to estimate the
demand for money (M1) in terms of GDP in the
last 70 years, the estimate suggests that there 8. Conclusions: Reflections for the
are pesos left over for about 3.8% of GDP (about design of monetary policy
$200,000M ). In turn, the level of M1 in terms of
GDP in Argentina exceeds the average for the In the long term, expanding the money
region by 3.9 percentage points, where in supply above the growth rate of money
addition, while the average M1/M3 ratio for the demand ends up killing growth and job
region is 20%, in our country it is located at 50%. creation. Theory and empirical evidence
Therefore, all indicators would be accounting for taught us this in the '70s. Although the data
a strong surplus of pesos (something normal from the region strongly validates it, some in
when restrictions such as the CEPO are put in these lands still refuse to internalize it. If we
place), which has also been empirically validated compare 2014 with 1998, the GDP per capita
by studying the residuals (unexplained part of the of the region (with low and stable inflation)
statistical estimate) the relationship between M1 grew on average
and nominal GDP. + 72%, while that of Argentina (with high and
sustained inflation) fell -14%. The new
This monetary situation has already been government must have among its main
observed twice in the country's economy. The first economic objectives lowering inflation to

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international standards to be able to recover permanent; iii) Monetary Aggregate Targets and
the growth path. iv) Inflation Targets. The first two are not an
option. Nor are the Conditions given to go to
Economic science explained that Inflation Targets. There is no Transparency in
inflation is always and everywhere a strictly Communication between the Monetary Authority
monetary phenomenon, making it clear that and economic agents, there is no pre-existing
monetary policy is the only effective tool to nominal anchor for expectations in the Economy,
lower and then prevent inflation. Thus, nor is there credibility or reputation (announce,
Central Banks around the world apply explain and then comply). There is even less
(prudent) monetary policies whose main transparency in information and monetary policy.
long-term objective is to maintain “low” and Even less is there a credible price index on which
“stable” inflation. to set a central objective, ceiling and floor.
Furthermore, international experience shows that
In this framework, it is understood that the currently an Inflation Targeting Program would
Central Bank must be refounded in order to lower not be useful for Argentina because it is based on
inflation. A new Organic Charter must be very high inflation; and consequently it would
promulgated for the BCRA. The new charter of the take many years to lower it to single digits. The
Central Bank does not have to have a dual objective international experience of Chile, Colombia, Peru
(inflation and level of activity), because an activist and Brazil shows that Inflation Targeting lowered
policy would deteriorate the performance of inflation, on average, 2.4 percentage points per
monetary policy, awakening the trade-off between year in those countries. Thus, Chile and Colombia
output and fluctuations in inflation, which leads to took 10 and 8 years to lower inflation from 30%
under -optimal monetary policy. In other words, the and 33% to 2.7% and 3.0%; respectively.
risk of “more” inflation grows, which ends up
punishing the level of activity and employment.
Furthermore, the Dual Objective complicates
9. References
communication between the Central Bank and
economic agents, being counterproductive to its
Blinder, A. (1998).The Central Bank: Theory and Practice,
credibility and the quality of its policy.
Ed. Antoni Bosch.

The new Organic Charter (voted in Friedman, M, and Schwartz, A. (1963).A Monetary His-

Congress) must make it clear that price tory of the United States (1867-1960). Ed. Princeton
stability must be the only and predominant University Press.

long-term objective for the BCRA's monetary Friedman, M. (1968). “The Role of Monetary Policy”
policy. The new BCRA must be independent AER58(1): 1-17.
in terms of monetary policy instruments to Friedman, M. (1971).Dollars and deficit.Ed. Emecé Friedman,
use and must be obliged to build and M (1982).Unemployment and Inflation.Union Ed.
strengthen transparency and Garrison, R. (2001).Time and Money: the Macroeconomy
communication with economic agents. An mine of Capital Structure.Union Ed.
annual Monetary Plan must be prepared
Keynes, J. (1936).General Theory of Employment, Interest
with quarterly monitoring that must be
and the money. Fund of Economic Culture.
reported, published, explained and
defended in the National Congress with Menger, C. (1871).Principles of Political Economy, Ed.

institutionalized audit mechanisms. At the Union

same time, financial stability must also be a Menger, C. (2013).The money, Ed. Union.
policy objective for the monetary authority. Milei, J., Giacomini, D. Ferrelli Mazza, F. (2014).Cop-
Economic ethics against the clock: symptoms, diagnosis
The BCRA has to set a NOMINAL ANCHOR and measures to get out of the trap and grow again,Ed.
to define and limit its commitment to price Barbarossa
stability. There are four types of nominal Milei, J., (2014).Readings on Economics in Times of
anchor: i) Convertibility; ii) Exchange rate Kirchnerism, Ed. Union

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ISSN 2250-754X online

Milei, J., (2014).The Return to the Path of Decadence potential demand at USD 9,000M, that is,
Argentina,Union Ed. $129,000M. In this sense, if January prices
Milei, J., Giacomini, D. Kerst, N. (2015). “The Thermome- rise by 4%, this would cause the excess
Wealth tro: Tobin's “q”, competitiveness and pesos to fall by $9,000M. The placement of
growth”, International Conference on Public LEBACs so far in January for $47,000M, given
Finance – UNC. the M1 multiplier, absorbed $63,000M, while
Milei, J., Giacomini, D. (2015). “The New BCRA and the
the transfer of sight deposits to fixed-term
Monetary Reform”.
deposits reduced the surplus of pesos by
$20,000 M, so the imbalance was reduced to
Milei, J., Giacomini, D. (2016).Economics Essays
$37,000M.
Monetary: the Argentine case, Ed. Union.
Mises, L. (1949).Human Action: Treaty of Eco- Based on this result, by using the “monetary
It is not mine.10th ed. Union Ed. pentagon”, it is not only possible to determine the
Mishkin, F. (2007).Monetary Policy Strategy, MIT Ed. limit values that the different variables could take
Press to eliminate the remaining excess pesos, but on its
Walsh, C. (2010).Monetary Theory and Policy.3rd ed. sides it is possible to observe the different trade-offs
Ed. MIT Press that the BCRA will have to face. In this way, if the
excess pesos were liquidated by the external sector,
this would imply selling reserves for USD 1.9 billion.
On the other hand, if the adjustment fell on the
Appendix 1: The end of the BCRA Money prices of the economy, the exchange rate would
Overhang: cornering the surplus of pesos have to jump to $21.5 or, alternatively, if the
adjustment variable were inflation, an additional
The BCRA under the leadership of jump in the CPI of 7.9% would be necessary. .
Sturzenegger is on the path to putting an end to Finally, if the adjustment came from the quantity
the surplus of money of 3.7% of GDP inherited side, net sterilization would have to be increased by
from the previous leadership. The task takes on $26.8 billion or, failing that, $36.4 billion of demand
greater relevance when one considers that in the deposits would have to be converted to fixed-term
two previous comparable experiences (1959 and deposits.
1975), monetary normalization led to a six-fold
increase in the level of inflation and sharp falls in Faced with this situation, although we are
GDP. This surplus of pesos is the child of several close to winning the battle of stocks, we are still very
economic policy errors, whose parents are the far from winning the war against inflation. On the
exchange rate CEPO and fiscal policy (the mother one hand, given the 18-month lag in the money-
of all evils). Thus, while it was issued to finance inflation relationship, Vanoli's inheritance leaves an
fiscal waste, the CEPO prevented excess pesos inflationary floor of 15%, which when adding the
from leaving the system via the purchase of transfers to the treasury for $ 160,000M would
foreign currency, leaving $200,000M trapped in reach 30% annually. On the other hand, an
the form of M1 by the end of 2015. enormous sterilization effort would have to be
made, since not only would the current stock of
LEBACs have to be renewed (6% of GDP), but to this
Faced with this monetary imbalance, the new would have to be added the effect of interest (1.5%
BCRA has decided to attack the problem forcefully. of GDP). GDP), which could additionally add another
According to the estimates that we have made 10 points of inflation.
together with Federico Ferrelli Mazza, the excess
pesos from the end of the year to date have been Therefore, the strategy of placing all the
reduced by 81.8%. The original surplus of pesos effort to clean up the surplus pesos in the hands
that, at the official exchange rate that governed of the BCRA, together with the very modest fiscal
during the CEPO, represented a potential demand adjustment, punishes the income-risk
of USD 20,000M, when the exchange rate jumped relationship of the chosen policy. In terms of
fell to USD 14,000M. In turn, the agreement with return, high interest rates penalize investment
importers for USD 5,000M led to the and growth. Regarding risk, the concentration

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Chart A: The Monetary Policy Pentagon

Source: Own elaboration based on BCRA data

of short-term debt headed by the BCRA leaves decreasing inhabitant, in the labor market losses
the door open for a speculative attack in the of private jobs (made up with public jobs) and in
event of an adverse shock, in a context where the money market a high inflation. That is, the
the fiscal program requires heavy doses of decision to try to hide the effects on the
funds from abroad. Therefore, once again, the exchange rate and prices resulting from a large
limits imposed by the political corporation on fiscal imbalance that was financed mainly with
public spending have led to choosing a quality monetary issuance (and reserves) not only
of economic policy that is far from optimal, deprived the country of taking advantage of the
leaving the BCRA carrying most of the most favorable international context it has ever
responsibility in the fight to achieve greater had. in its history, but also left the foundations
well-being. . for hyperinflation to break out.

Naturally, the joint presence of a fiscal

Appendix 2: The optimality of deficit financed by the issuance of money and
the BCRA's monetary policy restrictions in the exchange market (CEPO),
meant that the pesos were trapped in the
Prior to the assumption of the new system, generating a monetary surplus by the
leadership of the BCRA in December 2015, the end of 2015 of about $200,000 million, which
economy had had restrictions in the exchange was equivalent to 4% of GDP. Excesses of
market (CEPO) for four years. This situation, given money of such magnitude throughout
that it involved setting a price for the foreign Argentine history had been recorded in the
currency below its equilibrium level (hence the years 1959 and 1975. In both cases, when the
existence of the gap), generated excess demand exchange restrictions were lifted, the inflation
that translated into a generalized excess supply rate multiplied by six times, going from levels
in the rest of the economy. Thus, these excesses, of 20% to 120% and from 30% to 180%
in the bond market implied high interest rates, in respectively, with GDP falls of around 6% at the
the goods market a GDP per most acute moment of the outbreak.

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To measure the magnitude of the problem, welfare gain. Furthermore, this result
if we consider that during the eight years of deepens if inflation is treated as an evil that
Cristina Fernández de Kirchner's government the generates disutility.
amount of money grew by 546% and prices
according to Congress grew by 517% (95.5% of Now, suppose that in the case of the BCRA
the issuance was transformed into inflation) and there was no certainty about closing the fiscal
that Alejandro Vanoli left the amount of money deficit. Even so, in the case of a certain
growing at 47%, a number that, given the futures hyperinflation today compared to a potential one
bomb, climbed to 80%, underlying inflation was in the future, the measure remains correct. And if
around 80%. At the same time, faced with the we add to this the passion of Argentines for the
inexorable opening of the CEPO due to short term, there is no doubt that sterilization has
macroeconomic inconsistency, in accordance resulted in a strong improvement in well-being.
with what history has shown, the inflation rate However, it does not end there. If one considers
would have climbed to levels of 500% along with that the average rate at which the BCRA
a drop in GDP of 6% with poverty levels higher borrowed was 28%, while inflation for the year
than 60%. A true catastrophe. would be around 40%, this implies a liquefaction
of 10% of the debt due to LEBACs, which is why
In fact, the catastrophe did not occur as a the profit welfare derived from the sterilization
result of a profound policy of monetary policy is magnified. In short, even if the BCRA's
sterilization via the placement of LEBACs. In move went wrong due to lack of fiscal
this way, avoiding hyperinflation meant that commitment, the strategy carried out by Federico
the stock of LEBACs went from almost Sturzenegger and his team has been optimal.
$300,000M to about $700,000M ($200,000M
has as a counterpart an amount of USD
14,000M as insurance against runs). Therefore,
sterilization through LEBACs, plus the Appendix 3: One year after the departure of the
agreement for the debt with importers, the CEPO
dollars contributed by soybean producers and
the specific interventions of the BCRA (futures A year ago, the Cambiemos government,
maturities) managed to avoid hyperinflation. despite the catastrophic forecasts that predicted
a crisis of enormous proportions, decided to
Naturally, this action was not without begin the process of liberating the exchange
criticism. One of the attacks was based on market, that is, lifting the CEPO. Thus, in line with
what the literature calls “the unpleasant what good economic theory predicted, the price
monetarist arithmetic”, which indicates that if of the foreign currency (the dollar) was located at
one finances the fiscal deficit with monetary an intermediate point between the official price
emission and that to avoid inflation sterilizes and the one emerging from the parallel market.
money at a positive real interest rate, If the However, beyond the factual issue of exit and
deficit caused by the issue is not closed, in the especially the collateral effects of the measure, it
end the price level will be higher, so the is worth analyzing two issues: (i) at the regulatory
inflation rate between peaks will be higher. level, which indicates the reasons why the exit
should be CEPO and (ii) the economic
However, the argument has two flaws. On the consequences of the type of exit that has been
one hand, it assumes that the fiscal deficit will never chosen.
be reversed. On the other hand, it omits the
intertemporality underlying the process. Specifically, A3.1 The regulatory plan for leaving the CEPO
if the deficit were to be closed, faced with a very
high current inflation and a low tomorrow, The restrictions in the exchange market
monetary sterilization allows the BC to distribute (CEPO) established by Kirchnerism implied
inflation over time and given that future flows weigh setting a price for the foreign currency (the
less on the preferences of individuals than present dollar) below its equilibrium level (hence the
ones, The measure results in a existence of a gap), which generated a

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ISSN 2250-754X online

excess demand that translated into a Overhang), a phenomenon no less

generalized excess supply in the rest of the important when lifting restrictions in the
economy. Thus, these excesses, in the bond exchange market, since this repressed force
market implied high interest rates, in the leads to an over-reaction in all the variables
goods market a decreasing GDP per of the economy.
inhabitant, in the labor market losses of
private jobs (pretended with public jobs so that Naturally, the joint presence of a fiscal
the unemployment rate did not increase while deficit financed by the issuance of money and
at the same time the fiscal deficit increased) restrictions in the exchange market (CEPO)
and high inflation in the money market. That generated a monetary surplus by the end of
is, the decision to try to hide the effects on the 2015 that amounted to about $200 billion,
exchange rate and prices resulting from a which was equivalent to 4% of GDP. Excesses
large fiscal imbalance that was financed mainly of money of such magnitude throughout
with monetary emission (and reserves) while Argentine history have been recorded in the
depriving the country of taking advantage of years 1959 and 1975. In both cases, the
the international context (terms of trade 30% inflation rate multiplied by six times, going
better than those at the end of World War II from levels of 20% to 120% and 30%. to 180%
and zero interest rates) the most favorable it respectively, with GDP falls of around 6% at the
has had in its history. most acute moment of the outbreak.

On the other hand, there was no factual To measure the magnitude of the problem,
margin to continue with the increase in public if we consider that during the eight years of
spending financed by emission and managed Cristina Fernández de Kirchner's government the
exchange rate, since net reserves were zero. amount of money grew by 546% and prices
That is, of the USD 25,000 million that were according to Congress grew by 517% (95.5% of
reported, when the swap with China, the the issuance was transformed into inflation) and
banks' reserves for their dollar deposits and that Alejandro Vanoli left the amount of money
the debt with importers was cleared, the BCRA growing at 47%, a number that, given the futures
lacked the firepower to sustain the exchange bomb, climbed to 80%, underlying inflation was
rate. . Therefore, faced with this reality, not around 80%. At the same time, faced with the
opening the CEPO implies tightening controls inexorable opening of the CEPO due to
and sinking the economy even further. macroeconomic inconsistency, in accordance
with what history has shown, the inflation rate
would have climbed to levels of 500% along with
2. Macroeconomic consequences of the
a drop in GDP of 6% with poverty levels higher
departure of CEPO
than 60%. A true catastrophe.
2.1. The inherited monetary imbalance and the
hyper that was not In fact, the catastrophe did not occur as a
result of a profound policy of monetary sterilization
The traditional literature on “international via the placement of LEBACs. In this way, avoiding
monetary economics” maintains that under a hyperinflation meant that the stock of LEBACs went
managed exchange rate system (in the from almost $300,000M to about $700,000M. In
extreme case a fixed exchange rate), the turn, $200,000M of the stock would have to be
excess of monetary emission above the cleaned, which has as a counterpart the purchase of
demand for money generates a loss of USD 14,000M and which, in the face of jumps in the
international reserves as a result. and the exchange rate, not only generates positive results
moment they fall below a critical level, a for the BCRA, but also provides it with firepower
balance of payments crisis breaks out. At the against to a speculative attack against the currency.
same time, if there are restrictions on the Therefore, sterilization through LEBACs, plus the
purchases of foreign currency, an excess of agreement for the debt with importers, the dollars
domestic currency begins to exist, which in the contributed by soybean producers and the
literature is known as a peso surplus (Money interventions

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 Year XXVII, No. 91 – January / April 2017 Economic News
ISSN 2250-754X online

punctual BCRA (futures maturities) it was

possible to avoid hyperinflation. 3. Final reflection

2.2. The implications on the real side of the The lack of reserves and the macro
economy imbalances derived from the CEPO required an
urgent exit. However, the selected method has
Although the departure of the CEPO did not been far from optimal, since it has implied a
lead to a disaster and the BCRA with masterful deterioration in social conditions and has
skill avoided hyperinflation, this does not mean deepened the drop in the level of activity. At the
that the methodology for the exit was optimal. same time, although a battle against
Specifically, at the time of leaving the CEPO, the hyperinflation has been won, the stock of LEBACs
Minister of Finance, Alfonso Prat-Gay, dismissed says that the war is not over. Based on this, we
the existence of the monetary surplus and as a hope that the political corporation and its
result, he rejected carrying out a bond placement irresponsible fiscal waste will stop sabotaging the
that would clean up the excess pesos. achievements of the BCRA, since failing that, the
damage to society will be enormous.
If the peso market has dried up by placing a
bond on the head of the public sector (something
natural, given that the excess money is the result
of financing the treasury with a restricted
exchange market), the firepower of the market to
buy dollars, would have been the same as that of
a revolver without bullets, so the price of the
foreign currency would have been much more
similar to the official exchange rate than to the
parallel one, which would have radically changed
the future situation of macroeconomic balance.
On the one hand, the price of food would have
risen much less, so the impact on the most
vulnerable sectors would have been much
smaller and less burdensome to sustain. This
point is not minor, since the rise in food prices
compressed the purchasing capacity of other
goods, which deepened the recession associated
with the change in relative prices in a very
inflexible economy. On the other hand, the need
to carry out a profound money sterilization
process forced the BCRA to have to work with
interest rate levels that have not contributed
positively to the expansion of the economy, thus
worsening the recessive situation.

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