Argentina’s Infidelity: The Love Affair with Inflation
EspañolInflation does not appear to be letting up in Argentina. The new National Urban Consumer Price Index (IPCNu) shows rates at 3.65 percent and 3.42 percent per month in January and February respectively.
These estimates are not far off those of the CPI Congress, an opposition number that averages estimates from private consultants. The CPI Congress calculated a monthly inflation rate of 4.6 percent in January and 4.3 percent in February.
The latest increase in the official index corresponds more closely to inflation, to receive approval from the IMF and to negotiate with the Paris Club. However, the painful reality is that the price level increased by 34.88 percent in the year leading up to February — as documented by the CPI Congress.
Interestingly, this increase in inflation was coupled with a deceleration in the increase of the money supply, already below 20 percent annually. It is worth noting that since January 2013, the expansion of the money supply slowed from nearly 40 percent to slightly less than 20 percent.
The question here is: if the money supply has decelerated, why has inflation increased?
To account for this it is important to understand, as pointed out by the economist Henry Hazlitt, that not only is the amount of money in circulation in the economy important, but also the “quality” of the currency. While a reliable currency will be in high demand, a currency of low quality will not.
This is the problem in Argentina. The domestic currency generates less confidence every day, and the people prefer to dispose of it by buying dollars or assets.
It all starts to make more sense when you consider the history of Argentina is the history of inflation. With the exception of a brief period of convertibility, Argentina has always had high levels of inflation. While this is not intended as a defense of convertibility, it demonstrates that Argentina has been a country characterized by high inflation rates since the creation of its Central Bank.
Since then, the destruction of the currency has been phenomenal, removing 13 zeros from the peso over time. If we calculate inflation from 1940 to 2013, it amounts to nothing less than 4.8 billion percent. An Argentinean over the age of 50 has probably lived through four different currency changes in his life.
Who would trust a currency with this sort of history? It’s basically economic suicide.
After reviewing the history of inflation in Argentina, the drop in demand for its currency is understandable. Its counterpart is observed in the rise of the “blue” (illegal dollars sold in the black market), but it’s not the dollar that is rising; rather, the peso is devaluing. As the peso drops, the dollar increases in value relative to the peso, which does not imply the dollar has increased on its own.
It’s important to recall the words of the economist Ludwig von Mises, who said the process of inflation involves “the money supply growing faster than the demand for money.” It is not just the money supply that we need to observe, but also the demand for currency (or its quality, as described by Hazlitt). As this demand falls, it disrupts the balance with the money supply.
This is why we continue to observe high inflation rates, despite adjustments being made to the money supply. Even while the Central Bank continues its practice of internal debt (generating debt from bond sales), it is possible that inflation may continue on into the future. It all depends on whether the source of government funding will come through the inflation tax or internal debt (LEBACS and NOBACS).
Internal debt is also not very desirable, because it jeopardizes the balance of our central bank, and it necessitates an increase to interest rates to raise the demand for the short-term bonds being issued.
The government could opt for this strategy of increased internal debt to ease inflation, but the cost would be a dilution of the solvency of the Central Bank in the long run in order to finance the increases in government spending.
The healthiest solution would be to reduce public spending, which in the last 10 years has demonstrated an excessive and dangerous growth, increasing from 30 percent of GDP to 45 percent. The million dollar question remains: is Kirchner’s government willing to assume the political cost?