Most observers blame Argentina's ongoing problems on its inability to reign in government spending and tame its 25-30% inflation rate. I think the problem is simpler. As I noted 18 months ago, Argentina has been addicted to money-printing for a long time. Its monetary base has been growing about 30% per year for the past 9 years. Money printing has been and continues to be a major source of financing for the government's deficits. In the U.S., federal deficits are financed almost entirely by the sale of government debt. In Argentina, however, if the government can't finance its deficit by selling debt, then it simply resorts to asking the central bank for money, in exchange for an IOU. The U.S. spends money it borrows from the market, but the Argentine government spends money created out of thin air by its central bank.
Argentina has two ways to proceed if it wants to get things under control. One, reign in government spending in order to reduce the deficit (no more taxes, please!). Two, establish enough credibility with foreign investors so that government deficits can be financed with debt sales. Nothing wrong with doing both, of course, while at the same time eschewing money-printing.
Chart #1
Chart #1 documents Argentina's primary problem: massive money printing. For the past 9 years, the central bank has allowed a 30% annual expansion of the monetary base (two-thirds of which is currency in circulation). Not surprisingly, inflation has been running around 25-30% per year. Inflation, as Milton Friedman famously noted, is a monetary phenomenon. Inflation happens when the supply of money exceeds the demand for it. And in this case, a ten-fold increase in the money supply over 9 years clearly and by far outpaced money demand, so the value of the peso plunged and prices in turn soared.
Copiado de Argentina just got a $5 billion lesson in the Laffer Curve.
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