Banking Crises in Argentina

Banking Crises in Argentina

The banking crises in Argentina originated in 2001 was a result of the weaknesses in the banking system in the 1990’s and the policies of 2001 that damaged “the franchise value of banks by rendering the payment system ineffective” (Banking Crises Resolution).

The banking system weaknesses that materialized during the 1990’s were:

1. A fixed exchange rate was maintained due to the fact that most of the lent dollars were borrowed to entities earning in pesos.

2. Government Risk. Public banks were holding a large share of government paper in their assets.

Argentina suffered from the transition of a dictatorship to a democracy. The dictatorship left the country with huge amount of debt. When democracy was reinstated in 1983, the new plans to institute the Argentine’s economy demanded more debt. Soon, the interest payments on the acquired debts were so high that the government was unable to keep up with them. Inflation stretched to 200% per month in 1989.

In 1991, under the decree of Domingo Caballo, was enacted the law of convertibility “Ley de Convertibilidad” in which the peso was set at the same exchange rate as the dollar. One peso would be equal to one dollar. In order to make effective this law, the Central Bank had to maintain in its dollar reserves at the same amount of money that was in circulation. This law resulted in a lower inflation, price stability, and a preserved value of currency. As a consequence, imports became inexpensive due to fixed exchange rates and money started to flow out of the country damaging the industry in Argentina.

Meanwhile, the government kept on borrowing and the International Monetary Fund kept on lending. It was clear that the corrupt government would not be able to pay its debt so the IMF started to postpone the payments. Argentina in the mid 1990’s was affected by the crises in Mexico for the lack of international investors’ confidence in Mexico. In order to avoid large outflows of deposits, Argentina increased domestic interest rates. This increase in interest rates led to defaults by borrowers. This rigid monetary policy plus the loss in confidence in the banking system led to the 1990’s banking crises.

The precarious period started in 1999 with the decrease in GDP of about 4% which led to a recession and a high economic instability. The contractive economic measures used to fight the recession did nothing and made the problem worse.

The instability led to a panic causing insecurities on investors who soon took all their money out of the country as well as other thousands of depositors that withdrew enormous amounts of money to take it out of the country. This caused the government to react and enact “Corralito”, a measure that froze all account allowing only small amounts of cash withdrawals. This enactment triggered the rage of the citizens who went to the streets to strike. The current president, Fernando de la Rua, had to resign his duties and fled out of the country. A public debt of more than 93,000 million dollars was left behind and the appointed interim government, Adolfo Rodriguez Saa, also left his position due to frustration on the impossibility to pay debt. Eduardo Duhalde was appointed by congress to take his place. The first thing he did was to abolish the peso-dollar parity. This measure devaluated the peso and encouraged inflation. This crisis affected many domestic and foreign industries as well as the civilians and the agriculture.

The crisis was soon to be recovered in some part thanks to Duhalde. As soon as the situation stabilized, he called for elections and a new president was elected. In 2003 Nestor Kircher was elected president and the path to recovery was ahead.

Thanks to the abolition of the 1to1 parity, the peso devaluated and Argentine exports became competitive. Soy was one of the main exports in Argentina with China being one of the most important buyers.

The government started to implement the following measures:

1. Improve tax collection.

2. Social Welfare

3. Control of Expenditures.

Thanks to these measures, the peso revalued and the foreign investment and the industry began to flourish again. The central bank began to buy dollars in the