Business climate overview

Country Briefing Argentina
The Economist Intelligence Unit/ Infoestrategica
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  • GDP growth moderates
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  • State is more active in economy
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  • Foreign investment remains weak

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Focus for strategy. Argentina will continue offering multinational companies mixed market prospects in 2005-06. President Néstor Kirchner, of the Partido Justicialista (PJ, or Peronists, will continue to emphasise his government’s departure from the free-market orthodoxies of the 1990s. Following a successful US$100bn debt restructuring, Argentina will seek an IMF agreement near the end of 2005 allowing it to refinance most of its upcoming repayments as well.

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Having reached 9% in 2004, real GDP growth will moderate to some 6.5% in 2005 and 4.1% in 2006. The pace of job creation will slow and tighter monetary policy will result in lower money supply growth. Private consumption growth will trend downwards, with higher inflation reducing purchasing power. However, the authorities’ commitment to maintaining a competitive exchange rate will benefit goods producers servicing both the domestic and export markets. There are some risks to this forecast, notably a shortage of capacity in electricity supply which could lead to power rationing in mid-2005 as happened in 2004, curbing industrial output.

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The state will have a more active role in the economy, with more redistribution and greater intervention in infrastructure and energy. The government will occasionally use unorthodox measures such as price controls to achieve its policy goals. Officials will start renegotiating public utilities contracts between the government and foreign investors, which were abrogated in 2002 after the peso was devalued.

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Wide-ranging tax reform may be introduced in 2006, with an emphasis on eliminating distortions and sharing tax pressure more evenly. The financial-transactions tax and agricultural export levies may be reduced as well.

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Despite his nationalist rhetoric, Mr Kirchner will strive to maintain good relations with the US and friendly relations with centre-left governments elsewhere in Latin America. Terms with the EU will depend on what progress is made in renegotiating contracts with privatised utilities, most of which are in European hands. Relations with Brazil will be generally good, although worries about the competitive threat represented by Brazilian goods in Argentina’s domestic market and about policy asymmetries will hamper integration.

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Political outlook. Ideologically, Mr Kirchner’s administration marks a break with the pro-market government policies of the 1990s, which a majority of Argentinian voters blames for the economic collapse and maxi-devaluation of 2001-02. The president will prioritise growth and social policies over cultivating relations with foreign investors. He has benefited from Argentina’s rapid economic growth ever since taking office, and the government’s success in achieving a debt reduction of historic proportions will boost his prestige in the short term. His populist touch has kept his approval rating high, while the ruling PJ has a commanding position in both houses of Congress and holds most of the provincial governorships.

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GDP. A strong recovery in 2003-04, assisted by a commodity price boom, will carry over into 2005-06. However, the constraints on investment growth, authorities’ limited ability to stimulate demand via fiscal and monetary policy, and the weakness of the financial system will moderate real annual GDP growth to 6.5% in 2005 and 4.1% in 2006.

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Inflation. The authorities have begun to tighten monetary policy but are unlikely to achieve the Central Bank’s target range of 5-8% for 2005. Instead, inflation will average some 9%. Inflation worries have led the government to negotiate voluntary price freezes with producers of staple foods and discourage petrol distributors from raising prices. We assume that such measures will contain inflation and that it will end the year no higher than 11%. We expect an inflation reduction in 2006 as the tighter monetary policy begins to take effect.

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Fiscal accounts. The government recorded a primary surplus (excluding interest payments) of 4.1% of GDP in 2004. This strong performance has rested in part on maintaining an export levy and a financial-transactions tax introduced during the economic crisis of 2001-02, which together accounted for 16% of revenue in 2004. The agricultural lobby will pressure the government to phase out the export levy.

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Investment. Annual foreign direct investment increased to US$4.3bn last year from US$1.4bn in 2003. It is likely to remain low in the forecast period, totalling US$4.5bn in 2005 and US$5bn in 2006, thanks to continued investor uncertainty over government policy. Most utility rates have been frozen since 2003 and officials have yet to renegotiate contracts with the companies’ primarily European owners, which should discourage investment in these industries.

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Multinational carmakers will invest in select models aimed at the domestic and international markets. Retailing will also receive attention from foreign investors, including Wal-Mart (US) and Cencosud (Chile). Hotels and airlines are set to receive fresh commitments. Commodities like soya and meat will also present opportunity.

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Credit. Although personal lending will recover, the corporate credit market will be limited. Companies will self-finance or use alternative financing methods like trusts and short-term notes. Average lending rates—6.8% last year—will rise to 11% in 2005 and 12% in 2006.

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Balance of payments. Export earnings will continue to expand, initially led by manufacturing exports. However, the trade surplus will decline as import spending, driven by investment and private consumption, rises more quickly. We expect the current-account surplus to average just 1% of GDP in 2005-06.

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Exchange rate. With inflationary pressures building, the authorities may allow the currency to strengthen more than we forecast in 2005. The peso is currently some 50% weaker than in the late 1990s and 2000-01. The peso is likely to maintain its nominal stability in 2006. Argentina’s competitiveness in the EU market will benefit from the weakness of the US dollar against the euro.

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Argentina: Key indicators

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2002

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2003

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2004

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2005f

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2006f

- GDP growth (% change) -

-10.9

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8.8

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9.0

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6.5

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4.1

- Inflation (year-end, %) -

41.0

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3.7

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6.1

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10.1

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6.0

- Exports (US$ bn) -

25.7

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29.6

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34.5

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36.6

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37.6

- Imports (US$ bn) -

8.5

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13.1

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21.2

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25.9

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29.4

- Trade balance (US$ bn) -

17.2

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16.4

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13.3

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10.7

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8.3

- Current-account balance - (% of GDP) -

9.0

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6.0

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2.0

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1.5

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0.4

- Foreign direct investment - (US$ bn) -

2.2

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1.4

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4.3

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4.5

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5.0

- Exchange rate (Ps:US$1) -

3.32

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2.90

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2.96

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2.87

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2.85

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-1.5

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0.5

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2.6

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2.1

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2.2

- f = Forecast.
- - Source: Economist Intelligence Unit.

- - SOURCE: EIU / INFO-e

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