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September 9, 2020


ARGENTINA: The Week at a Glance

BY Miguel A. Kiguel, Andrés Borenstein, Lorena Giorgio, Mariela Díaz Romero, Rafael Aguilar, Isaías Marini

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( 18 mins)

With a Little Help from My Friends

The economic scenario is challenging for Argentina. International reserves are scarce, there is an excess of pesos, and an activity level that will fall by 11.6% according to our estimates and 12% if we consider the median of the forecasts in the Central Bank’s monthly survey. The agreement with the IMF is awaited like a sort of Messiah that will help stabilize the economy while the Government debates whether to strengthen restrictions for buying dollars, to split the exchange rate, to fire sell bonds held by the Central Bank, or come up with something else. Something must be done, and the menu should contemplate accelerating the crawling peg and unleashing the interest rate a little. An additional concern is that most of the little data released for August shows that the recovery might have been interrupted. There is not enough information to be conclusive, but this is an amber light.

But not all news is bad news. The international economy seems to be lending a hand. It is not enough but having the world on your side is no small advantage. In the last couple of months, the dollar depreciated against all the major currencies. Before the pandemic, for one euro you could get 1.10 dollars, while in the last few days the euro has been toying with reaching 1.20 dollars. The Brazilian real, which touched 5.60 per dollar, is already below 5.30. Although the BRL is still “cheap” in real terms against its recent past, the truth is that Argentina’s multilateral real exchange rate is depreciating relatively painlessly.

The weakness of the dollar has another important effect. Commodity prices go up. Soybeans, Argentina’s main export, hit a minimum of USD 301 per ton in Chicago on March 16. Last week it closed at USD 355; 17% more for a country with a shortage of dollars is a blessing. The rise in gold and copper, although much less significant, also helps. The rise in copper will have an impact on Chile, an important trade partner. Copper hit a minimum of 2.10 dollars per pound and traded at almost 3.06 before this week’s holiday in the United States.

Three weeks ago, in this forum, we said that we should pay attention to the risk of drought. It rained quite a bit last week, bringing relief to the wheat harvest and replenishing moisture to the soil, which will make it possible to plant corn. The risk has not disappeared, but the outlook has improved.

While some signs of stagnation appeared in Europe, the international economy also lends a hand in this complex panorama. In most developed countries we see a V-shaped recovery, which now must avoid becoming a “square root”. In any case, in the region, Argentina’s two most important partners have been improving their forecasts, even after undergoing tough experiences with the Covid-19. In Chile, the fall expectation is in the 5 to 5.5% range for this year, while, according to the latest data from the Focus survey of the Central Bank of Brazil, their GDP would contract 5.28%, when less than 3 months ago the fall reached 6.6%. In its June review, the IMF had assumed that Brazil would fall almost 10%. In addition, a greater appreciation is expected for the real. Today’s report indicates that economists expect a BRL of 5.25 at the end of the year, while it stood at 5.50 only a couple of months ago. Brazilian economists expect the real to be around 5.00 by the end of 2021.

Coming up

  • The first auction of bonds in pesos this month will be held on Wednesday 9. We will have to wait and see if the Treasury maintains the rates of the last auctions or if it gives signs that will help reduce the demand for dollars. We pay very close attention to the future rates that emerge from the auctions.
  • July´s industrial installed capacity utilization will be released on Thursday 10. We expect a slight increase compared to June´s figures in line with the IPI published last week
  • June´s public utilities data will also be released on Thursday.

Pressure on the Foreign Exchange Front Despite the Debt Settlement

The debt restructuring had a successful outcome with broad support from creditors but had a limited impact on other fronts, such as foreign exchange and equities

– The CB´s interventions in both the spot and futures markets have been quite strong.

– Rumors of an exchange rate split began to grow, and in addition to that possibility, the CB would have a fire-power of around USD 7 billion to intervene in the blue-chip swap market.

The debt restructuring had a successful outcome with broad support from creditors but had a limited impact on other fronts, such as foreign exchange and equities. As for the exchange spread, it showed much volatility since early August, when the fifth restructuring proposal under foreign law had been released, and debt restructuring under local law had been approved in Congress. Although part of this volatility was due to the low liquidity of local law bonds, the truth is that it moved in a range that reached 82% and closed August at 69%, with the intervention of official agencies to contain it. As for shares, the S&P Merval, measured in pesos, contracted 13.3% since August 4, and 15.6% measured in dollars.

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In the end, the exit yield of the new bonds, both under local and foreign law, was between 11-12% according to the first quotations in the grey market, which would immediately lower the EMBI-AR from 2,100 bps to 1,100-1,200 bps. In addition, the S&P debt rating agency has removed Argentina from selective default and assigned it a CCC+ rating, while Ecuador was rated a few steps higher as a B-.

The Central Bank had to sacrifice USD 1.2 billion reserves in August, selling in the last 33 working days. On the first day of September, sales intensified and totaled USD 241 million. Although there is seasonal effect at the beginning of each month, the truth is that interventions are intensifying more and more. As for the open interest in ROFEX futures, it peaked at USD 5.5 billion by the end of August, and the CB is still by far the main seller in that market.

Accordingly, rumors of an exchange rate split began to grow. That would mean keeping one FX for trade transactions and a different one for financial transactions, both of which would be fully legal. In addition to that possibility, the CB would have a fire-power of around USD 7 billion to intervene in the blue-chip swap with the new bonds from debt restructuring, and Social Security Agency (ANSES) can contribute with some firepower as well. However, this strategy’s drawback is that it lowers the parity of the bonds and increases the return rate.

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There was some tension in the rates market in late-August, but it then relaxed. For several weeks now, credit has been growing faster than deposits and time deposits faster than sight accounts, putting some pressure on bank margins. This Wednesday, the Treasury will auction bonds in pesos again, and the rate signal will be very important to understand if neutral to positive real rates will persist. The focus will be to look at the future implied rate on the prices of the bonds to be auctioned.

The FX Tax, Personal Assets, and Income Tax Boosted Revenues in August

Tax revenues amounted to ARS 612.1 billion and grew 33.5% compared to August 2019, which meant a 5.4% fall in real terms

– The Income and Personal Assets tax deadline extension until August and the FX tax were the main drivers for the growth of revenues

– Taxes levying foreign trade declined again in line with the slump in exports and imports in recent months

– So far this year, tax revenues have increased 27.3% compared to the same period a year ago

August has been the best month for tax revenues since the beginning of the lockdown. Although it is true that economic activity has started to react faster than expected from the rock bottom it had hit in April, the improved performance in revenues is fundamentally explained by the changes in the Income and Personal Assets tax expiration dates, and the additional revenues derived from the FX tax (known locally as PAIS), mainly on the purchases of dollars for hoarding.

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Tax revenues amounted to ARS 612.1 billion in August 33.5% over their level a year ago. This result meant a 5.4% fall in real terms according to our estimates, their lowest since February prior to the lockdown.

For the first time since May 2018, taxes linked to the domestic market (43.6%) grew over the estimated year-on-year inflation (41.4%). The economic activity rebound and the greater adherence to the various payment plans to regularize overdue obligations only contributed marginally to this result. The main boost came from the Personal Assets side, which grew 685% favored by the extension of deadlines until August due to the pandemic (in 2019 the deadlines occurred in June) and the fact that the tax rate is much higher than before. The new FX tax, which added ARS 21.8 billion to the Treasury’s coffers, as over 4 million people bought the USD 200 quota that generates a 30% tax.

Another tax that grew above general revenues was income tax(37.4%), also favored by the extension of the deadlines schedule. During August, this effect more than offset last year’s lower real income, the increase in the non-taxable base, the reduction of advances for individuals, and the updated tax rates table for individuals and companies.

VAT-DGI (off customs) revenues grew scarcely 14.5% y/y, reflecting the sustained weakness of private consumption, although they considerably improved their performance of the last three months. As for social security revenues, they recorded a 22.1% year-on-year increase after growing 18.5% in July and is still far from the 40% increase recorded in March. The reduction in contributions for essential sectors continues and some other payments of employer contributions to social security were postponed to September.

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Unlike recent months, the tax on Debits and Credits grew below general revenues, 20.7% over its record of a year ago. This item is managing to partially offset the negative impact of consumption weakening thanks to the greater use of electronic charge methods. Nevertheless, the 1.3% actual fall recorded by this tax in the seasonally adjusted monthly measurement, after growing 3.6% the previous month, shows that economic activity slowed down its recovery in August, as we predicted in our base scenario.

The slump shown both by exports as well as imports impacted once again on foreign trade revenues that jointly grew just 0.8% y/y. After growing 12.6% in July, export taxes fell by 6% in August, affected by the collapse in traded volumes. In spite of the increase in tax rates compared to August 2019, this item’s poor performance was also explained by the broad FX spread that continued to discourage sales. The comparison basis from a year ago included the remains of a record harvest. On the other hand, import taxes fell 0.9%, in a month in which imports plummeted again in volume, while income from customs VAT grew scarcely 6.4%.

Given the good performance of Income tax and wealth tax, direct transfers to provinces amounted to ARS 213.9 billion in August, growing 43.4% compared to a year ago, which means a real increase around 1.6%, the first one since November.

Thus, tax revenues have accumulated a 27.3% increase so far this year compared to the same period in 2019. Taxes linked to foreign trade grew an average 22.1%, while those that refer to the domestic market were 28.5% above their level of the first eight months of 2019.

Industry Continued to Rebound in July, Although with Less Momentum

– The Manufacturing Industry Production Index grew 2.1% m/m ─seasonally adjusted─ in July, although it is still 8.8% below February’s level

– Despite the monthly improvement, the official indicator slightly extended its year-on-year fall to 6.9% due to a higher comparison base

– The performance among the main sectors was heterogeneous: the textile sector contracted the most (-28.2% y/y), followed by the automotive sector (-22.8% y/y); conversely, the petrochemical sector grew 4.5% y/y

– Thus, industrial production accumulated a 13.4% fall in the first seven months of the year compared to the same period in 2019

Industry continued its recovery process during July, even despite the return to phase one lockdown in the AMBA (Metropolitan Area of Buenos Aires). Unlike this region, in the interior of the country activities continued to resume ─under strict health protocols─ and this was reflected in the greater number of premises that were able to operate normally throughout the country (51% compared to 46% in June, according to INDEC).

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This way, the industrial production index (IPI) -seasonally adjusted series- grew 2.1% m/m, a modest increase compared to the one recorded in June (16.5% m/m, adjusted upwards from 13.8% by INDEC). Despite this increase, industry has not yet managed to recover its pre-pandemic levels ─-unlike construction─ and, in July, manufacturing production was 8.8% below February’s record. In year-on-year terms, the official indicator slightly extended its drop to 6.9% (compared to -6.3% in June, revised by INDEC from -6.6%), due to a higher comparison base.

The performance among the main sectors was heterogeneous, with only one sector growing above its level of a year ago. The steepest drop was experienced in the textile sector (-28.2% y/y), deeply affected by the lockdown: according to the Qualitative Manufacturing Industry Survey released by INDEC, 20% of the sector’s productive establishments remained closed due to isolation measures, while in the other areas this proportion was under 5%.

The automotive sector followed behind, although it reduced its y/y drop to 22.8% (compared to -33.4% recorded in June). In fact, automotive production continued to recover in July and according to data released by ADEFA, the number of units produced grew from 15,657 in June to 21,316. Although the situation continued to normalize and 25,835 units were produced in August, when discounting the seasonal effect, production dropped 12.8% m/m, reflecting that the recovery lost its momentum in the eighth month of the year.

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On the other hand, the non-metallic and basic metallic minerals sector fell 20.5% y/y (vs. -27.8% y/y in June). The reduction in the fall was explained by the growth of construction activity and the automotive sector, the main demanders of the sector. In fact, our estimates show that the non-metallic minerals sub-sector grew 11.1% m/m and the basic non-metallic industries one grew 11.4% m/m ─both in seasonally adjusted terms. The equipment, devices, and instruments sector (-17.6% y/y), metal products, machinery, and equipment (-11.7% y/y), and furniture and other manufacturing industries (-5.6% y/y) followed behind.

In contrast, the wood, paper, publishing, and printing sector (-0.8% y/y) and the food sector (-0.7% y/y) scored very small drops compared to a year ago, while the petrochemical sector managed to grow 4.5% year-on-year, although partly due to the low comparison base of chemical products, whose production had been technically affected a year earlier as a result of the national electricity blackout that happened in June 2019.

With these results, industrial activity contracted 13.4% during the first seven months of 2020 compared to the same period in 2018. The only main sector that managed to grow was food, beverages, and tobacco, although scarcely 0.9%.

Even though the AMBA moved onto a new stage in the lockdown with a greater number of permitted activities, the recovery seems to have lost the momentum observed in recent months, and this is reflected in the lower electricity consumption by industries reported by CAMMESA, which -in seasonally adjusted terms- fell 1.4% compared to July. Despite more authorizations to operate, the level of demand is not the same as it was before the pandemic, and this is the main obstacle the sector will have to face in the coming months.

Construction Consolidated Its Recovery in July

– Construction activity grew 6.8% m/m in July, according to the ISAC released by INDEC –seasonally adjusted series─, hand in hand with inventory rebuilding and the broad FX spread that favors investment in construction materials

– The official indicator cut its y/y drop once again to 12.9%, compared to April’s record (-76.2%)

– Demand for the main construction materials grew again in July, although unevenly: the use of hollow bricks increased 10.2% m/m, cement grew 0.8% m/m, and asphalt rose 25.4% m/m

– This way, during the first seven months of the year activity accumulated a 34.0% contraction compared to the same period in 2019

Construction activity returned to its pre-pandemic levels in July, according to the Construction Activity Synthetic Indicator (ISAC) surveyed by INDEC. Despite the temporary return to phase 1 lockdown in the AMBA region, the indicator grew 6.8% m/m ─seasonally adjusted─ after growing 37.5% m/m in June (adjusted downwards from 38.2%). On the other hand, the official indicator cut its year-on-year fall to 12.9% (compared to April’s -76.2% record). In any case, construction activity is below any other point in the last 8 years, except for the lockdown months.

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Although the progressive reopening of the interior of the country enabled activities to resume, the growth of the indicator is not entirely explained by this progress. On the one hand, it is partly due to rebuilding inventory of supplies that could not be provided during the lockdown. On the other hand, the broad FX spread favors investment in construction materials whose cost is measured in official dollar terms. These dynamics are captured by ISAC, which is built based on the demand for various construction inputs but does not reflect the full picture of the sector. In particular, 54,227 fewer formal jobs were recorded in June than in February (-14.7%) and nothing indicates a strong rebound in July.

The demand for the main inputs grew once again during the seventh month of the year, although unevenly. Among the inputs inked to private works the use of cement apparently grew scarcely 0.8% m/m (seasonally adjusted), thus being 13.5% below its level a year ago. Meanwhile, the demand for hollow bricks, whose supply was seriously affected by the lockdown, leaped 10.2% compared to June and is already 25.3% above the level of July 2019.

On the other hand, the use of asphalt, linked to public works, grew the most, recording a 25.4% monthly increase although it still is 62.8% below its level of a year ago, the month previous to the PASO elections.

Despite this progress, construction activity accumulated a 34.0% contraction in the first seven months of the year compared to the same period in 2019, due to the precarious situation in which the sector already was at the beginning of the year and which was worsened by the outbreak of the Coronavirus.

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In view of the stabilization of supply stocks and the growth of cases of Coronavirus that led some districts to restrict movement, in August the activity showed signs of “plateauing”. In fact, the Construya index that surveys the sales of the sector´s leading companies contracted 14.5% m/m in seasonally adjusted terms. On the other hand, cement shipments reduced 3.5% compared to July according to our own estimates based on data published by the Cement Association. However, the short-term outlook seems to be positive facing the relative drop in the price of inputs, and especially when considering that public works will be consolidated as one of the pillars of recovery from the crisis. The sector’s leaders, however, are still cautious, and nearly 40% of those surveyed by INDEC believed that activity will decrease in the coming months (although, a month ago, more than 50% shared that opinion).

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