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RR RUEHWEB

DE RUEHBU #0164/01 0202203
ZNR UUUUU ZZH
R 202203Z JAN 06
FM AMEMBASSY BUENOS AIRES
TO RUEHC/SECSTATE WASHDC 3189
INFO RUEATRS/DEPT OF TREASURY WASHDC
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RUEHRC/USDA FAS WASHDC 2048
RUEHC/DEPT OF LABOR WASHDC
RHMFISS/HQ USSOUTHCOM MIAMI FL

UNCLAS BUENOS AIRES 000164 
 
SIPDIS 
 
SIPDIS 
 
PASS FED BOARD OF GOVERNORS FOR PATRICE ROBITAILLE 
TREASURY FOR DAS LEE, RAMIN TOLOUI AND CHRIS KUSHLIS 
NSC FOR SUE CRONIN 
AND OCC FOR CARLOS HERNANDEZ 
USDOC FOR ALEXANDER PEACHER 
USDOL FOR ILAB PAULA CHURCH AND ROBERT WHOLEY 
USCINCSO FOR POLAD 
OPIC FOR GEORGE SCHULTZ AND RUTH ANN NICASTRI 
 
E.O. 12958: N/A 
TAGS: EFIN ECON ELAB ALOW AR
SUBJECT: Argentina Economic and Financial Weekly for 
the week ending January 20, 2006 
 
--------------------------------------------- -------- 
Weekly Highlights 
--------------------------------------------- -------- 
 
- The peso appreciated 0.3 percent against the USD, 
closing at 3.05 ARP/USD. 
- Kirchner, Lula and Chavez commit to completing a 
South American pipeline project. 
- GOA still trying to reach new price-restraint 
agreements. 
- BCRA will re-launch its market expectations 
consensus survey in February. 
- December industrial production index up 7.9 percent 
y-o-y. 
- November monthly economic activity index up 9.1 
percent y-o-y, stronger than expected. 
- Commentary of the Week: "The Political Dilemma of 
the Anti-Inflation Policy" 
 
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MARKETS 
--------------------------------------------- -------- 
--------------------------------------------- -------- 
The peso appreciated 0.3 percent against the USD 
during the week to close at 3.05 ARP/USD. 
--------------------------------------------- -------- 
 
¶1.  The peso appreciated 0.3 percent versus the USD 
during the week to close at 3.05 ARP/USD, one cent 
below last Friday's close.  This week's appreciation 
is mainly attributed to higher dollar sales by 
exporters, accompanied by the Central Bank's constant 
intervention in the FX market to prevent the peso from 
appreciating too much.  During the week, the BCRA 
purchased USD 102 million and EUR 17.5 million, 
helping the BCRA rebuild its reserves following the 
GOA's prepayment of its IMF debt.  The peso exchange 
rate is unchanged from the beginning of year. 
 
--------------------------------------------- -------- 
ECONOMY / FINANCE 
--------------------------------------------- -------- 
--------------------------------------------- -------- 
Kirchner, Lula and Chavez commit to develop a South 
American pipeline project. 
--------------------------------------------- -------- 
 
¶2.  Argentine President Kirchner, Venezuelan President 
Chavez and Brazilian President Lula da Silva met in 
Brazil on January 19 and confirmed plans to develop an 
8,000-kilometer (5,000-mile) natural gas pipeline 
linking Caracas and Buenos Aires, cutting through the 
Brazilian Amazon rain forest and parts of Bolivia, 
Paraguay and Uruguay.  The three presidents committed 
their "political will" to complete the project and 
will meet again on March 10 in Mendoza (Argentina) to 
continue discussions.  The project is expected to be 
launched publicly in July.  Chavez said that each of 
the three countries would contribute to financing the 
pipeline with an estimated price tag of USD 12-20 
billion, and also mentioned that some Asian companies 
are interested in participating in the project. 
 
--------------------------------------------- -------- 
Lula da Silva wants improved commercial relations with 
Argentina. 
--------------------------------------------- -------- 
 
¶3.  President Kirchner met Brazilian President Lula Da 
Silva in Brasilia on January 18.  Lula Da Silva 
expressed his interest in contributing to Argentina's 
industrial development and to decreasing existing 
asymmetries.  He also mentioned that Brazil would 
consider new proposals to improve the commercial 
relationship between the two countries, an apparent 
reference to a GOA proposal that would allow Argentina 
to take safeguard actions against surging Brazilian 
imports. 
 
 
--------------------------------------------- -------- 
Felisa Miceli - there is enough credit in Argentina to 
finance companies' investment projects. 
--------------------------------------------- -------- 
 
¶4.  During her trip to Brazil, Minister of Economy 
Felisa Miceli said that Argentina is offering loans to 
companies on better financial terms than Brazil does. 
She added that Argentina's financial system is strong 
enough to finance every company's investment project. 
 
--------------------------------------------- -------- 
GOA is still trying to reach price-restraint 
agreements. 
--------------------------------------------- -------- 
 
¶5.  GOA officials met again this week with leading 
companies in an attempt to reach new price-restraint 
agreements.  On January 16, the GOA closed an 
agreement with chicken producers to maintain chicken 
prices unchanged until the end of the year.  The GOA 
also reached new agreements with cement companies and 
dairy producers (until the end-of the year but with bi- 
monthly monitoring to adjust prices in case economic 
conditions change substantially). The GOA will 
continue to press for price-restraint agreements with 
firms from different sectors.  Its goal is to create a 
basket of basic goods with voluntarily-controlled 
prices in coming weeks.  In an interview on January 
19, President Kirchner defended the strategy of using 
price-restraint agreements as a middle point between 
price freezes and increasing interest rates, which 
could jeopardize economic growth.  In spite of GOA's 
attempts to keep inflation under control with price 
restraints, food prices are expected to increase from 
0.3 percent to 1 percent m-o-m in January, according 
to private consulting firms.  The BCRA consensus 
survey (from January 4 - the latest release available) 
is forecasting a 1.3 percent m-o-m increase in 
January. 
 
--------------------------------------------- -------- 
BCRA will re-introduce a revised, monthly market 
expectation consensus survey in February. 
--------------------------------------------- -------- 
 
¶6.  On January 18, the BCRA announced that it will use 
a new methodology in its market expectation consensus 
survey. The new version will use new variables such as 
the 7-day repo rate, the Badlar rate and M2 (currency 
in circulation plus checking and saving accounts) 
instead of the monetary base.  Leading companies with 
in-house research will now participate in the survey, 
joining the 50 contributing banks, brokers, consulting 
firms and universities that already participate.  The 
first of consensus survey using these new criteria 
will be published on February 3 and updated on a 
monthly, rather than weekly, basis. 
 
--------------------------------------------- -------- 
BCRA maintains Lebacs' interest rates; Demand 
concentrated at the short end of the curve. 
--------------------------------------------- -------- 
 
¶7.  The BCRA received bids of ARP 1.2 billion in its 
January 17 Lebac auction, above the ARP 1.1 billion 
announced amount but below the ARP 1.3 billion in 
Lebacs that came due during the week.  Investors 
concentrated 80 percent of their bids for ARP Lebacs 
in the short-end of the curve (less than 3 months). 
Like the last three auctions, the BCRA was unable to 
roll over its maturities, accepting bids for ARP 1.0 
billion.   The yield on the 49 -day Lebac remained 
unchanged at 6.76 percent, while the yield on the 77- 
day Lebac dropped 6 basis points to 6.90 percent. 
Lebacs for maturities of more than 3 months were 
withdrawn again due to lack of interest. 
 
--------------------------------------------- -------- 
Banks reduce their exposure to the public sector by 9 
percentage points in the first eleven months of 2005. 
--------------------------------------------- -------- 
 
¶8.  The BCRA reported that the banking system reduced 
its exposure to public sector debt by 9 percentage 
points in the first eleven months of 2005, reducing it 
to 30.9 percent of total assets.  According to the 
report, the decrease in exposure is the result of net 
sales of GOA debt in bank's portfolios, the re- 
valuation by some banks of GOA instruments at market 
value, and bank's finally receiving long-pending 
compensation in cash.  The BCRA report also said that 
the financial system posted profits of ARP 170 million 
in November, bringing its accumulated profits to ARP 
1.7 billion during the first eleven months of 2005. 
 
--------------------------------------------- -------- 
November monthly economic activity index up 9.1 
percent yoy - stronger than expected. 
--------------------------------------------- -------- 
 
¶9.  The monthly economic activity index increased a 
strong 9.1 percent y-o-y in November, well above the 
BCRA market survey forecast of 8.3 percent, and 
bringing the cumulative growth for the first eleven 
months of 2005 to 9.2 percent.  The index increased 
0.9 percent m-o-m, following a 0.8 percent m-o-m rise 
in October.  The BCRA consensus survey estimates 2005 
growth in the index at 8.7 percent.  The index is 
viewed as a reliable leading indicator of GDP. 
Minister of Economy Miceli stated at the end of 
December that GDP growth would exceed 8.5 percent in 
¶2005. 
 
--------------------------------------------- -------- 
December industrial production index up 7.9 percent y- 
o-y. 
--------------------------------------------- -------- 
 
¶10.  The industrial production index increased 7.9 
percent y-o-y in December, bringing total annual 
growth to 7.7 percent for 2005, a strong level of 
growth following the 10.7 percent growth in 2004. 
During December, the fastest-growing sectors were 
textiles (up 21 percent), minerals (up 18 percent), 
and plastic and rubber (up 14 percent).  The index 
decreased 3.8 percent m-o-m. 
 
¶11.  The industry-wide capacity utilization index 
reached 69.0 percent in December, compared to 68.5 
percent in December 2004.  The sectors showing the 
highest capacity utilization were metal based 
industries (93.7  percent), oil refining (93.4 
percent), and paper and carton (77.8 percent). The 
sectors with the lowest capacity utilization were auto 
production (34.4 percent), metal-mechanical excluding 
cars (56.4 percent), and non-metallic minerals (59.2 
percent).  For 2005, the average industry- wide 
capacity utilization index was 71.1 percent. 
 
--------------------------------------------- -------- 
 
January Consumer Confidence Index up 11.9 percent m-o- 
m. 
--------------------------------------------- -------- 
 
¶12.  The Consumer Confidence Index- published by 
Universidad T. Di Tella - jumped 11.9 percent m-o-m in 
January to 57.1 points, after dropping 4.4 percent in 
December.  The significant increase in January is 
attributed mainly to highly positive expectations 
about consumer's willingness to purchase durable goods 
and real estate (16.11 percent increase m-o-m) and 
consumers' sentiment towards the macroeconomic 
environment (13.71 percent m-o-m), followed by 
positive expectations on individual's personal 
situation (7.29 percent).  The index is now only 5 
 
percent below its all-time high, reached in February 
2004 and 2 percent below the 2005 high point, reached 
last February.  The index increased 0.45 percent y-o- 
y.  The index is based on surveys of individual 
economic sentiment and consumer willingness to 
purchase durable goods, houses and cars. 
 
--------------------------------------------- -------- 
Commentary of the Week: "The Political Dilemma of the 
Anti-Inflation Policy" by SEL Consultores, December 
2005 -January 2006 (Translated and abridged with 
permission) 
--------------------------------------------- -------- 
 
¶13.  The design and effectiveness of an anti-inflation 
policy depends, more than anything else, on the 
correct diagnosis of the causes of inflation.  If, as 
the Ministry of Economy initially argued, the current 
inflation is just a re-accommodation of relative 
prices (which could be read as saying "the crisis has 
ended") there isn't much to do except try to moderate 
the speed of the process; prices will re-stabilize 
once they reach a new equilibrium. 
 
¶14.  The difficulty with this interpretation ... is 
that the growth in CPI continues to be mainly in those 
prices that have grown the most since devaluation. 
The components of the index that increased the most in 
2005 were Housing and Basic Services (16.4 percent 
increase), and Education (16.0 percent); but they were 
only one-fifth of the increase in the cost of the 
basket of goods.  If these components had stayed 
stable all year, 2005 inflation (through November) 
still would have been 8.6 percent, i.e., 2.5 percent 
above 2004 ... Meanwhile, the CPI component with the 
largest potential for re-accommodation increases -- 
Regulated Goods and Services, which makes up 20.1 
percent of the CPI -- grew only 2.9 percent in 2005, 
versus core inflation of 12.5 percent, while in 2004 
it grew 5.1 percent versus core inflation of 6.4 
percent.  In other words, the re-accommodation of 
relative prices is still to come. 
 
¶15.  A second diagnosis of the current inflation is 
that it results from a scarcity of supply.  But that 
is difficult to believe in an economy that has grown 9 
percent per year for three consecutive years, two of 
them with low inflation ... A third diagnosis is that 
it results from oligopolistic practices ... but it is 
difficult to believe that these could explain economy- 
wide price increases, including in the most 
competitive sectors.  In any case, the main problem 
with this diagnosis is that it posits a micro-economic 
cause of inflation that can be addressed by 
administrative means ... but inflation is a macro- 
economic phenomenon that requires macro-economic 
tools. 
 
¶16.  This means that we have to look at the rate of 
aggregate demand growth and the policies that produce 
it.  Aggregate demand is, in effect, increasing at a 
12 percent annual rate, i.e., three points above the 
elevated growth of total supply.  This is the result 
of a monetary policy aimed at protecting the exchange 
rate; the expansion of public spending; and increases 
in formal sector salaries.  M2 grew 20 percent in 2005 
...  Primary public spending grew 24.7 percent thru 
the third quarter ... average salaries grew 18.8 
percent and formal-sector private salaries grew 23.7 
percent (at an annual rate through October). 
 
¶17.  It seems likely, therefore, that domestic demand 
stimulated by these policies is creating price 
pressures.  This is happening at the same time as 
external demand is growing significantly (13 percent 
export growth in the third quarter) which, especially 
in food, competes with domestic demand and pushes 
consumer prices higher. 
 
¶18.  The classical answer to demand-driven inflation 
is to decelerate it through a combination of 
restrictive monetary and fiscal policies and a 
moderation of salary increases.  But this creates a 
political problem that is difficult to resolve.  A 
restrictive monetary policy would require a reduction 
in intervention in exchange markets and an 
appreciation of the peso.  While this would increase 
buying power ... it would result in a loss of 
competitiveness in tradable goods, especially in 
import substitution sectors such as manufacturing. 
The political downside of this outweighs the economic 
benefit. 
 
¶19.  Similarly, a policy of salary moderation in the 
private sector would be rejected by labor unions.  ... 
While real salaries of formal, private sector salaries 
have recovered -- and even exceeded -- their losses 
following devaluation ... taking into account all the 
segments of the labor market, the real average salary 
is almost 9 percent below what it was in 2001 and the 
share of real salaries in GDP increased only 12 
percent compared to a real GDP growth of 25 percent 
during the same period.... in this situation, it is 
unlikely that labor unions will accept a policy of 
salary restrictions ... 
 
¶20.  The political dilemma, then, is that if the 
government uses restrictive macro-economic policies to 
control inflation, it will lose the support of the 
social coalition that, until now, has been its most 
solid base of support, as well as it will reduce the 
government's own resources... if the government wants 
to continue to receive their support, it will have to 
resign itself to maintaining inflation in a tolerable 
range ... The question then is, how much inflation is 
society willing to accept? [Note: We reproduce 
selected articles by local experts for the benefit of 
our readers.  The opinions expressed are those of the 
authors, not of the Embassy.  End Note.] 
 
 
 
 
GUTIERREZ