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C O N F I D E N T I A L SECTION 01 OF 04 BUENOS AIRES 001682 
 
SIPDIS 
 
E.O. 12958: DECL: 12/10/2018 
TAGS: EFIN ECON PREL PGOV AR
SUBJECT: ARGENTINA: FISCAL SOLVENCY CONCERNS REMAIN, 
DESPITE GOA TAKEOVER OF PENSION ASSETS 
 
REF: A. BUENOS AIRES 1680 
      ¶B. BUENOS AIRES 1643 
      ¶C. BUENOS AIRES 1667 
  
 Classified By: Ambassador E. Anthony Wayne for Reasons 1.4 (b,d) 
  
 ------- 
 Summary 
 ------- 
  
 ¶1. (C) The Argentine government's nationalization of the 
 country's private pension system entered into force December 
 9, giving the GoA access to about US$25 billion in financial 
 assets and US$4 billion in annual contributor payments. 
 Argentine President Cristina Fernandez de Kirchner (CFK) has 
 already announced plans to tap these assets to fund economic 
 stimulus projects.  Even prior to the President's 
 announcements, analysts were concerned that these new funds 
 might not suffice to help the GoA cover future debt 
 obligations AND significantly increase spending to counter 
 rapidly slowing growth and buy back political support ahead 
 of the 2009 mid-term elections.  While worries about a 
 possible default in 2009 are overstated, reckless politically 
 motivated spending in 2009 could imperil the GoA's ability to 
 meet debt obligations in 2010 and beyond.  As evidenced by 
 the market reaction since the President's October 21 
 announcement of the pension nationalization, there is still 
 great anxiety and uncertainty in the private sector, and 
 Argentine assets are still priced at highly distressed 
 levels.  End Summary. 
  
 --------------------------------------------- 
 GoA plans to use AFJP funds to prime the pump 
 --------------------------------------------- 
  
 ¶2. (C) As reported Ref A, President Cristina Fernandez de 
 Kirchner (CFK) signed into law on December 4 the GoA's 
 nationalization of Argentina's private pension funds (known 
 as AFJPs).  The law entered into force December 9.  The GoA 
 is already planning for the use of the AFJPs' US$25 billion 
 in assets and $4-5 billion in annual cash flow, as evidenced 
 by the President's November 25 announcement of ambitious tax 
 incentives, export tax reductions, and US$ 21 billion public 
 works plan (Ref B), and December 4 announcement of a further 
 US$ 3.9 billion stimulus plan (Ref C). 
  
 ¶3. (C) While the additional flows strengthen the GoA's 
 finances, rapidly decelerating GDP growth and lower commodity 
 prices are already resulting in lower than expected rvenues, 
 and this trend is expected to worsen into 2009.  The GoA has 
 limited ability to issue debt at this time due to high yields 
 on Argentine bonds, limited domestic interest in buying GoA 
 debt, and lack of access to international capital markets 
 stemming from the threat of lawsuits from so-called ""Holdout"" 
 bondholders.  Since this situation is unlikely to change 
 soon, there are still concerns in the market place about the 
 GoA's capacity to meet debt payment obligations during 
 2009-2011, when its annual debt amortizations increase by 
 roughly a third over prior years.  While the GoA's recent 
 announcements of increased spending may be welcome news to 
 Argentine companies and consumers, they exacerbate worries 
 about GoA finances going forward. 
  
 ----------------------------------- 
 GoA Finances Look Adequate for 2009 
 ----------------------------------- 
  
 ¶4. (C) There are undeniable fiscal benefits for the GoA of 
 the AFJP nationalization, in terms of both higher revenues 
 and lower debt payments.  First, the GoA now has greater 
 access to the AFJPs' US$25 billion in assets and roughly US$4 
 billion in annual contributor flows.  The GoA can tap this 
 source of financing via bond sales to ANSES, the social 
 security administration, which under the new law assumes 
 control over the AFJP assets.  Second, the GoA can now also 
 easily refinance with ANSES the debt amortizations it would 
 have owed to the AFJPs, as well as the debt buybacks the GoA 
 is required to make under the terms of the 2005 debt 
 restructuring. 
  
 ¶5. (C) This combination of new flows and reduced debt 
 payments strengthens the GoA's ability to meet total debt 
 obligations coming due in 2009.  This is especially true when 
 considering that the GoA also has greater access to borrowing 
 from the Argentine Central Bank (BCRA) and Banco de la Nacion 
 (BNA).  (In the 2009 budget bill, Congress authorized changes 
  
 BUENOS AIR 00001682  002 OF 004 
  
  
 to BNA's charter to allow the GoA to borrow up to 30% of its 
 deposits held at BNA, and to the BCRA's charter to allow 
 expanded lending to the GoA, which in theory could be used to 
 pay sovereign debt obligations.) 
  
 ¶6. (C) Doing the math shows that the GoA has the wherewithal 
 to meet 2009 debt obligations solely through tapping domestic 
 sources of financing, particularly if it shows reasonable 
 fiscal restraint.  Total scheduled debt service, including 
 principal and interest, increases to about US$21 billion per 
 year during 2009-2011, compared to US$16 billion in 2008. 
 The Central Bank's consensus estimate for the primary fiscal 
 surplus (before interest payments on debt) is approximately 
 3% of estimated 2009 GDP, or about US$10.5 billion (at the 
 current exchange rate of 3.45 pesos/dollar).  However, many 
 economists expect that rapidly falling tax collection -- due 
 to lower growth rates and much lower commodity prices -- will 
 reduce the primary fiscal surplus to the 2% range, or about 
 US$7 billion.  While this more conservative estimate leaves a 
 financing gap of about US$14 billion, the GoA has numerous 
 means to meet its 2009 financing needs: 
  
 -- US$4 billion in approximate new flows from pension fund 
 contributors following the AFJP nationalization (accessed via 
 new bond issuances to ANSES). 
  
 -- US$1.5-2 billion in savings via rolling over AFJP-held GoA 
 bonds and GDP warrants, instead of issuing new debt, as 
 estimated by noted Argentine Economists Miguel Kiguel and 
 Carlos Melconian (the GoA estimates the savings at US$3 
 billion). 
  
 -- US$2.5 billion in debt buybacks, which the GoA is legally 
 obligated to do under the terms of the 2005 debt exchange. 
 (Instead of repurchasing bonds from the market, the GoA can 
 just buy them from ANSES, in return for new bonds.) 
  
 -- US$1.5-2 billion in financing from public agencies, 
 including the tax authority AFIP, the national lottery, and 
 ANSES (using flows from contributors that were not AFJP 
 members). 
  
 -- US$6.5 billion estimated lending from the BCRA ($3bn) and 
 BNA ($3.5bn). 
  
 -- US$1 billion estimated net positive funding from the World 
 Bank, IDB, and CAF (Andean Development Corporation). 
  
 ¶7. (C) This totals between US$17-18 billion, easily enough to 
 cover financing needs in 2009, although also possibly 
 optimistic, particularly with regards to possible funding 
 from AFJP flows, BCRA and BNA lending, and IFI flows. 
 However, in a pinch, the GoA could also attempt to do a debt 
 swap with local financial institutions of the so-called 
 ""Prestamos Garantizados"" (Guaranteed Loans).  The illiquid 
 PGs comprise US$4bn out of the total $21bn debt amortizing in 
 2009, and an optimistic assumption is that the GoA could 
 rollover about US$2-2.5 billion in annual PG maturities over 
 the next three years, via an exchange for slightly 
 longer-term and more liquid securities.  Regardless, this 
 accounting demonstrates that the GoA has access to one kind 
 of financing or another on the order of US$15-20 billion. 
  
 ¶8. (C) Analysts remain apprehensive, however.  Kiguel and 
 Melconian both argue that even with the additional funding 
 from the AFJPs, the GoA can cover debt obligations in 2009 
 and 2010 only if it pursues moderate fiscal policies. 
 Assuming low or no real GDP growth and inflation of 15-20% in 
 2009, with average commodity prices staying at current levels 
 (i.e., soybeans trading US$300-400/metric ton), and the 
 Brazilian Real also at its current level (having depreciated 
 about 40% against the dollar this year), Kiguel and Melconian 
 predict that Argentina has fiscal space to increase nominal 
 spending in 2009 by only 10-20% (compared to 28% in 2006, 46% 
 in 2007, and roughly 35% so far in 2008), while staying 
 current on debt service in 2009 and 2010. 
  
 ¶9. (C) The broader concerns are that the economic downturn 
 will be more severe than anticipated, or that the GoA will 
 use up all its various sources of financing to realize a 
 substantial spending increase in 2009 (to counter the 
 economic deceleration and win political support prior to 
 October 2009 mid-term legislative elections), or both.  This 
 strategy would greatly increase the risks of at least a 
 partial (""selective"") default in 2010.  The market's 
 expectation that the GoA will indeed ramp up spending 
  
 BUENOS AIR 00001682  003 OF 004 
  
  
 significantly in 2009 is likely the primary reason why 
 Argentine financial instruments are still priced at default 
 levels.  The GoA's recent stimulus announcements give 
 credence to those who argue that the Krichner's plan is to 
 boost spending. 
  
 ----------------------------------- 
 Market Response:  Major Thumbs Down 
 ----------------------------------- 
  
 ¶10. (C) Without question, local capital markets resoundingly 
 rejected the President's AFJP nationalization initiative, and 
 many observers have speculated that the initiative has in 
 effect killed off local capital markets.  CFK's October 21 
 announcement touched off a month of financial turmoil and 
 uncertainty, and Argentine asset prices currently trade at 
 highly distressed levels. 
  
 ¶11. (C) While the domestic sell-off coincided with the late 
 October global sell-off, and also follows 15 months of steady 
 declines in Argentine asset prices (ever since the global 
 crisis began in July/August 2007), there are two aspects of 
 the local crisis that differentiate it from events 
 transpiring in the world and among Argentina's neighbors. 
 First, the nationalization removes the largest source of 
 investment to the private sector, and early indications are 
 that ANSES will prioritize infrastructure investments, and 
 direct funding to the GoA over providing financing to the 
 private sector.  The net effect will likely be a significant 
 crowding out of the private sector. 
  
 ¶12. (C) Second, the new regime also gives ANSES significant 
 ownership of major companies operating in Argentina, and it 
 is as yet unclear how the GoA will act in this regard. 
 Choosing to divest these holdings, which in a number of 
 important local companies exceeds 20% of total outstanding 
 shares, could affect already beaten-down share prices.  A 
 further complicating factor is that Argentina's Mixed Economy 
 Companies Law (N 15.349), covering companies that include 
 both public and private ownership, seems to require that the 
 GoA appoint the director and at least a third of the Board of 
 Directors of all companies, and have veto power over Board 
 decisions.  Although GoA officials have reassured companies 
 that they have no intention of controlling them, it is 
 unclear how this issue will evolve and the pension 
 nationalization law exacerbates the uncertainty by not 
 clarifying the GoA's role.  (Comment:  Private sector 
 contacts tell Post that it is clear from their conversations 
 with GoA officials that they did not contemplate this 
 situation when drafting the pension nationalization law.) 
  
 -------------------- 
 Survey of the Damage 
 -------------------- 
  
 ¶13. (C) Neither the reduced access to financing nor the 
 increased government ownership of companies is good news for 
 an already beleaguered private sector, and this was reflected 
 in the plunge in all asset prices, increase in capital 
 flight, and run on the peso between October 21 and November 
 ¶20.  During this period: 
  
 -- The Buenos Aires Stock Market, Merval, dropped 26% and 
 Argentine dollar-denominated bonds fell on average 35%, while 
 peso bonds dropped 31%. 
  
 -- As a result, the value of AFJP holdings decreased from 94 
 billion pesos (about US$30 billion) on September 30 to 78 
 billion pesos (about US$25 billion) October 31. 
  
 -- Argentina's sovereign risk rating, as measured by JP 
 Morgan's EMBI plus, widened 518 basis points to close on 
 November 20 at 1,913 bps (after peaking at 1,970 bps on 
 October 22).  (For comparison, since January 2008, 
 Argentina's EMBI has widened 1,511 bps while Brazil's has 
 widened only 359 bps.) 
  
 -- Argentines rushed to pull pesos out of banks and buy 
 dollars, with total private peso-denominated deposits 
 plunging 5.2% in October, worse than the 4.4% drop in May 
 (the worst month of the farm crisis). 
  
 -- As a result, the peso depreciated from 3.24 pesos/dollar 
 on October 20 to 3.34 pesos/dollar November 20, after hitting 
 3.43 on October 29.  One-year peso futures contracts, trading 
 on local markets, jumped from about 3.5 pesos/dollar to 3.8 
  
 BUENOS AIR 00001682  004 OF 004 
  
  
 pesos/dollar, after peaking in early November near 4 
 pesos/dollar.  The one-year non-deliverable forward (NDF, 
 traded offshore), went from 5.46 pesos/dollar on October 20 
 to 6.33 pesos/dollar on November 20. 
  
 -- In the face of this run on the peso, banks jacked up 
 interest rates, with BADLAR reference rate on deposits of 
 over one million pesos rising from an already elevated 17% to 
 18.75%, but peaking at 26% on November 13. 
  
 -- BCRA contacts tell Post that the BCRA sold US$3.5 billion 
 dollars in October, mostly in the second half of the month, 
 to stem the run on the peso. 
  
 -- Economist Melconian estimates total capital flight, as 
 measured in the BCRA's Balance of Foreign Exchange, at US$4.7 
 billion in October.  (According to BCRA data, capital flight 
 reached US$ 8.8 billion in 2007 and almost twice that level 
 -- US$16.4 billion -- through the third quarter of 2008. 
 Melconian estimates it will total US$22-24 billion for the 
 full year.) 
  
 ¶14. (C) While Argentine stocks and government bonds have 
 since rebounded somewhat (in the range of 20%) and are 
 currently tracking global movements, they are still trading 
 at distressed levels, and considerable unrest and uncertainty 
 remains. 
 WAYNE 

 =======================CABLE ENDS============================