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Great Expectations and Hard Times:
The Argentine Convertibility Plan
The Argentine experiment with convertibility ended in collapse. There is no shortage of after-the-fact explanations of what went wrong, but the search for lessons presupposes that by studying the experience, analysts can gain some knowledge that was not available beforehand. Any analysis of a case like that of Argentina must address the issue of how and why agents behaved in such a way that produced such disastrous aggregate outcomes. This implies asking what expectational "errors" were made by private individuals and policymakers, why they made them, and how their decisions interacted. One should also consider what incentive problems and gaming might have affected the choice of policies and their impact on private expectations. Such matters are the focus of this paper.
Two arguments are often encountered in the discussion of the Argentine case: first, that fiscal policies were inconsistent with the fixed exchange rate, implying that the political system was incapable of adjusting itself to the discipline of budget constraints and that it let the public debt grow along an explosive path, and second, that the convertibility regime induced a sustained overvaluation of the currency and was thus bound to end in a collapse. There are elements of validity in both arguments, but they are incomplete; they cannot by themselves provide the full picture.
A government that declares default on its debt has obviously spent beyond its means. In retrospect, public expenditures were clearly excessive, especially when measured in dollar terms. The same holds for private [End Page 109] spending, however. The persistence of fiscal deficits throughout a period of high domestic demand and real activity points to a lack of policy consistency, and it indicates that fiscal policies did not take precautions against adverse disturbances. But if the decade of the 1990s appears now as a long cyclical phase of transitorily high real incomes, it does not seem to have been perceived as such at the time. Not only the government, but also asset holders and the public in general acted during a good part of the decade as if the evolution of the economy and the fiscal situation, in particular, need not cause big concerns. The Argentine government had quite fluid access to credit markets during most of the decade, indicating that although the scenario of default was always assigned a nonnegligible probability, its occurrence was far from taken as a foregone conclusion. The behavior of private spending suggests that agents did not recognize that the public sector was overextended and, thus, did not react in Ricardian anticipation of an adjustment to come.
When the real exchange rate jumps by more than 150 percent in the lapse of a few months, as it did in Argentina at the start of 2002, it may seem natural to conclude that the currency was overvalued. But it remains to be explained why the exchange rate was under no pressure for a good part of the decade, and why many agents appear to have acted during extended periods as if they believed that convertibility was a durable and robust framework for their decisions. In the early 1990s, private consumption increased sharply, and it remained high until the end of the decade. Investment also rose strongly, and much of it was destined to the production of nontraded goods. While expectations were probably quite heterogeneous, this pattern seems to correspond to a perception that the level of real income and the dollar price of domestic goods had risen permanently.
In short, a coherent explanation of the Argentine crisis must take into account the interaction between wealth perceptions and the decisions of government and private agents. The dynamics of both the fiscal accounts and the real exchange rate have to be placed in the context of the expectations that domestic and foreign agents had about the future path of the economy. The policy reforms adopted in the 1990s played a critical role in the formation of...