Great Expectations and Hard Times: The Argentine Convertibility Plan

This paper studies the process that led to the Argentine crisis. The analysis concentrates on the sequence of public and private decisions, together with the varying perceptions and policy incentives that motivated them. In the 1990s, Argentina searched for a new growth trend. During much of the period, the behavior of agents seemed to be based on the anticipation that current and future incomes could sustain a value of domestic spending much higher than in the past (in both real and dollar terms). The government was motivated to reinforce those expectations, for signaling and political economy reasons. The monetary regime not only provided a very visible nominal anchor, but also operated as a basic framework for financial contracts, mostly denominated in dollars. Dollar contracting implicitly presumed that the dollar value of incomes would support the servicing of debts. Despite precautionary actions on the part of the government and the private sector, over time, an increasing mass of decisions and contracts came to rely on the sustainability of the real exchange rate. In the late 1990s, exports stopped rising, and the foreign supply of credit tightened. The economy contracted in the face of these constraints, and the solvency of the government was called into question. The financial system was vulnerable both in the event of devaluation and in the event of a (large) deflation-cum-adjustment. Convertibility proved to have very large exit costs, as was implicit in its design and management.