When President Fernando De la Rúa was forced out of office on 20th December, 2001, Argentina was already deep in the worst economic, social and political crisis of its history. In the weeks that followed, the country defaulted on US$140bn of debt and devalued the currency by more than 300%, both global records at the time.
The magnitude of the collapse, and its devastating consequences, took many by surprise, even though (and largely because) pressures had been building for years. In reality, the 2001 crisis was the ugly, mismanaged withdrawal from a decade of ‘convertibility’, where one peso equals one dollar, and the breaking point of an economic cycle that had begun in 1976 under military rule.
A New Economic Paradigm
For all the ghastly human rights abuses committed by the 1976-83 military dictatorship, it was its economic policies that would have a greater lasting impact on the country once democracy was restored.
On 2nd April 1976, just over a week after the military coup, newly appointed economy minister José Martínez de Hoz, launched a deep restructuring of the economy, based on the principles of neo-liberalism. In his landmark speech that day, he announced a fundamental move “from stifling state intervention to make way for the liberalisation of productive forces.”
In a short space of time, wages were frozen and new labour laws (in favour of companies) were introduced, the banking sector was deregulated, and obstacles to international trade and investment flows were eliminated. Decades of industrialisation were wiped away as domestic producers, for so long protected by the state, could not cope with the flood of cheap imports.
In the new economic reality, where borrowing was easy and financial speculation could reap big short-term rewards, there was little incentive to invest in long-term production.
It became known the era of plata dulce (sweet money) and deme dos (give me two), as those who benefited in the new model—typically large private companies and influential individuals with close links to the military regime—enjoyed a sharp rise in living standards. But as wealth and power became highly concentrated, many other social indicators declined dramatically. Real wages slumped by 40%, while unemployment, poverty, and child mortality, areas in which Argentina had long been an example for Latin America, all rose dramatically.
Just one year into the dictatorship, acclaimed writer and journalist Rodolfo Walsh wrote in his famous open letter to the military junta: “the economic policy of this government, rather than a justification for its crimes, is a greater atrocity that punishes millions of human lives with its planned misery.”
The Burden of Debt
Despite Martínez de Hoz’ pledge to reduce state involvement in the economy under the slogan “to minimise the state is to maximise the nation,” government spending remained high, focused primarily on infrastructure, defence and security. As finance for this expenditure, the country’s external debt rose from US$8bn in 1976 to over US$43bn by the time democracy was restored seven years later. A significant part of that increase was absorbed by the state after a decision by the Central Bank, in late 1982, to nationalise the debt of stricken banks and companies.
At the same time, the global era of cheap borrowing and petrodollar recycling was coming to an end, and as interest rates rose, Argentina, along with many other developing countries, was burdened with external debt and interest payments that it could barely afford.
From that point, international creditors—represented by the IMF—would exert a major influence on domestic policy, often demanding measures that ran contrary to the needs of the majority of the local population. In the most explicit demonstration of this problem, Bernardo Grinspun, the flamboyant economy minister from 1983-1985 who tried to take a hard line with foreign creditors, once declared to the head of the IMF’s mission in Buenos Aires: “If you want me to pull down my trousers, I will!” and proceeded to turn around and do just that.
By the time Domingo Cavallo was appointed economy minister in 1991, external debt had swelled to US$61.3bn and the government owed almost US$3bn a year in interest payments alone. Cavallo had experience with this debt: as president of the central bank for a short period in 1982, he played an important part in the nationalisation of corporate obligations. Now under the presidency of Carlos Menem, he embraced the so-called ‘Washington Consensus’—a standardised economic package prescribed for indebted developing countries by the IMF and World Bank—and embarked on a new phase of neo-liberal reforms that Martínez de Hoz would later claim went far beyond his own.
Alongside a another wave of deregulation, trade liberalisation and privatisations, one of Cavallo’s first and most important policies was to peg the Argentine peso at 1:1 to the US dollar, and make both currencies legal tender. The ‘convertibility law’ was brought in to combat another of Argentina’s constant economic ills: inflation. Many previous administrations—both democratic and military—had resorted to printing money to finance its spending programmes and cover budget deficits. By stipulating that every peso in circulation had to be matched by a US dollar in the central bank’s reserves, the government effectively tied its own hands in order to make the currency peg credible.
Inflation did fall in the first years under convertibility, and a new influx of investment from abroad helped spur a period of economic growth between 1991 and 1994. But the benefits were once again enjoyed disproportionately by a small section of the population, whose prosperity masked growing structural problems. Local industry was once again decimated by foreign competition, and the number of unemployed and those living in poverty rose to historically high levels.
Unable to print more money under the terms of convertibility, the government borrowed heavily to finance its budget deficits, which increased as economic activity waned and joblessness rose. To cover interest payments that were due, the government hurried through its privatisation programme, selling key strategic industries, including oil company YPF, at suspiciously low prices and often directly to those creditors awaiting payment. External debt soared, almost doubling to US$110bn by the time Cavallo resigned in 1996 amid growing reports of corruption in the Menem administration. His successor, Roque Fernández, continued the deepen the model, ignoring the economic downturn and adding another US$35bn to the debt pile during his three years at the economy ministry.
By the end of Menem’s term in 1999, a series of financial crises and currency devaluations in emerging markets, including Argentina’s neighbour and main trading partner Brazil, had tipped the country into a recession from which it would not emerge until 2003.
At that point it was clear, to some at least, that Argentina could not sustain the convertibility model and pay off its debt. Investors, banks, and large businesses began moving money out of the country, and financial markets punished the country’s high risk profile with exorbitant interest rates that made it almost impossible to borrow more.
Despite these warnings, Fernando De la Rúa won the 1999 elections using the slogan “conmigo, un peso, un dólar”(with me, one peso, one dollar) and, despite generating strong expectations for change, stood by convertibility. The public support for the currency peg, which had become a straight jacket for policymakers, is now put down to fears of a return to inflation and belief that it was the rampant corruption in the Menem government that was to blame for the country’s social problems.
De la Rúa’s support quickly faded, however, after his government approved major tax increases (impuestazo) to try and reign in the budget deficit, and was then rocked by a political scandal over the alleged use of bribes in Congress to pass a controversial package of labour reforms (Ley Banelco). By the end of 2000, De la Rúa’s approval rating had plummeted, his vice-president had resigned, and his own Radical party was distancing itself from him.
Still, the IMF, which had held Argentina up as the poster child for economic reforms during the 1990s, gave its support as lender of last resort, rewarding the government for the impuestazo and Ley Banelco by agreeing a US$40bn credit line—el blindaje (the ‘armour’). De la Rúa announced the deal to the country in December 2000, in a speech that sounded more like a plea to foreign investors and creditors. “[the IMF credit line] is a guaranteed fund so large that it clears any doubts or threats over Argentina’s future…Argentina has no more risk, Argentina is safe and transparent, and can now grow in peace…2001 will be a big year for Argentina”.
The End Game
In the space of a few months, it was obvious that 2001 would be big for all the wrong reasons. The country’s recession was only getting worse as the government continued to cut spending in compliance with the rigid terms of the IMF loan. In a desperate move to restore confidence, De la Rúa brought back Cavallo to the economy ministry, a man favoured by the markets and big business and seen as a pillar of strength in an otherwise weak government.
Cavallo, who was given extraordinary powers to push through new measures, acted quickly to try and save the convertibility model that he had created. A patchwork collection of new taxes, spending caps, debt swaps, and cutbacks (including a 13% in pensions and some social payments) only deepened the country’s social problems and turned more people against the De la Rúa government.
The end of convertibility was now inevitable, with the question more about how to minimise its impact on the economy and society. Yet Cavallo refused to accept that his model was exhausted, and was once again backed up by the IMF, who despite serious private concerns about the minister’s actions, agreed to add another US$8bn to the blindaje, including a payment of over US$5bn on 10th September, 2001. It would be the last support Argentina received.
On 5th December, the IMF officially pulled the plug, declaring that it would not release any more funds for Argentina. Its reasoning was that the government had failed to meet its targets for deficit reduction in 2001 and could not find support for the proposed 2002 budget, which contained another $6bn in austerity measures, in a Congress now controlled by the peronist opposition.
With the country almost out of money, two days earlier, Cavallo had implemented the infamous corralito, a $250 weekly limit on the amount that could be withdrawn from banks. Individual savers and small businesses were most affected, and began staging protests outside their banks to demand access to their money. The banks themselves, many of them foreign-owned, had already transferred huge sums abroad, including $143million on 30th November, the last working day before the corralito came into effect.
With the middle class now directly affected, many more people joined the protests that the unemployed (18.3% of the working population) and labour unions had been organising for months. The economy was in ruins, and desperation drove more social unrest. Something had to give, and on 19th December, when De la Rúa declared a state of emergency, it struck the death knell for his government, for convertibility, and for 25 years of poorly-managed economic policy based on neo-liberal thinking.
Perhaps more importantly, the catastrophic policies of a model that had should have been withdrawn many years earlier united the popular classes against the establishment, and for the first time since 1976, the majority – Argentina’s ‘99%’ – remembered that it too had the power to shape the destiny of their country.
In Their Words
"The economic model that was formulated on 2nd April 1976 was not destined to be an anti-inflationary programme for the situation, but to fundamentally change the economic structure of the country."
José Martínez de Hoz, fragment of interview from 'Lo Pasado Pensado', by Felipe Pigna (2005).
"Nothing that should be state-owned, will remain in state hands"
Roberto Dormi, public works minister 1989-91, in charge of privatisations under Carlos Menem.
The peso, which from 1st January will be valued the same as one dollar, is a currency destined to hold that value for many years, I'd go as far as to say decades.
Domingo Cavallo, launching convertibility, 1991.
"It's a death trap, because entering in is easy but then you don't know how to get out."
Former president Raúl Alfonsín and member of Alianza, talking about convertibility in October 2000.
"It's nice to give good news."
President Fernando De la Rúa, on announcing the US$40bn blindaje with the IMF in December 2000.
"The Argentine crisis reflects shortcomings in the Fund's surveillance to identify early on the vulnerabilities that emerged during the boom period, and in bringing about need changes once these vulnerabilities became apparent."
IMF Internal Review "Lessons from the Crisis in Argentina", published 8th October, 2003.