Argentina: IMF slammed by own independent panel

Washington Post / Financial Times
Aug 2, 2004
by Paul Blustein; Adam Thomson

Two articles on an unusual report put out last week by the IMF's relatively new
Independent Evaluation Office. The second is on the Argentine government's
response -- a call for the IMF to assume some responsibility for the debt
created by its "advice."

IMF Says Its Policies Crippled Argentina
Internal Audit Finds Warnings Were Ignored

By Paul Blustein
Washington Post Staff Writer
Friday, July 30, 2004; Page E01

The International Monetary Fund's handling of the crisis in Argentina three
years ago almost certainly deepened a recession that threw millions of
Argentines into poverty and sparked political chaos throughout the country,
according to a report released yesterday by the IMF's internal audit unit.

By overlooking Argentina's growing indebtedness in the 1990s and
continuing to lend the country money when its debt burden had become
unsustainable, the fund significantly contributed to one of the most
devastating financial crises in history, the report concluded.

The crisis peaked when the Argentine government defaulted on nearly $100
billion in debt to private creditors and had to abandon the "convertibility"
system that pegged the peso to the dollar at a one-to-one rate. The ensuing
crash led to an 11 percent decline in Argentine output in 2002, sent the
jobless rate soaring and toppled a series of presidents in a country that the
IMF had once hailed as a model of free-market reform and development.

"It would have been an ugly crisis anyway, but perhaps not quite as bad if the
fund had supported a change in strategy earlier," said Isabelle Mateos y
Lago, an economist from the IMF's Independent Evaluation Office, which
produced the report.

The report provides potent ammunition to critics who contend that IMF
rescues often fail to save developing countries from investor panic and even
make matters worse. It also reinforces the complaint that the IMF's loan
packages frequently bail out private lenders without requiring them to accept
reductions in their claims, causing countries' debt burdens to build and their
problems to fester.

At the same time, the study helps rebut criticism that the fund insists on
excessive austerity in developing countries. In Argentina's case, the report
concluded that officials were too lenient.

Although it remains to be seen whether IMF policies will change as a result,
fund officials have long said that the Argentine debacle taught them harsh
lessons. The report echoes criticisms made by IMF staffers, including Michael
Mussa, the fund's chief economist from 1991 to 2001.

The report's critique is exceptionally damning, showing how fund officials
overlooked vulnerabilities, ignored warnings from some staffers and shrank
from confronting the economic forces that brought Argentina to its knees. It
goes considerably further than earlier assessments by citing internal IMF
memoranda, minutes of meetings and other previously undisclosed facts
about key developments in the crisis.

For example, the report questions why the IMF agreed in the late 1990s to a
three-year program that would provide loans on a contingent basis if Buenos
Aires needed the money. A memo by the fund's research department in
November 1997 complained that the program, and in particular the list of
reforms required of Argentina, was "not ambitious enough to warrant Fund
support," according to the report. Those concerns, however, were
downplayed by others at the IMF, especially top management, the internal
report concluded.

Although Argentina's yearly budget deficits were not overly large, the
government's indebtedness was rising at an alarming rate because of off-
budget spending. Yet the size of the debt "became the main focus of [IMF]
briefing papers and policy discussions only in late 1999 or early 2000," when
it was approaching 50 percent of gross domestic product, the report says. "By
then, the economy was in recession, and efforts to reduce the debt . . . were
difficult and possibly also counterproductive," the IMF study found.

The report also disparages the IMF's strategy for the two rescues it marshaled
for Argentina beginning in late 2000, when investors began pulling money out
of the country and interest rates spiked.

The first rescue included a $14 billion loan package from the fund, and IMF
officials knew the risk of failure was high, according to the report. At a meeting
of the 24-member board, which represents member countries, several
directors "articulated the view that, under realistic assumptions, the debt
dynamics were unsustainable and therefore the program was very unlikely to
succeed," the report states.

The report does not fault the board for giving Argentina the benefit of the
doubt so late in the crisis, because the alternative -- forcing the country into
default and devaluation -- would have been painful. But "the critical error,"
according to the report, was that the IMF didn't prepare an exit strategy that
could have been used once it became clear the rescue wasn't working. Such
a strategy -- presumably including a change in currency policy and a
restructuring of debt, bolstered by fresh IMF assistance -- might have limited
the fallout if it had been used before the recession deepened and the
country's banks were weakened in 2001, according to the report.

The report is especially scathing concerning the second rescue, an $8 billion
loan in August 2001. At a meeting of senior staffers, management sided with
advocates of the loan who argued that giving the country one last chance
would "ensure that the [Argentine] authorities, not the IMF, took responsibility"
for the painful changes that might have to be made, including a deep
devaluation of the peso.

The loan was granted, the report says, despite an assessment that the
chances of success were "at most . . . 20-30 percent," and even though a
majority of staffers had concluded that "the additional few billion dollars would
not buy enough time to make a difference, but would be more likely to
disappear in capital flight." The net result, IMF staff members argued, would
simply be more government debt, not a more stable economy -- which is
precisely what happened, the report noted.

The report makes six recommendations for changes in IMF policy, strongly
urging the fund to design alternative fall-back plans when it mounts rescues of
countries.

An appended response from the staff agrees with many of the findings but
takes issue with others, saying, "some of its conclusions depend very much
on hindsight."

The report comes at a time when the IMF and Argentina are again at
loggerheads over the country's policies, and it could have an impact on the
dispute, although officials of the evaluation office said they have no position
on the situation.

The fund this week delayed a loan disbursement to Buenos Aires, and
although Argentine officials didn't respond as they have in the past - by
threatening to withhold scheduled debt payments to the IMF - Economy
Minister Roberto Lavagna suggests he might use the findings to justify a hard
line.

Noting the report that Argentina is not solely responsible for its "huge debt,"
Lavagna writes: "It should be recognized that this institution has the courage
to expose and analyze its own mistakes. This should be commended.
Recognizing errors is, however, just the first step in a healthy self-criticism
exercise. The second step is bearing responsibility for failures, namely
sharing the burden of redressing their consequences."

Argentina insists fund should take share of pain
By Adam Thomson in Buenos Aires
Financial Times; Jul 30, 2004

The Argentine government this week insisted the International Monetary Fund
should share the pain for the mistakes it made before the 2001 financial crisis.

In a statement to the IMF board, Roberto Lavagna, Argentina's economy
minister, commended the institution for admitting it had erred but said
recognising errors was just a start.

"The second step is bearing responsibility for failures, namely sharing the
burden of redressing their consequences," he wrote.

The crisis left Argentina's economy and social fabric in tatters. Its middle class,
one of the biggest in the region, was ripped apart and about 60 per cent of the
population was left living below the poverty line. Gross domestic product
shrank 11 per cent in 2002, while real wages fell 35 per cent.

Mr Lavagna, who was responding to this week's long-awaited report on the
IMF's dealings with Argentina, argued: "Argentina is not only paying for its
own errors but also for those of the fund."

The country has been pushing the IMF and other multilateral institutions to
grant a roll-over until at least 2014 of about $35bn (29bn euros, £19bn) in
principal it owes, an idea unlikely to be accepted by the IMF or its largest
shareholders.

Mr Lavagna's statement attempts to link the report's findings to a discussion of
Argentina's current relationship with the IMF. But the fund insists that, while
some general lessons can be drawn, the findings are only about agreements
up to 2001.

Making the link is important for Argentina when it is pressing the IMF to speed
up approval of the third review of its three-year agreement with the institution.

Argentina is desperate for approval to avoid complicating still further its
attempts to reach a debt-restructuring agreement with its private creditors. But
it has fallen behind on several structural reforms and approval of the review,
which was originally scheduled for June, is now highly unlikely until
September at the earliest.

Mr Lavagna believes the delay is wrong. In the statement, he argues that
Argentina is for the first time in decades running an unprecedented primary
surplus, "yet in its relationship with the institution is now being pressed in a
way absent during the 90s to implement structural reforms under a schedule
that is oblivious to the political realities of the country".

(c) Copyright The Financial Times Ltd

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