November 16, 2001

Americas

Argentina's Cavallo Insists
The Peso Won't Be Devalued

By DAVID LUHNOW and MICHELLE WALLIN
Staff Reporters of THE WALL STREET JOURNAL

BUENOS AIRES -- If Argentina's financial crisis gets much worse, the country would adopt the dollar or euro as its official currency rather than allow the Argentine peso to devalue and trade freely on the open market, Argentine economy minister Domingo Cavallo said Thursday.

In an interview, the architect of Argentina's decade-old monetary regime, under which one peso equals one dollar, said Argentines accustomed to a stable currency would never accept a peso floating freely on the open market -- the policy adopted under past financial crises by Latin America's two largest economies, Brazil and Mexico.

"The peso would be repudiated, just as the austral once was," said Mr. Cavallo, referring to Argentina's doomed former currency. "So the peso only makes sense, will only continue to exist, if it's backed by dollars and at a one-to-one parity" or linked both to the dollar and euro, he said.

"For this reason, we maintain that in extreme circumstances, it's much more logical to say, 'We'll only use the dollar' or 'We'll only use euros,' or another credible currency," he said.

As Argentina endures its fourth year of an economic slump, which Mr. Cavallo described as a "depression," local union leaders and some foreign economists have called for policymakers to let the peso devalue, making Argentine goods less expensive abroad. But with 70% of bank accounts in dollars, along with most contracts like rental agreements, undoing such de facto dollarization would be impossible to implement or enforce, Mr. Cavallo said.

The Harvard-educated economist insisted "Argentina will never give up convertibility," which allows both currencies to exist side by side. But Argentines don't necessarily believe that: They have pulled nearly $13 billion out of the country's banks so far this year. That has left the central bank with only about $6 billion of hard-currency reserves in excess of the money in circulation. If that cushion were to disappear, then the system would be sorely tested.

Once hailed as the engineer of an Argentine economic miracle in the early 1990s that ended decades of runaway price increases, Mr. Cavallo, 55 years old, has come under fire during his second tenure, which began in March after the first two economy ministers under President Fernando de la Rua quit.

Although Mr. Cavallo inherited an economy mired in a long recession, he has been unable to generate growth. Meantime, creditors have demanded ever higher interest rates to lend to the country. Argentina finally admitted this month it can't pay its growing interest bill, asking lenders at home and abroad to take huge write-offs on as much as $60 billion in bonds. The country is weighed down by overall debt of $132 billion.

But the man at the center of the storm, famous for his temper, looked relaxed and confident Thursday after clinching a long-awaited deal with opposition governors of Argentina's biggest provinces to carry out big spending cuts, saving the federal government some $2.3 billion a year in tax transfers. The deal is key for Argentina to convince creditors like the International Monetary Fund the country will balance its books for the rest of this year and next.

"This ratifies that in Argentina our elected officials are, in the end, coming together to resolve problems," he said.

U.S. Treasury Secretary Paul O'Neill, who has opposed fresh financial aid for Argentina, gave the country a vote of confidence Thursday, saying the situation has become "quite encouraging." He praised President de la Rua for personally getting involved in negotiations to lower interest payments on Argentine debt. "He's not crying for huge volumes of new additional money. He's saying we, the people of Argentina, led by the president, are going to figure this out and create sustainable conditions," Mr. O'Neill said.

Messrs. O'Neill and Cavallo will meet today to discuss the country's debt crisis, which some ratings agencies have labeled a default, and ways to get Argentina's economy going again.

Argentina's current plan -- to get investors to exchange their current bonds for ones that pay less interest -- could hit legal problems if foreign creditors decide Argentina hasn't provided enough guarantees of repayment and is favoring local investors over foreign bondholders. Mr. Cavallo said that won't be the case.

"The offer [for foreigners] will have terms that are very equitable compared with what we are offering Argentine investors," he said. The offer to local investors would exchange bonds paying an average 11% interest for new notes paying no more than 7% but will have what Argentina claims are better guarantees since the notes will be backed by tax revenues.

Local banks and pension funds have until next Friday to complete the deal, Mr. Cavallo said. Details of the offer for foreign creditors are expected in the next few months.

Separately, Mr. Cavallo said Argentina will end the year with a federal budget deficit of no more than $7.5 billion. If bondholders agree to take the debt exchange on offer, he added, then the deficit could come closer to the $6.5 billion promised to the IMF at the start of this year.

For next year, Mr. Cavallo pledged a balanced budget. He said the government plans to cut spending by $3 billion in addition to the $2.3 billion it expects to save from lower tax transfers to the provinces. If the government saves $4 billion from restructuring its debt, as it also expects, the total $9.3 billion in savings should more than cover any shortfall in revenues, even if the economy were to remain sluggish, he said.

Write to David Luhnow at david.luhnow@wsj.com² and Michelle Wallin at michelle.wallin@dowjones.com³.

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