Looking Up...Down on the Pampas

Investing in any country is a gamble. Not only have you know idea what cards might turn up, explains Bill Bonner, you also have a sneaking suspicion that the dealer may have one or two up his sleeve.

As unlikely as it seems, we were once called upon to advise a foreign government.

Out on the vast plains of Eastern Europe lies a miserable nation called Belarus. After the break-up of the Soviet Union, the party hacks who ran the place saw the need to do things differently. But that is where their ideas began to piddle out. All they could think of was to bring in “experts” from the West to tell them how to “reform” their economy. It is a measure of the sloppiness of their approach that your editor was rounded up to offer his opinion. It is a measure of your editor’s persuasiveness that, to this day, Belarus remains the most forlorn and backward nation in Eastern Europe.

But today’s Daily Reckoning essay is not about Belarus, nor Eastern Europe. It is about a place in which we have recently developed a keen interest…not the steppe, but the pampas. Investing in any country is a gamble. Not only have you know idea what cards might turn up, you also have a sneaking suspicion that the dealer may have one or two up his sleeve. But the burden of this little reflection is that Argentina may be worth a bet.

We only mention our Belarus experience because it illuminated us. We realized that we might as well be giving culinary advice to cannibals.

“Well…you would probably rather have some canard a l’orange,” we might suggest. “Pity you don’t have any canard…or any oranges.”

An economy is a natural thing. Each one has to follow its own course. All public officials can do, generally, is make sure private property is protected by the courts, and otherwise get out of the way – eliminating all the many restrictions, taxes, permits, prohibitions, pay-offs, and emoluments that inhibit commerce. This, of course, is the last thing public officials want to do, and it could only have been done in Belarus over the dead bodies of the people we were advising. Which would have been fine with us, but we had no means of laying them out or preventing their friends from returning the favor. So, the whole trip was a preposterous farce.

Investing in Argentina: A Quick Economic History

Before WWII, Argentina was one of the world’s richest countries. “As rich as an Argentine,” was a common expression in England. Between the wars, the English gentry, down on their luck but up on their manners, hoped to marry off its daughters to prosperous Argentine planters. Some did.

But then, Argentina slipped into a puddle of socialist do-goodism from which it never was able to climb out. Economic growth was spotty. Inflation was chronic. Rules were imposed to prevent this…stop that…and inhibit something else. Labor restrictions made it hard to employ people even during boom periods. But in 1989, the country seemed to hit bottom. Inflation hit 3000% that year. Soon after, the Argentines were told to get to work and stop complaining.

By 1997, the country was growing at a 9% rate, but there were problems. The country was consuming and investing more than it produced. And the curious system of international finance tempted Argentina to borrow even more. Fund managers bought emerging economy debt based on an index of borrowers. This had the perverse consequence of increasing the availability of credit to the nation that borrowed the most. That is, as Argentina borrowed more and more, it became a bigger part of the index of emerging market debt. Why people pay fund managers to follow the indices, we don’t know, but that’s what they did. The more Argentina owed, the more the fund managers wanted to buy its bonds.

It was no easier for Argentina to resist the lure of easy credit in the ’90s than it has been for America in the 2000s. By the end of the period, Argentina’s foreign indebtedness approached $150 billion. That would be peanuts for the United States, but it was a lot of money for a country like Argentina. A few smart fund managers saw the disaster coming (Asian central banks, take notice.) They sold off Argentina’s bonds. Pretty soon, the country was in crisis again, unable to make its debt payments. In December 2001, riots and looting broke out. President De la Rua decided that it would be better to stiff the foreign creditors than to further annoy the locals with austerity measures. Before the month was up, Argentina made history with the biggest debt default ever.

There are a lot of ways to ruin an economy. Argentina has experimented with most of them. It has devalued its currency, and revalued it. It has pegged it, and then knocked down the peg. It has regulated, controlled, inspected, taxed and confiscated. Following the 2001 crisis, earnings fell by 30% – with half the nation slipping below the official poverty line. What is remarkable is that the Argentine economy has survived at all.

We have been favored with a letter from a Daily Reckoning reader, resident in Argentina, who puts the country’s financial history into perspective for us:

“I am 72 years of age and am writing you from Argentina. It is well worthwhile to study what happened in Argentina over the years. This country goes crazy about every five years or so. It has been my painful experience that it is better to be a debtor than a creditor when this time comes around. When the crunch comes somehow, debtors who are in the majority always seem to be protected by politicians who need their votes. I don’t see why this will not also be true in America.”

Nor do we.

In September, the Argentine economy reported its 37th consecutive month of GDP growth. It is growing about 7.3% this year, 5.6% projected for next year.

“The government has been incredibly lucky,” says Luis Secco, a Buenos Aires consultant.

Investing in Argentina: The Difference Between the US and Argentina

And here we find the big difference between the United Sates and Argentina. If a country such as Argentina does well, it has luck to thank. North of the Rio Grande, people thank neither the stars nor the fates. Instead, they salute their Fed chief and pat themselves on the back.

Argentine economists have even tried to quantify their good fortune with a “luck index” – said to measure the impact of global economic conditions. The index hit a high of 9.8 (on a 10-point scale), last year. This year, it is expected to be around eight.

Meanwhile, the government budget is in surplus (before interest payments). Foreign currency reserves are increasing. Foreign debt, as a proposition of GDP, has fallen below 40%. Inflation is below 10%. The trade balance is positive. And the economy is growing twice as fast as America’s.

But what America has in most abundance – confidence and credit – Argentina lacks. Just try to buy a house in Buenos Aires or a ranch out in the country. No one will offer you credit. While Alan Greenspan comments on the solidity of the U.S. economy, Argentine officials speak about their economy’s fragility. While American economists look ahead and see only progress, Argentine economists look ahead and see hesitation and backsliding. They warn of inflation. They warn of social upheaval.

While Americans see a glass half full, Argentines see one that is bone dry.

We do not know how to cure Argentina’s economic problems. But we have evidence that confidence is not permanent, but cyclical. Having been so low for so long, we expect to see it turn up on the pampas. In America, on the other hand, confidence and asset prices are likely to go in the other direction.

Bill Bonner
The Daily Reckoning

November 04, 2005

Bill Bonner is the founder and editor of The Daily Reckoning. He is also the author, with Addison Wiggin, of The Wall Street Journal best seller Financial Reckoning Day: Surviving the Soft Depression of the 21st Century (John Wiley & Sons).

U.S. bonds are going down, which means interest rates are going up. How much? How fast? We can’t tell you. But it appears that the great bull market in bonds ended in June of 20003. Since then, yields have risen (bond prices fell). What we think this means is that the great empire’s stock reached its zenith more than two years ago. If we’re right, it will be downhill for many years.

Paul Volcker was in the news this week. The former Fed chief remarked that the, “U.S. had better watch out,” for higher inflation levels. It was Volcker, we recall, who set America’s bull market in bonds in motion – back in the early ’80s. He did it by raising the cost of credit, and practically eliminating consumer price inflation. For the next twenty years – until June of 2003 – interest rates were allowed to fall, bringing with them huge increases in asset prices…and debt.

The other thing Volcker said was that the country was spending about 6% to 7% more each year than it earned. The difference is made up by those very nice people in Asia, who lend us money at low rates of interest without looking too hard at the collateral.

These remarks were not new to us. They are the same thing we have been saying for years. But it was a comfort to hear them from Paul Volcker. We were beginning to think we had missed something. Many economists say the trade balance is meaningless. What counts is profits, they say. American businesses are very profitable, because they are using cheap Asian manufacturing! This makes the trade balance negative…but the cash is still flowing to the United States

Delphi, for example, is a business that couldn’t make it – as long as it had to pay U.S. labor rates. But under protection of the bankruptcy laws, Delphi is transforming itself into a “platform” company – outsourcing its production to low-cost manufacturers in Asia, while insourcing the resulting savings and profits to the United States.

We don’t doubt that is happening. And we don’t doubt that many U.S. companies have become more profitable as a result. What we doubt is that it changes the entire meaning of the national accounts. Yes, some U.S. assets may have become more valuable as a result of this new, globalized world. But Volcker is still right; the U.S. is living beyond its means. Sometime in the future it will have to live below its means, just to get even.

The average man and economist salutes Alan Greenspan for this long period of growth and stability. But it was really Volcker’s doing. Greenspan’s contribution was first to avoid interfering with it…and then to carry it to excess. Where Volcker tightened…Greenspan loosened. Where credit was once too expensive…now it is too cheap. Where stocks were too cheap…now they are too expensive. Where houses were a bargain…now they are a bubble. Where Americans were troubled and cast down…now they have never been surer of themselves.

There are tides in the affairs of men, as the Bard of Avon once put it. The tide in the U.S. credit market seems to be ebbing. When it goes out, it will carry a lot of trash out to sea.

More news from the pundits at The Rude Awakening…


Eric Fry, reporting from New York City:

“Asset bubbles are never merely financial; they are the love-children of leveraged speculation and warped perception. Sadly, they cannot survive adversity…”


Bill Bonner, back in Paris with more thoughts…

*** Hmmn. The reincarnation of King Solomon weighs in on Empire of Debt:

“Okay. Here’s my take. Your idea to send a copy of your new book, Empire of Debt to our elected officials in Washington is a complete waste of time and money. But, not for reasons that a bunch of goofy libertarians might think.

“First, why bother trying to enlighten people who are PROVEN incompetent? It’s like, after determining that your newborn baby can’t drive a car, giving it a second try when it becomes a toddler.

“And then, second, what kind of a solution is cutting spending? Is that the best idea you can come up with? If so, then what makes your vision of the future any more vital than the fantasies of our elected officials?

“You will only play into the problem of our present day culture if you follow through with your idea to send free copies of your book.

“You will prove both your incompetence to solve the problem and your willingness to throw good money after bad, the very tendencies you spend so much time railing against (and rightly so I might add!).

“I must be the reincarnation of King Solomon. Because the more I see of men, the more I am amused by their vanity.

“That’s why I’m sure you’ll send the book. You’ll think, what’s the harm in having a little fun on the march to Babylon? But once you discover that the whores are not impressed by your work, will you then appreciate how you do more to justify their leadership in the downward spiral?

“My guess is that you will not. You will instead vainly proceed to continue insisting that you are more qualified to lead the way to Beezlebub (I had to use that word… it gives me something to laugh at).

“You asked for it.”

*** Longtime sufferers of our daily missives know we have no solutions to offer. Only mockery. Cutting spending might keep more money in the hands of the people who earn it, but given the state of consumer spending on gee gaws and other useless trinkets these days, we’re not even sure that would be a positive development.

But in response to King Solomon’s diatribe, there is one thing of which we are absolutely certain: If we woke up tomorrow and discovered by some unfortunate chain of events we’d been elected to a “higher” office, we would immediately demand a recount… or trump up some charges to get ourselves thrown out as quickly as possible.

*** If you visit Paris, be careful when you come into the city or leave it. Yesterday, one of the trains to the airport was attacked by a mob of rock-throwing, disadvantaged suburbanites. Unlike in American cities, the lowest income levels live outside the city, not in it. Today’s news tells us that 20 of these suburban communities have blown up – with gangs of young men attacking police stations and setting fire to automobile dealers’ lots.

Here in the heart of the city, people are calm. The cafes are crowded. The restaurants are doing a good business. Tourists bump into each on the rue de Rivoli, apparently unaware that the city is surrounded by violent hooligans. Barbarians may be at the gates, but they’ve been there for years. Besides, they are all on welfare…and should settle down soon.

*** Back in the United States, a soft corruption, typical of mature empires, is becoming commonplace and acceptable. The “rebuilding” of Iraq, for example, has been dominated by firms that are well connected to the Bush administration. And now, we discover that even the war on avian flu has some juice in it. One of the main beneficiaries of federal spending is none other than a firm in which Donald Rumsfeld has millions of dollars worth of shares, Gilead, the company with the rights to market the anti-flu drug, Tamiflu. The Pentagon ordered $58 million worth of the stuff. How lucky for him.

The Daily Reckoning