Argentina - Country assistance strategy progress report

From the President November 3, 1998 ARGENTINE REPUBLIC 21186 Bank Group Country Assistance Strategy Update Note The last progress report on the FY97-00 CAS was discussed by the Board on March 17, 1998.. At that time, we indicated that Argentina was weathering the initial effects of the Asia crisis, but that we would continue to monitor the situation. In particular, we noted the increased risk associated with Argentina's ability to access international financial markets to roll over its debt and to finance the fiscal deficit. We indicated that we would work with the Government in identifying measures to help mitigate the spillover effects were the crisis to persist and deepen. The Argentine economy has continued to show resilience during the past six months. In the first semester of 1998, growth has averaged about 7 percent and unemployment had continued to decline slowly, reaching 13.2 percent in May 1998, down from a high of 18.4 percent in 1995. Nevertheless, as expected, economic activity has begun to slacken: the most recent figures for industrial output point to growth of zero and employment creation has ceased. Export activity in particular has been hard hit by weak international demand In terms of the financial system, the situation remains stable: the level of bank deposits and reserves has remained unchanged, if not slightly above pre-crisis levels, a testament to the reforms enacted to strengthen the financial sector and the continuing confidence in the convertibility plan. Nonetheless, with continued uncertainties, internationalfinancial markets remain essentially closedfor all developing countries, including Argentina, despite its record of macroeconomic stability and deep structural reforms. As a result, the Government has requested special assistance from the Bank, as well as the Inter-American Development Bank (IDB), and continued support from the IMF. The proposed package of special Bank support for FY99 includes $2.5 billion of special structural adjustment lending tied to promoting the Government's agenda of reforms, including further strengthening of the banking sector, promoting equity in public spending, along with capital market development and effective regulation. These funds will be used by the government to meet its financial commitments from end-1998 to about mid-1999, while protecting and improving social programs. An additional $500 million of adjustment lending in FY99 would support the Central Bank's repurchase program with private international banks. This latter operation adds another line of defense for the financial system, in the event that the private repurchase facility were drawn down in a liquidity crisis in the banking sector. As noted above, the banking system is thus far not encountering any major difficulty; thus reinforcing the repurchase facility looks to prevent a crisis by adding confidence to the system. In FYOO, we expect to include adjustment support for provincial governments in the order of $500 million for a total of $3.5 billion in adjustment lending for FY99-00. Support will focus on provincial bank privatization, fiscal stability and improved social services, especially health and education.  The Bank's special support is complemented by substantial support from the IDB and IMF. The IDB plans to co-finance the FY 99-00 program with about $2.2 billion. The IMF has had in place, since February 1998, an Extended Fund Facility of $2.8 billion, intended-as communicated to the markets-- to be drawn down only if the country were in crisis. This program remains on track It is part of a continuing effort by the Fund to mitigate the impact of external crises, and thus, this facility is regarded as an integral part of the special multilateral support to Argentina Staff estimates of Argentina 's financing requirements, at this time, suggest that available financing from the IMF, as well as the proposed loans from the Bank and IDB, would have to be utilized. In addition, local pension funds and domestic banks will likely have to be tapped. Based upon Argentina's strong performance with Fund programs in previous years-and assuming continued good performance on Argentina's part-it is likely that the Fund would augment its support to Argentina if the situation deteriorates beyond what is currently anticipated In light of the special needs, the Government and the Bank have agreed to postpone several FY99 operations to FYOO-01, but maintain support for strengthening social sectors. The focus of the Bank's FY99 investment lending, amounting to about $350 million, is on priority social and poverty related programs. This includes strengthening the social safety net (Social Protection IV, approved October 1998), improvements to disease surveillance and control, mitigating the social costs of ongoing adjustments in the fishing sector, a program of renewable rural energy (with GEFfinancing), and two new social initiatives (indigenous peoples and drug prevention). Other operations would support the water supply sector, judicial reform, and Year 2000 mitigation activities. Several of the proposed operations are likely to be Adaptable Program Loans, in order to pace commitments. While at a more reduced level than investment lending in the past, the FY99 investment program focuses on activities that have a high social impact, relatively low capital costs, and modest counterpart funding requirements. Two adjustment operations-supporting provincial reform and reform of the provincial and national health insurance system, respectively--are likely to be postponed to FY00, because of changing country priorities in dealing with current international economic conditions, and the Bank's long term relationship with the country that allows phasing such programs over time. A review of the portfolio was conducted in September 1998. While project performance continued to improve after the down-turn in 1995-96, particularly as measured by disbursements, the present level offiscal uncertainty is a source of concern because of reduced counterpart availability. The federal budget for 1998 has been cut by $1 billion, and the proposedfederal budgetfor 1999 is based on maintaining the same level as 1998. This means reduced counterpart funds for some projects, and limited availability for the new initiatives. We are presently working with federal authorities to review the impact of budget cuts on particular operations with the goal of maintaining core activities during this crisis period We will also consider changing the share of Bank financing, cancellations and restructuring of operations in order to adjust the portfolio as needed to the fiscal reality. The IFC is also adjusting its activities. It expects to increase its program over the short-term to support the private sector and its access to credit, as demand for IFC's 2  assistance is once again surging across all sectors and types offirms. Capital for new investment has dried up; many firms are facing significant liquidity support needs; and some will need capital for restructuring. At the same time, IFC's balance sheet constrains how much support IFC can provide Argentina IFC's strategy in this new environment will be to help existing clients weather the crisis, continue to support 'frontier" sectors and the middle market, and in exceptional cases consider support for largerfirms which have lost market access. IFC willfocus on providing greater levels of equity rather than debt. Investments on IFC's own account are expected to rise, perhaps by'$400 million in FY99, then back to $300 million in FY00. Syndications are expected to be limited and to constrain gross investments to no more than about $600 million in FY99 and $400 million in FY00. Cut off from the international capital markets, Argentina is facing a serious external shock Bank assistance of $2.4 billion incremental over the base FY99 program is warranted by the strength of Argentina's reforms efforts and its continuing commitment to consolidate the structural reforms enacted with Bank support since the early 1990s-all seven adjustment operations totaling $2.6 billion completed during this period have met all major objectives in a timely manner. Even with this incremental lending, the size of the Argentina portfolio would still lie well within country exposure parameters. The package is also consistent with the Bank's overallfinancial position. Clearly there are risks associated with our assistance program. If access to international capital markets is not restored by mid-1999, the financial package currently assembled might not be sufficient to meet external needs, resulting in a severe economic adjustment. In addition, the current international and Argentine economic scenarios were to deteriorate further than anticipated resulting in capital outflows that weaken the banking system. Both these risks underlie the need to support preventive measures as well as maintaining close monitoring of the situation and collaboration with the Fund and the IDB. There are also risks that the reform process could wane, either because of the upcoming national elections (October 1999), or because Argentina regains access soon to international financial markets. However, the Government continues to show strong commitment to reform and key elements of the agenda are supported by Argentine society. Experience during the 1994-95 financial crisis, which coincided with the previous national elections, suggests that Argentina is able to respond decisively to external challenges. Attached are the updated CAS tables. 32   . Argentina at a glance 9/16198 LaUn uppe- POVERTY and SOCIAL America middle- Argentina & Carib. income Developnfnt dlamond 1997 Populaib, id-year (mllons) 35.2 494 571 Life expectancy GNP per capita (Alias metoo USS) 8.570 3.880 4,520 GNP (Atls nmelod, US$ billons) 302.0 1,917 2.584 Average annual growth, 1991-97 Population (%) 1.1 1.7 1.5 Labor force (I%) 1.9 2.3 1.9 GNP Gross Most recent stimnae (lbat year available, 1991-97) capita enrolment Poverty (% of populati bobw n nalpovefty7y le) 26 Urban population (X of tola population) 88 74 73 Life expecba at birth (years) 73 70 70 Infant mrrti y(per 1,000 Wes bk1s) 22 32 30 Child rmaurit (X of children under 5) 2 Access to safe water Access to safe water (% of population) 64 73 79 ltliwracy(%ofpopulbrionage15+) 4 13 15 Gross pnrmary enrorment (96 of school-age popuation) 107 11t 107 Argentia Male .. Upper-mddle-income group Femr ale .._.._.. KEY ECONOMiC RATIOS and LONG-TERM TRENDS 1976 1986 1996 1997 Eeononie rstios^ GDP (USS billions) 51.2 110.9 298.7 322.7 Gross domestic hvestrenttGDP 30.7 17.5 18.5 18.9 ExPorts Of goods and servicestGDP 9.2 8.2 8.9 8.7 Trade Gross donmestic savings/GDP 34.0 19.3 18.1 18.2 Gross national savingstGDP 34.1 14.8 16.5 16.4 Current account balancGDP 1.3 -2.6 -1.3 -2.9 Domestc Invste, Interest paymentsGDP 0.9 3.3 1.9 2.0 S a vvestrt Total deWGDP 18.1 47.3 32.4 32.4 Sv Total debt service/exports 34.4 82.8 47.2 49.3 Present value of debt/GDP .. .. 29.5 Present value of debtlexports . .. 277.7 Indebtedness 1976-86 1987-97 1996 1997 1998402 (average annual growth) GDP 0.6 3.8 4.8 8.6 4.0 -A r7entina GNP per capita -1.9 2.9 3.7 7.1 3.1 Upper-middtenconme group Exports of goods and services 2.8 8.5 6.7 9.1 6.5 STRUCTURE of the ECONOMY 1976 1986 1996 1997 Growth rt ofoutput and investment (%) (56 of GDP) Agriculture 8.2 7.8 7.7 7.3 40 Industry 50.9 37.4 35.5 36.4 20 ManUfcturing 39.1 27.4 24.7 24.8 Services 41.0 54.8 56.8 56.3 0 Private consumption 56.6 . .. .. -20 General government consumption 9.4 Imports of goods and services 5.9 6.3 9.2 9.4 G -4-GOP (average annual growth) 1976-86 1987-97 1996 1997 Growth rates of exports and Imports (% Agriculture 1.2 2.8 3.0 3.3 100 Industry -1.5 3.5 5.0 11.2 so Manufacturing -1.3 3.0 5.3 9.2 so Services 2.1 4.1 4.9 7.7 40 Private consumption ..2 General govemment consumption .. .. 0 Gross domestic investment -4.8 7.5 8.8 26.5 -20 92 93 94 96 97 Imports of goods and services 1.1 19.5 18.2 27.1 Exports -- imports Gross nabonal product -0.4 4.2 4.6 8.1 1 Note: 1997 data are preliminary estimates. The diamonds show four key indicators in the country (in bold) compared with its income-group average. If data are missing, the diamond will be incomplete.  Argentina PRICES and GOVERNMENT FINANCE 1976 1986 1996 1997 InlaIfon (%) (% change) 200 Consumner pw ces .. .. 0.2 0.5 150 Impkca GDP deflor 433.3 75.7 1.5 -0.5 100 GoWIIJEt fnance so50 (% of GDP, ;ir"des currnt granfs) 0 Currentrevenue .. .. 15.4 16.7 -so 92 93 94 S5 9s 97 Curent budget baance .. .. -0.8 -0.4 ---WP delaw -- -cpt Overa surpadeficit .. .. -1.8 -1.3 TRADE 1976 1986 1996 1997 Expor and Inport levl (LUSS mlliNons Tota expors (fob) .. .. 23,493 24,970 30.000 Food 2,203 2,148 25.000 meat . .. 1,955 2,158 Manufacures 12,004 2,13 20.00013 Total mports (ct) .. .. 22,179 24,619 15.000 Food 10,000 Fued and energy 1,009 1,022 5o000 Capt goods .. .. 5.249 5,996 0 Export pnoe xiebx (1995--100) . .. 104 104 SI 92 3 94 SS 96