Statement by Julio J. Nogues at the Board meeting of March 17, 1998

International Bank for Reconstruction and Development International Development Association 87333 International Finance Corporation Multilateral Investment Guarantee Agency FOR OFFICIAL USE ONLY CONFIDENTIAL EDS98-101 March 16, 1998 Board Meeting of March 17, 1998 Statement by Julio J. Nogués Argentina: Country Assistance Strategy I would like to start by expressing the continued appreciation of my authorities to the World Bank Group for its crucial support to the economic and social reform program of Argentina. This CAS update offers an opportunity to share with colleagues some comments on recent progress towards economic and social goals, as well as to highlight some of the key areas where my Government will be working in close collaboration with the Bank. Economic and Social Performance During 1997 a. Convertibility and economic progress During 1997, Argentina’s GDP is estimated to have increased by 8.4 percent while the annual inflation rate (CPI) remained subdued at 0.3 percent (Figures 1 and 2). Such a performance is the result of measures that have been and continue to be taken in order to strengthen the structural basis of the Convertibility Plan as the country’s currency board is usually referred to. Let me recall that the Convertibility Law was approved by Congress in early 1991 and since then, the economic performance of Argentina has reached a level not witnessed since the early years of this century. Because under the Convertibility Plan the monetary base is fully backed by gold and foreign exchange reserves, investors bet on the returns that their investments will deliver in a growing and very open economy that: (i) offers national treatment, (ii) has no restrictions to capital flows, and (iii) imposes no barriers to the repatriation of profits. Not surprisingly during 1997, the rate of growth of investment has returned to the high figures observed before the tequila crisis (figure 3). With Convertibility, the country has also given up exchange rate policy and devaluations as a basis for determining competitiveness as it used to do in the past to mask its inefficiencies. Improved resource allocation and productivity have now become the basis of Argentina’s international competitiveness and the outcome has been an accelerated growth of foreign trade that for goods and in dollar terms has nearly tripled since 1991. Crucial for the success of this Plan has been the absolute commitment of the political leadership including the Congress, for  2 approving and implementing the measures considered necessary for sustaining it. Under Convertibility there are no degrees of freedom for inefficient and loss-making public enterprises. Because of this, in the early 90s Argentina embarked on an ambitious privatization program which as the CAS document mentions, is now coming close to its end as there remain few public assets to be transferred to the private sector. Likewise, given that for ensuring efficient resource allocation prices and wages have to be determined competitively, it is of the essence that they be as flexible as possible. To achieve this, economic activities have been deregulated and barriers to trade and foreign investment have been reduced drastically or eliminated altogether. Also, regulatory bodies seek to ensure that prices of services produced by single utility companies resemble competitive prices. Finally, progress has also been made towards the goal of labor market deregulation and in agreement with what is stated in the CAS document, the Executive believes that this deregulation is very important for improving the capacity of the economy to create productive employment opportunities at a fast speed. Nevertheless, this is a politically sensitive reform and one that the Government is seeking to implement with consensus. b. Impact of the crisis in East Asia The crisis in East Asia has not had a serious negative impact on Argentina and the main reason lies in the strength of its economy. My colleagues might recall that my country was seriously affected by the crisis triggered by the devaluation of the Mexican peso in December of 1994. That crisis was taken as a challenge and an opportunity to introduce additional structural measures that continued to strengthen the capacity of the economy to withstand negative external shocks. Salient among these measures have been those that strengthened the financial sector in general and the banking industry in particular. With the assistance of the Bank, Argentina has since privatized a majority of provincial public banks and my authorities are now analyzing alternative strategies for completing the privatization of public banks. A salient feature during 1997, has been the sale of some of the biggest private banks to strong foreign banks under the policies of national treatment and right of establishment which since the early 90s also apply for financial services. This process expected to continue, has also strengthened Argentina’s financial markets. Since the end of 1990 foreign exchange reserves have increased by more than three times and in addition, the Central Bank of Argentina has entered into a repurchase agreement with a group of foreign banks for $ 6.1 billion dollars. This agreement, as well as the EFF recently approved by the IMF Board, has strengthened convertibility and therefore, the capacity of the economy to confront a negative external shock. The Central Bank has also been working hard to strengthen its supervision capacity. In 1995, the contagion effects of the Mexican crisis were visible in an impressive withdrawal of bank deposits. In contrast to what happened during this episode, figure 4 shows that since early 1997, bank deposits continued to grow in spite of the increased uncertainties associated with the crisis of East Asia. This as said, is the consequence of several measures that have improved quite  3 significantly the confidence of the people in the restructured banking sector. While interest rates have adjusted, the increase induced by the crisis in East Asia has been much smaller than what was recorded in 1995 and now the spreads over Libor are returning to the pre-crisis levels. This is also the consequence of the strategy for liability management that stresses the extension of maturities and the diversification of international funding sources. Other factors that have helped to mitigate the crisis of East Asia include a weak trade linkage to these economies, and the fact that the product composition of Argentina’s trade will unlikely result in an important negative terms of trade shock. The strengthened situation of domestic financial markets as well as the continued structural reform measures are important reasons why my authorities believe that the GDP growth forecast of 5.8 percent presented in the 1998 budget to the Congress continues to be reasonable. Whether this forecast will materialize also depends on the speed by which the weakened economies of East Asia can stabilize their currencies. This stabilization is crucial for allowing the international trading system to accommodate the shifts in trade flows that have to occur for smoothing the adjustment process. c. Social conditions In Argentina during the 90s, average social conditions have been clearly associated with economic performance; when the economy has grown, the percent of people living below the poverty line has declined and vice versa when the economy recedes. Given this relationship, in my 1997 presentation to the Board on the occasion of the CAS discussion, I said that the “...ongoing acceleration of economic activities...will increase labor demand...which in turn will entail a resumption of the reductions in the cyclical indicators of the incidence of poverty...”. I’m happy to report that this forecast has in fact materialized. While in October of 1996 the percentage of the population living below the poverty line was 20.1 percent , by May of 1997 this figure had declined to 18.4 percent . In agreement with the CAS document, the Government believes that this progress is associated with the decline in the unemployment rate to 13.7 percent recorded in October of 1997, from the historical peak of 18.7 percent in October of 1995. Because the labor force participation rate, particularly that of women is increasing fast as shown in Figure 5, the rate at which the economy can generate productive employment opportunities has become an issue of the greatest importance. The expectations are well expressed in paragraph 13 of the CAS document where we read that “...while the formal job creation from October 1996 to October 1997 was over 800,000 in the major urban centers, the net impact on unemployment was diminished by almost 500,000 new entrants to the labor market during the same period...”. My Government shares the importance of the goal of improving income distribution. In the short run nevertheless, the lesson from the tequila crisis was clear and in order to minimize the probability of another crisis that would be devastating to the poorest segments of the population, the efforts to deepen the reform program took  4 precedence. Now that confidence has been built, the leadership of my country is fully engaged in strengthening the ongoing social programs and launching major new reform initiatives that will help to equalize social and economic opportunities. Summing up, in Argentina the fight against adverse social conditions has three main pillars. The first, given the clear links between employment and poverty noted above, is to ensure that economic policies and institutions result in a sustainable good economic and employment generating performance. The second pillar lies in a continued effort to improve the efficiency and delivery capacity of targeted social programs. For example, the series of social protection projects and other programs such as the maternal and child health are crucial for improving the social conditions of many of Argentina’s poor in a relatively short period of time. The third pillar is in the areas of health and education where some reforms are crucial for improving the delivery capacity of these sectors and equalizing opportunities for human development. The CAS document highlights the major structural reform in the health sector and in the area of education, much hope is put in the forthcoming program for reforming the incentive structure faced by teachers both of them with the assistance of the Bank. Transparency and Accountability On this topic, I would like to share three comments. First, good governance implying the highest possible levels of transparency and accountability of public decisions requires democratic institutions and freedom of press as absolutely necessary conditions. Both of these are present in Argentina. Second, the nature of economic policies is fundamental in determining the number and magnitude of rent-seeking opportunities. Controlled trade results in important rent premiums that are allocated through obscure bureaucratic decisions such as those related to quotas and licenses. In Argentina, trade has been decontrolled and in an additional effort to ensure higher standards and strengthen the fight against tax evasion, many of the services rendered by the Customs Office have been recently privatized. As to the financial sector, the currency board is a totally transparent institutional arrangement far superior in this regard to the previous system of traditional Central Bank where among other things, rediscounts were subject to political influences. Also, the debates in the Congress on budget trade-offs have reinforced the transparency and accountability of public finance policies. Finally, the practically complete privatization of public enterprises has also eliminated another important source of easy rents. In short, the market-oriented policies and the enhanced transparency and accountability of the economic institutions have drastically reduced the opportunities for rent-seeking. Thirdly, the Government of Argentina, with the assistance of the Bank and the IDB is also working hard for increasing the efficiency of the judicial sector as well as trying to improve the accessibility by the poorest segments of the population. Among the major recent progress towards the goal of increasing the independence of the judiciary, I would like to highlight the creation during 1997 of the Consejo de la Magistratura, a bipartisan body in charge of selecting  5 the names of the candidates for occupying prominent jobs in this sector including judges. All this demonstrates the efforts of the Government for improving transparency and accountability of public decisions. But on topics of great importance, whatever progress is made, Governments will always be challenged to do more and/or do it better. The Government of Argentina takes this challenge head-on and continues to work with determination to: (i) strengthen fundamental principles of freedom of press and democratic institutions, (ii) improve the transparency and accountability of economic decision making processes, and (iii) increase the independence and efficiency of the judicial sector. The Government is counting with the continued support of the Bank for ensuring the achievement of objectives in this crucial area. Decentralization and Portfolio Management Argentina’s portfolio is one of the fastest growing of the Bank and now comprises 40 projects. Portfolio performance deteriorated during the 1995 crisis but since then, it has improved considerably. This is as expected from several factors mentioned before including: (i) improved overall economic performance, (ii) continued efforts on the part of Argentina for improving the professionalism and dedication of the implementing agencies and, (iii) continued efforts on the part of the Bank to guide its work by the principles of client orientation and teamwork. Together with the Bank, my Government is proud of the fact that “...completed operations since 1989 have a perfect record of achieving their objectives...”. We share the concern that the increasing complexity of the portfolio might in the future, result in a less than perfect record. Nevertheless, we are confident that the performance shown thus far and the decentralization of Bank operations to Buenos Aires, are crucial factors for ensuring continued levels of excellency in portfolio performance. Summing-up Argentina and the World Bank represent a partnership that has delivered high quality and efficient products. My authorities are convinced that without the strong pillar given by good and market- oriented policies, the outcome would had been quite different. Very early in the reform program the Bank concluded that the risks of supporting my Government’s strategy were worth taking and ever since, it has remained committed to Argentina’s reform program. While the achievements have been quite impressive, much remains to be done and we take the decentralization to Buenos Aires as another clear signal of the Bank to remain engaged with the reform program of my country. My authorities remain grateful to the staff and management of the World Bank Group for this commitment and wants to ensure the Board that the they will work hard for achieving continued excellent outcomes from the collaborative efforts.  6 Figure 1: Annual Growth Rate of GDP % 10 8.9 8.7 8.4 7.1 8 6.0 6 4.3 4 2 0.1 0 -2 -4 -4.6 -6 90 91 92 93 94 95 96 97 Figure 2: Annual Inflation Rate (CPI) % 90 84.0 80 70 60 50 40 30 20 17.5 10 7.4 3.9 1.6 0.1 0.3 0 91 92 93 94 95 96 97 Figure 3: Growth Rate of Fixed Investment % 35.0 31.0 25.0 27.0 30.0 25.0 18.0 20.0 14.0 15.0 8.3 10.0 5.0 0.0 -5.0 -10.0 -16.3 -15.0 -20.0 91 92 93 94 95 96 97