Argentina - Country Strategy Paper

'. • 68065 " Confidential ARGENTINA COUNTRY STRATEGY PAPER April 29, 1992 Latin America and the Caribbean Region Country Operations Department N •  • CONTENTS Executive SummaI)' iii L Argentina's Economic Program 1 Background 1 Managing the Transition to Macroeconomic Stability 2 Stabilization and Recovery in 1991 2 The Transition to Sustained Stability and Growth 3 Risks 4 The Refonn Agenda 5 Ongoing Refonns 5 Key Future Macroeconomic Refonns 6 Supporting Growth and Social Development 6 External Finance 8 Balance of Payments 8 Debt Reduction 8 n. The Role of the World Bank 9 Evolution of Bank Strategy 9 Bank Assistance Program 10 Composition 10 Size 11 Implementation 12 Annexes I Key EconomicIndicators 14 n Key Fiscal Indicators 15 ill Proposed Assistance Program, FY93-97 16 N IFCsRoleinArgentina 18 V Policy Issues in Proposed FY93-97 Lending 19 VI Projected IBRD Lending Hows, Exposure and Risk Indicators, CY91-97 21 Tables 1 Key rnacroeconomicindicators 3 2 External financing 8 Charts 1 Net export tax equivalent, quarterly, 1987-91 1 2 Import tariffs and quantitative restrictions, quarterly, 1987-91 2 3 Annual rate of inflation and overall public sector deficit, 1989-92 2 4 Real exchange rate, quarterly, 1987-91 3  '. •  • EXECUTIVE SUMMARY The Eccmumic Program. Argentina's ongoing ec0- ment has also been reached with the commercial nomic program generated price stability and 5 per- banks to settle arrears and reduce debt service to cent growth in 1991. Increased confidence, at home fiscally sustainable levels. and abroad, led to massive capital inflows. The pro- The Bank's Future Role. Over FY93-97, the Bank gram addresses the root cause of Argentina's insta- will support the shift from structural reform of public bility and economic decline: the overextended state. finances to improving the quality of financial inter- The program has improved tax structure and admin- mediation services, core public goods and social ser- istration, greatly improved tax collections, privatized vices. Reform of provincial finances supported by public enterprises and petroleum concessions, re- adjustmentJending would be followed up by provin- fonned public administration and reduced public cial investment and social sector lending, in line with employment by 20 percent, all of which are likely to the provinces' newly-acquired responsibility for in- endure. Trade liberalization and domestic deregula- frastructure and social sectors. Lending also would tion have improved efficiency. These measures, to- include operations to ensure adequate credit for pri- gether with a Convertibility Law that has fixed the vate sector development, farmers and privatized in- exchange rate and reinforced the elimination of infla- frastructure firms. Analytical work will support lend- tionary finance, have contributed to the fall in infla- ing related to provincial finance, private infrastruc- tion. ture investments, regulation of natural monopolies, The risks facing the program are both political price-based environmental policies and delivery of and economic. The short time in which the accom- social services. The lending program would be condi- plishments have occurred, compared to Chile and tioned on satisfactory macroeconomic performance. Mexico, makes it difficult for the reforms' winners to Worsening fiscal performance not only would pre- coalesce and offset the losers politically. Economi- vent adjustment and financial sector lending; it would cally, wages and prices may not prove flexible enough signal a lack of counterpart funds and administrative to support the fixed exchange rate without a reces- capacity that would preclude efficient disbursement sion, which would create pressure to abandon the of investment and social sector loans. The key condi- program. Thus far, however, memories of the tion would be an opemtional primary surplus of 2 hyperinflation of 1989-90 have made stability politi- percent of GOP, which would obviate the need for cally popular. inflationary finance. Any worsening of the deficit Sustained stability and growth require continued would be corrected by cuts in spending and increases attention to the fiscal fundamentals. The Government in revenues (identified in ongoing ESW); otherwise must continue the momentum of current structural loans would not be brought to the Board. reforms and deal with urgent problems of social Recommendation. We seek authorization for a lend- security and provincial finances. As fiscal options ing program of up to US$5.0 billion in FY93-97, strictly widen, the Government must shift to supporting pri- conditioned on maintenance of fiscal performance vate investment's revival and social services for the consistent with zero inflationary finance. We propose poor. This involves financial sector reform; improved additional adjustment lending of up to US$1 billion, market regulation and environmental protection; and ending with the FY94 Provincial Finance Reform loan. better provision of core public services (infrastruc- As agreed at the Loan Committee, to enhance the ture and basic social services). External finance will upcoming "Brady" deal, we would provide up to be necessary to obviate the use of inflationary finance U5$450 million in a free standing loan (in addition to or inefficient tax and spending measures that would the programmed lending) and set-asides of up to reverse the improvement in the quality of public US$300 millio~ubject to fiscal stability and con- finance. tinuation of the program. Our analysis suggests that The Bank has provided major support to the the implied increase in exposure (primarily in the program through economic and sector work and next two years, while adjustment lending continues) loans for public enterprise and public sector reform increasing Argentina's share of the mRD portfolio to and tax administration. The IMF has approved a about 4.3 percent from the present 2.8 percent, repre- three-year extended arrangement (EFF). An agree- sents a justified and manageable risk.  • I. ARGENTINA'S ECONOMIC PROGRAM Background been critical to meet fiscal and foreign exchange needs without recourse to inflationary finance. Argentina's economic program succeeded in stabiliz- The Government already has made impressive ing and reactivating the economy in 1991. The progress. It has improved the tax structure by broad- Government's program attacks the root cause of ening the value added tax (VAn base and eliminat- Argentina's economic decline: an overextended pub- ing or reducing taxes on trade and financial intenne- lic sector. As the state became bloated over the past diation; strongly reduced tax evasion through mod- forty years, it lost the ability to perform core public ernizing tax administration; reorganized the Govern- functions of managing the macroeconomy, securing ment and cut public employment by 20 percent; pri- stable and efficient rules of the game, and providing vatized the telecommunications company, the na- services critical to development. Stabilization efforts tional airlines and concessioned major parts of the and trade and financial reforms through the decade petroleum reserves, the railways, and the interurban of the eighties proved unsustainable: the Govern- highways. It progressed in the regularization of pro- ment, overloaded with responsibilities and besieged vincial finances through a new revenue-sharing law, byinterestgroups,reverted to inflationary fiscal defi- the closure of the provinces' overdraft window at the cits and interventions in trade and financial markets. Central Bank, and the discontinuation of routine The consequence was a decline in net investment and rediscounts to provincial banks. In addition, the Gov- productivity. In a stagnant economy, the battle for ernment has nearly completed the liberalization of rents intensified and the unorganized poor lost out. trade that began in 1987 (Charts 1 and 2). It also has These tendencies culminated in the hyperinflation maintained the earlier abolition of price, wage and and recession of 1989 and early 1990. This cathartic interest rate controls, of investment licensing and of experience provided President Menem with the p0- directed credit. It has deregulated professional and litical support to embark on a drastic reorientation in transport services, and enacted legisIation to increase economic strategy. The Government worked closely labor flexibility and improve collective bargaining. with the World Bank and the IMP in designing its The structural reforms, however, are not complete. In program. particular, the Government must take up the difficult The program which has gained momentum and tasks of reforming social security and extending ad- coherence since its launch in 1989 has two compo- justment to the provinces. nents: (i) structural reform to eliminate the public sector's deficit, divest its non- CHART 1 core functions, and terminate its ineffi- cient interventions in markets; and (ii) Net export lax eqUivalent, quarterly. 1987-91 improvement in the supply of core pub- 40r-------------------------------------~ lic goods critical for private sector growth and social development. The Govern- 30 - ment rightly accords priority to price stability as the essential pre-condition for reviving private investment and en- couraging productivity growth. It there- fore has focussed initially on reducing the structural deficit through improved taxation, downsizing federal public ad- Or---------~--~~------~~----------~ ministration and divestiture of public enterprises; and on enforcing price disci- -10 ............ _-- pline through trade liberalization and deregulation. While the reforms are be- ing implemented, external financing has 1  • 2 Argentina OJuntry Strategy Paper Since the last C:SP (dated July 1990), CHART 2 the economy has entered a more prom- Import tariffs and quantitative restrictions, quarterly, 1987-91 ising phase. For sustained stabili ty and growth, however, the Government must 60r-------------------------------------, continue the momentum of structural reform. Increasingly, however, the at- tention of economic managers needs to ~\d shift to the second stage agenda of im- E 40 proving the supply of core public goods I valorem tariffs and social services. This C:SP therefore provides an update on the Government' s strategy, addressing the management of the transition to sustained macroeco- 30 20 "'-"-\ ....M ...... H ....... nomic stability, the remaining tasks on 10 the reform agenda, the policies to sup- port growth and social development, and external financing needs in the light of the agreement in prindple with the com- mercial banks on debt and debt service CHART 3 reduction. Annual rate of mHation and overall public sector de1lclt, 1989-92 NM,r-~~~-------------------------.10 Managing the Transition to Macroeconomic Stability Stabilization and Recuvery in 1991 A potential macroeconomic crisis in Janu- ary 1991 was controlled quickly with the Ij announcement of a fiscal package that I .5 further reduced the need for inflationary finance. (Chart 3 depicts the improve- ment in the fiscal fundamentals and o disinflation since 1989.) Then, to increase --10 confidence, the Government committed itself legaIly to a new exchange rate and monetary regime. The April Convert- ibility Law guaranteed full convertibility of the austral at a fixed rate of A$10,OOO to the dollar The response to the program has been substantial (changed to one peso per dollar on January 1992). The capital inflows, amounting to some US$6 billion by law also deindexed most contracts and facilitated the end-I991. These inflows financed increased imports use of the dollar in transactions. Most importantly, and additions to reserves linked to the remonetization the law effectively proscribed further money creation inspired by the Convertibility Law. Import competi- except to purchase foreign exchange. The implied tion, remonetization, and expectations of exchange end to Central Bank financing of deficits was consis- rate stability lowered inflatio~ measured by the tent with the public sector's reduced need for infla- combined consumer and producer price index-to 1 tionary finance. Confidence was further inspired by to 2 percent a month in May-September 1991 and to additional fiscal measures and the July 1991 approv- international rates in November-December,compared als of a 12-month IMF Standby Agreement, and our with 4 t06 percent a month in the last quarter of 1990. Public Sector Reform Loan (PSRL) for US$325 mil- Interest rates on deposits fell to less than 10 percent lion, cofinanced in the same amount by the Inter- annually, from nearly 9 percent monthly in 1990. American Development Bank (IDB). These events produced a consumption-led boom.  ,. • Argentina CDu"try Strategy Paper 3 Overall growth is estimated at 5 percent CHART 4 in 1991, with a significant rise in employ- Real exchange rale, quarterly. 1987-91 ment. In January-March 1992, however, price inflation of non-tradables lifted the combined consumer/wholesale price in- 175 dex by 15 percent monthly. This infla- tion continued the appreciation of the currency begun after the hyperinflation (Chart 4) and pointed to the dangers of overheating. The Government reacted by raising the VAT rate two percentage points to curb demand pressure, and by _c 100 ~....;;;;;o~=~\:--I---_-.J~--,----~ "'= accelerating deregulation in transport and port services to ease supply bottle- 75 necks. It also reconfinned that wage in- creases would not be validated by ex- 50~~~~~~~~~~~~~~~~~~~~ change rate adjustments. The rise in the 1987/1 III 198811 III 1989/1 III 199011 III 199111 III VAT did generate a one-time price in- crease, but the Government expects inflation subse- and with which we are in broad agreement. The quently to converge to international rates. operational primary surplus (revenues less non-in- terest expenditures) is projected to increase from 1 to The Transition to Sustained Stal1ility and Growth 2 percent of GOP between 1991 and 1993-95. The improvement reflects a projected increase in current The recovery can continue if confidence in the revenues of about 4 percentage points of GOP, and is Governmenrs policies is maintained. Policy credibil- consistent with realistic assumptions on the revenue ity means that the Government must persuade finan- and expenditure effects of refonns, partly offset by cial markets of a durable reduction in the fiscal deficit the end of asset sales, and an increase in public invest- to what can be financed externally in an orderly ment by about 05 percent of GOP (Annex II). The fashion. The key domestic elements are a deepening monetary and fiscal stance is projected to reduce of public sector refonns and an end to reliance on inflation to 12 percent in 1992 and to international asset sales and such emergency measures as the tax rates thereafter. Capital inflows would be sufficient on bank checks and arrears accumulation with pen- to keep interest rates slightly above international rates, sioners. The Government also must clear the stock of fund a further large increase in domestic assets, and arrears with pensioners and suppliers, estimated at finance a part of investment. some US$14 billion. To strengthen price discipline Capacityexpansionand furtherproductivitygrowth and raise productivity growth, the Government also would lead to long-tenn growth of 4 percent a year. needs to consolidate its already advanced program of The projection assumes that productivity increases trade liberalization and deregulation. In addition, it will be sufficient to avoid significant supply bottle- will be necessary to increase public investment ex- necks. This growth would require investment to grow penditures and improve the provision of core public progressively from 125 percent of GOP in 1991 (8A goods and social services. percent in 1990) to 18 percent by the end of the The EFF approved by the IMF Board on March 31, decade. Public investment would recover somewhat 1992 (for three years and total access of SOR 2.1 as public finances improve. However, since divesti- billion) and the agreement in principle on commer- tures will reduce the domain of public investment, cial bank debt, to be concluded later in the year, will private investment would play the lead role in growth. strengthen confidence in the Govemmenrs program Private capital inflows would be attracted by invest- and improve access to international capital flows. ment opportunities generated by privatization and Central to the EFF program is a continued improve- by higher expected returns due to macroeconomic ment in the fiscal fundamentals. Our projections (An- stability and improved medium-tenn policies. The nex I and II, and Table 1) confonn to the basic archi- incremental capital-output ratio initially would be tecture of this program, which we have influenced low and increase only slowly, reflecting the potential  • 4 Argentina Country Strategy Paper Table 1 Key macroeconomic indicators its successful completion if the Government stays the (as percent of CDP) course in its structural reforms. A more fundamental 1996- risk is the loss of political support for current policies. 1990 1991 1992 1993-95 2000 Both risks are discussed below. Consolidated public sector Economic Risks. Expectations in Argentine financial Operational primary markets are highly volatile. In the context of an open surplus 1.3 1.0 1.9 2.0 1.8 capital account, this implies that sudden reversals in Prim:ID surplus Overa balance' 1.9 -3.3 2.2 -1.3 3.2 1.0 2.1 .Q.3 1.8 0.0 capital flows are always possible. Real variables would Net financing: not be affected if higher interest rates generated by External 0.6 1.3 .Q.5 0.1 .Q.l capital outflows lead to a renewal of inflows quickly, Domestic 2.7 0 .Q.5 0.2 0.1 as is entirely possible. A reduction in deposits and Savings and investment higher deposit rates WOUld, however, strain still-weak Tola! investment 8.4 12.5 14.0 16.0 18.0 domestic financial institutions, in tum leading to de- Private 6.5 10.8 12.4 13.9 15.6 mands for the Central Bank to intervene as the lender Public 1.9 1.7 1.6 2.1 2.4 of last resort. This would put additional pressure on National savings 10.0 10.3 11.7 13.8 16.6 reserves, raise interest rates further and depress ag- Private 12.0 11.2 10.4 12.4 14.6 gregate demand. The October 1991 reduction in the Public -2.0 .Q.9 1.3 1.4 2.0 coverage of deposit insurance has reduced the Cen- Foreign savings -1.6 2.2 2.4 2.2 1.4 tral Bank's legal obligations, but the policy response Memo to a bank run ultimately will reflect political pres- lCOR Oagged) 21.3 1.6 2.2 3.6 4.4 sures. Over the medium term, efforts to strengthen RealG~wth(%) 0.4 5.0 5.8 4.3 4.0 Annual lion rate the financial system should reduce this risk further. (GOP deflator) 1,902 139 12.2 4.2 3.8 By legally binding itself to a fixed exchange rate in March 1991, the Government generated additional a.lncludes quasi-fiscal balance of Central Bank. confidence at a time when fiscal reforms were not Source: Annex land II complete. Stabilization and recovery thus were 0b- tained, though at the risk that capital inflows could for catching up to the productivity levels of devel- become insufficient to maintain external balance. This oped countries. could happen because inflows stabilize at levels be- About 13 percent of investment on average would low present ones, or because the trade balance contin- need to be financed externally. This is equivalent to ues to deteriorate as a result of a cumulative real foreign savings of 2.1 percent of GOP. Gross national exchange rate appreciation, which could reduce con- savings would have to increase by about five percent- fidence and provoke a reduction in capital inflows. age points of GOP over the period. The public sector With a fixed exchange rate the adjustment to such would lead the savings recovery in 1992, but private external imbalances involves reserve losses and a savings would increase, led by the growth of manda- contraction in the money supply and aggregate de- tory pension funds resulting from the penSion insur- mand. There are two extreme adjustment scenarios: ance reform. Furthermore, residents would choose to • A smooth landing if prices and wages are flexible save in the reformed domestic financial system rather enough to restore international competitiveness at than abroad, as in the past. the present exchange rate. The Government can in- duce greater price and wage flexibility though fur- Risks ther deregulation, particularly in the labor market. Reduction in domestic costs, or even an increase at Central to the above scenario is continued improve- less than world inflation, would generate a gradual ment in the primary surplus and in the structure of real devaluation that would restore external equili~ revenues and expenditures. Disturbances to the sce- rium by improving the trade balance. nario might occur because of highly volatile expecta- • A hard landing because of limited price and wage tions in Argentine financial markets, or a possible flexibility. Adjustment would take place through a worsening of the external accounts in the context of recession. This eventually might prompt the Govern- the fixed exchange rate. Although these disturbances ment to abandon the exchange parity, in the context could prolong the transition, they would not prevent of a crisis of confidence. A hard landing becomes  • Argenti... Country Strategy Paper 5 more likely if external accounts deteriorated rapidly is still fresh enough to sustain the strong aversion to and price and wage flexibility are not enough to the previous discredited polities and leaders. And restore international competitiveness quickly. the strong corporate interest in the privatization pr0- As the reform process deepens, the added confi- gram is checking industrial protectionist pressures. dence inspired by the convertibility law will become The conservative wing of the military furthermore redundant. Even after a hard landing, stabilization has shown greater loyalty to President Menem than and recovery would resume if the current structural to his predecessor. Finally, the President is aware that program oontinues. Ultimately, a successful transi- his political future depends on the success of the tion depends on the fundamental fiscal improve- reform program, and that finandal markets would ment, not a particular exchange rate regime. react quickly to a loss in its momentum. The Presi- Political Risks. The reform process has so far been dent thus can be expected to reconfirm the program supported by an unusually wide political consensus in such case, as he has done successfully on previous that arose from the economic oollapse in 1989. The occasions. Weighing all these factors, we conclude hyperinflation and recession exposed previous struc- that, while they are potent, the political risks are tural and fiscal polities as the cause of hardship, and likely to be managed effectively by the Government's increased public support for strong reform polities. expediting outstanding reforms and rapidly improv- The consensus weathered the inflationary crises of ing the prOvision of basic sodal services. early 1990 and early 1991, supported the defeat of a smaIl revolt in the military, and marginalized the old The Refonn Agenda guard of union leaders and industrial representa- tives. The 1991 recovery with stability helped to carry In addition to completing ongoing reforms (and re- reformist candidates to victory in mid-term elections. sisting backsliding), the Government needs to stop Strong consumer and labor demand also prevented losses of the sodal security system, and to force pro- the relative losers of adjustment-producers of vintial authorities to reduce excessive public sector importables and workers set free by the downsizing employment and privatize provindal public enter- of the public sector-from suffering, as a group, ab- prises and banks, while improving sodal sector de- solute losses, thus minimizing the political cost of livery. As discussed in the subsequent section, the these reforms. Government must also follow uponplans to privatize The political consensus is likely to be strained by or restructure national commercial banks and to political maneuvering prior to oongressional elec- strengthen bank supervision. The design and imple- tions (1993) and presidential elections (1995). The mentation of all these reforms has been or is being question is whether the consensus, or a new coalition supported by the Bank's ESW, technical assistance of groups interested in an open and private sector-led and/or adjustment lending. economy, will prevail over a reemerging coalition of spedal interests oriented to protection and statedomi- Ongoing Reforms nance. Several factors give reason for concern. The recovery may reduce the demand for further reforms. The oonsolidation of the ongoing reforms involves Moreover, Argentina's reform process has not gone the following actions: on anywhere near as long as Chile's or Mexioo's, • Improued Tax Structure and Tax Administration. providing less time for the benefidaries of reform to The Government is concentrating on oomprehensive coalesce against the losers. A particular problem is expenditure and income taxes and on better tax c0m- sodal security reform, which must drastically red uce pliance. Legislation on the taxation of distributed benefit entitlement, that already has met resistance in profits is before Congress and the Government plans Congress. The Government also has been slow in to reintroduce a proposal for a new tax on firms' attending to the needs of the non-organized Ulban primary surpluses that would replace the current poor, instead relying on the personal stature of the excessive employers' contributions to sodal security. President to neutralize the appeal of extremist politi- The Government is also unifying the collection of dans. The reform process also may slow if the pro- taxes and social security contributions and is commit- posed constitutional amendment to allow the ted (under our Public Sector Reform loan) to close the president's reelection leads to costly political deals. loopholes of industrial promotion. The reforms are On the positive side, the hyperinflation experience projected to increase federal revenues by four per- , 6 Argentina Country Strategy Paper centage points ofGDP between 1991 and 1992, and to sion insurance while privatizing its supply. Pay-as- raise the share of comprehensive taxes in revenues you-go financing would be replaced by fully funded from about 28 percent to 52 percent (Annex 11). individual capitalization accounts. The state would • Better Public Administration. In addition to provide an additional tax-financed uniform pension downsizing the federal work force, the Government of about 22 percent of average salary, thus securing a has started to modernize the civil service. Pending sodally acceptable minimum for retired low-wage legislation on finandal management and public pro- workers. The reform would generate a supply of curement would, for the first time, allow systematic long-term financial savings and would drastically planning of expenditures across all agencies and es- reduce payroll taxes that discourage formal employ- tablish effective control over payments. In addition, ment. However, only drastic changes in benefit rules the strengthening of nonpolitical executive appoint- can stop the further accumulation of. arrears. This ments across the civil service needs to continue. would also be necessary to hold the fiscal costs of the • Divestiture of Public Enterprises. The Government transition to a funded system to manageable levels. is determined to divest or close the federally owned The President's determined leadership will be re- enterprises in all sectors within a year. Among these quired to counter the temptation to gain political are the state oil company, the post office, the power advantage by promising benefits thatcannotbe main- and water companies, ports, the merchant fleet, and tained in the long term. enterprises under the MiniStry of Defense, including Improving Provincial Finances. Public sector reforms petrochemical and steel companies. The challenge is in the provinces are urgent for fiscal adjustment; they to achieve this in a transparent manner, and to pro- also are necessary to prepare the provinces for the vide appropriate regulatory frameworks for the pri- task of providing the infrastructure and services criti- vatized sectors. cal for private investment and sodal development. • Further Ubera]izing the Trade Regime. The Govern- Capital expenditures have declined from about 30 ment needs to consolidate the trade reform by re- percent of total expenditures in the early 1980s to less moving the remaining quantitative imJXlrt restric- than 15 percent. Over the same period public em- tions and national content requirements for automo- ployment in some of the smaller provinces has risen biles,aspeciaI tariff rate on consumer electronics, and to more than 30 percent of the provindal labor force. an export ban on raw hides. Preserving the reform Provincial pension schemes for public employees are achievements within the common market agreed with excessively generous. The sharp increase in obliga- Brazil, Paraguay, and Uruguay (MERCOSUR) will be tory revenue-sharing transfers resulting from the Fed- an important challenge. As the most advanced part- eral Government's success in raising revenues (An- .ner in terms of liberalization and deregulation, Ar- nex II) has had the unintended effect of reducing gentina needs to take the lead in creating the rules adjustment pressure on the provinces. The Govern- and institutions of the common market. ment has begun to transfer additional respollSlbilities • Deregulation. The Government needs to follow for health, education and infrastructure to the prov- up on the comprehensive deregulation decree of 1991 inces. It also will need to negotiate changes in the with measures to break up service cartels, enforce the revenue-sharing arrangements governing transfers, prohibition of cargo reservations in road transport, based on performance criteria, e.g. provincial tax and and secure the free election of worker representatives pension reforms, reduced public employment, pri- and the right to wage bargaining at the level of firms. vatization of provindal banks and enterprises. The smaller provinces need technical assistance to mod- Key Future Maaoeconomic Reforms ernize their administrations and to enable them to take up their new responsibilities. Social Security Reform. The national sodal security system is performing very poorly. Despite a payroll Supporting Growth and Social tax of 26 percent of gross salary and earmarked tax Development revenues of about US$85 million per month, the sys- tem is accumulating debt through unmet legal obliga- A stable macroeconomic environment and a well- tions to pensioners at a rate of about U5$200 million structured set of incentives are necessary conditions per month. The Government has decided on a sys- for a revival of private investment and the reversal of temic change that would maintain mandatory pen- Argentina's negative productivity trends. Growth in Argenti"" Country Strategy Paper 7 the private sector also requires finance for invest- structure. The completion of already advanced power ment, adequate physical infrastructure, technological generation plants and transmission links is important support, and a more qualified labor force. Further- for preventing supply shortages in the mid-l990s and more, growth cannot be sustained without attention improving the sector's cash flow. The Government, to social objectives and to maintaining the natural with support from the Bank and the IDB, is expedit- resource base. The state has an important role to play ing completion of the Yacyreta hydroelectric scheme. in each of these areas, neglected during the fiscal In the roads sector, the establishment of competent crises of the 1980s. planning agencies is important, as is increased expen- • Improving the Functioning of Financial Markets. diture on road maintenance. Ports, postal services, Decades of high inflation have left Argentina with a and railway services will leave the public domain shrunken capital market and a banking sector geared while the Government seeks to finance rail modern- to financing the public sector. Public banks had also ization by selling off railway real estate. largely become mechanisms for directed credit. In • Better Public Productive Seruices. Argentina's natu- the capital markets, the Government has removed ral resource-intensive and skill-intensive tradable sec- tax distortions, enacted a legal framework for the tors are set to gain from trade liberalization, deregu- introduction of new instruments, and is currently lation, improved access to investment finance and rebuilding the superviSion and prudential regulation infrastructure development. They would also benefit functions. Privatization is likely to expand the supply greatly from improved market access in the emerg- of private securities, and pension reform is likely to ing MERCOSUR and successful completion of the increase the demand for them. In the banking sector, Uruguay Round. As Argentina's failure to profitfrom the Government must still close, privatize or other- the expansion of East Asian beef markets illustrates, wise downsize public sector banks which, in total, however, realizing trade opportunities depends criti- hold 60 percent of deposits. The Government plans to cally on the restoration of public services, in this case sell or liquidate the National Development Bank; in the area of animal health. More generally, the strip the National Mortgage Bank of its retail lending deterioration in the supply of services characterized function; privatize the National Insurance and Sav- by strong information externalities-such as research, ings Bank; downsize the National Commercial Bank,; extension, standardization, quality testing, and voca- and encourage the privatization of provincial banks tional training-needs to be reversed to unlock the (which are chartered by provincial governments). full growth potential of tradable sectors. Ahead also lie the rebuilding of the bank SUpervision • Delivery of Quality Social Seruices, Especially to the function outside the Central Bank, the enforcement of Poor. Education and health services and social assis- minimum capital and provisioningrequirernents, and tance to wlnerable groups have suffered from the the establishment of an effective liquidity facility at austerity measures of the 1980s and from the general the Central Bank. A new Center Bank charter, cur- decline of public sector management. The neglect of rently before Congress, provides the framework for basic health services and the lack of social assistance these changes. To advance the restoration of lending targeting have resulted in higher maternal and infant with longer maturities, the Government is participat- mortality and in malnutrition, particularly in the pov- ing in the formation of a new second-tier bank to be erty belts surrounding the cities of Buenos Aires and managed and, ultimately, owned by the private sec- Rosario and in the less developed northern prov- tor, and is planning to set up a fund supporting the inces. The Government's general approach to educa- financing of private infrastructure investment. En- tion and health services is to transfer responsibilities suring a reasonable flow of agricultural credit at non- (except for tertiary education) to the provinces. While subsidized rates, particularly to small farmers, will these have benefited from the surge in revenues from also be important to take advantage of Argentina's shared taxes, the smaller provinces, particularly, need inherent comparative advantage in agriculture. to improve management capability. In health, the • Infrastructure DeueIopment. The privatization of Government is also set to break the monopoly of the hydrocarbon, power and water sectors generates unions on the supply of mandatory health insurance. a need for regulation of the natural monopolistic To reduce the high cost of drugs, it will need to follow stages (transmission and distribution) and for ensur- up on import liberalization to open distribution chan- ing competition in other stages. Long term financing nels to importers. In tertiary education, the authori- will also need to be assured for the privatized infra- ties are preparing to introduce tuition charges and  • 8 Argentina Country Strategy Paper student loans, a refonn needed to improve the qual- Debt Reduction ity of universities and reduce what is essentially a middle-class subsidy for a private good (amounting In spite of strong public sector adjustment and the to about 1.7 percent of GOP). With regard to social return to positive economic growth, the Government assistance, theCovernment has accepted Bank pro- requires debt relief to overcome its basic insolvency. posals for designing targeted maternal and child health Within a total public debt of about US$80 billion and nutrition services and new delivery systems. (including the recognition of domestic debt to suppli- • Impruved Natural Resource and Waste Management. ers and pensioners) and the stock of external arrears As the economic crisis recedes, the Government is (some US$8 billion), commercial bank debt (U5$24 becoming more aware of the adverse long-tenn envi- billion) is too great for Argentina to service normally. ronmental impact of existing patterns of natural re- For this reason, the Government has sought debt source use and industrial and urban waste disposal. relief from its commercial creditors. An agreement Soil erosion, water pollution and the degradation of was reached in principle in early April and the debt forests and other ecosystems are already constrain- and debt service reduction deal (ODSR) should close ing development and creating health hazards. The by year-end. The deal would resolve the arrears prob- Government has yet to develop a legal framework lem and reduce debt service obligations to the banks that would allow for effective regulation and market- from a projected U5$2.5-4.2 billion annually to U5$1.4- based solutions. 1.6 billion for 1993-94. The new interest bill falls within the range of projected fiscal sustainability. The agree- External Finance ment also limits increases in the future interest bill if international interest rates rise sharply. Balance of Payments Thecontinued recovery of imports and remonetization Table 2 External financing projected for 1992 imply net capital inflows on the (percentage of CDP) order of 6.7 percent of GOP. This includes the fund- ingof interest guarantees from external sources in the 1993·97 1990 1991 1992 average context of the debt deal. In the mediurn-tenn, net capital inflows would decline to about 25 percent of Cu~ntaavuntaefidt (1.7) 2.2 2.4 2.0 GOP, balancing the current account deficit of 2.0 Net ""pital influws percentofGOPandareserveaccumulationthatwould To private sector 1.1 1.3 5.7 2.5 be needed under the Convertibility Law to provide Direct foreign investment 1.6 1.9 1.6 0.9 for growth in financial assets (Table 2). Net official Short-term and other (0.5) (0.6) 4.1 1.6 flows would support the debt deal, thereby regular- To public sector (0.8) 1.1 1.4 0.0 izing relations with the banks and ending the build- Financial markets (1.2) 0.0 (0.1) (0.1) up of interest arrears ("unidentified sources"), and Bonds (0.2) 0.3 (02) (02) would support public sector adjustment. Net flows IBRD 0.2 0.1 0.3 02 to the private sector would go into the remonetization lOB 0.2 0.2 0.3 0.2 Bilaterals and other 0.2 0.5 (0.0) (0.1) and would support the projected expansion of pri- Interest enhancements 1.1 vate investment. The increased private capital flows Unidentified sources 1.9 1.1 (0.4) (0.0) would reflect the growing confidence in the Government's policies among foreign investors and Net reserve accumulation 3.9 1.3 4.3 0.5 Argentine residents holding assets abroad. As dis- ofwhich: IMF 0.2 0.5 0.2 0.1 cussed in the risk section above, capital inflows at less Memo: Debt outs"'nding than projected rates would slow monetization and Private sector 2.6 3.5 7.0 10.4 put downward pressure on prices and wages. This Public sector 54.8 47.5 40.1 29.7 would tend to improve the trade balance above pro- Of which jected levels. However, market rigidities might re- IBRD 2.5 2.2 2.4 2.5 quire additional adjustment through slower growth IDB 2.8 2.5 2.6 2.6 or devaluation. IMP 2.9 2.0 2.2 1.8  • Argent;"" Country Strategy Paper 9 The Loan Committee and the Board have already enhancements now being discussed would come from been advised of the broad implications of the agree- the multilateral financial institutions and Japan, with ment, which probably will require enhancements of the residual, plus the payments on arrears, from the about US$3 biUion (range of US$2.7 to US$3.7 billion Government's receipts from asset sales. A detailed depending on the banks' choices from the menu of analysis would be included in the fol'thcoming Board options), plus US$7OO million to clear arrears. The briefing paper. II. THE ROLE OF TIiE WORLD BANK Evolution of Bank Strategy were able to come forward with a set ofJoans tailored to support the 1990-91 reforms. PllSt Operations. The World Bank has played an Assistance Objectives in FY93-97. Our expectation is influential role in promoting and sustaining the re- tha tthe Government could consolidate fiscal stability cent shift in the economic policy framework. Our within the next two years and would increasingly be intensive involvement began in 1986, when the Gov- able to restore public functions critical for the sus- ernment of President Alfonsin requested ~toral ad- tained growth of the private sector and for social justment loans for reforms in agriculture, trade and development. Effective Bank support therefore re- finance, and technical assistance loans ITALs) for quires some shift in assistance objectives in the course rebuilding economic management capacity, in addi- of FY93-97. Thus, we would continue to support the tion to our ongoing investment loan program. Suc- strengthening of macroeconomic management and the cessive failed stabilization programs led to increased completion of the reform program IlS outlined above, focus- c1arity on the depth of structural fiscal and institu- ing on fiscal stability, the modernization of the state, and tional reform needed for a durable stabiliza tion and further market deregulation. At the same time, we would to sustain the incentive reforms. Through our ~ gradually shift our focus to three objectives: the improtJe- nomic and sector work and our involvement in the ment of resource mobilizAtion and intermediation; the res- Government's 1988 Plan Primavera stabilization ef- tomtion and development of public productive services and fort, we helped the Government articulate such a physical infrllStructure; and the restomtion and imprure- medium-term reform agenda. During the ment of basic social services for the poor and natural hyperinf1ation crises, while avoiding new lending, resource management. As discussed below, our assis- we devoted considerable resources to ESW, supervi- tance in these areas would address the main dimen- sion, and processing of proposed loans, using these sions of poverty in Argentina. The entire lending activities as vehicles for intensive policy dialogue. program would remain contingent on satisfactory The last CSP was finalized in mid-1990, when pub- macroeconomic performance during FY93-97, since lic finances were improving but the outcome of the renewed fiscal disorder would make it difficult to domestic political battle about privatization could carry out even investment or social sector operations. not be taken for granted. The Region proposed a Bank Contribution. To meet the challenges ahead, strategy with a base program of investment lending, the Government will continue to depend on the inter- a contingency program directed at protecting vulner- national financial institutions for both analytical sup- able groups, and an enhanced program of up to port and adjustment and investment lending. The US$1.0 billion annually, including intensive adjust- Bank's analytical work would be particularly impor- ment lending. We also sought and obtained authority tant in monitoring the fiscal program and in suggest- to initiate loan preparation for the high case. Actual ing cuts in spending and increases in revenues to loan presentation was in all cases tied to a strong counter any shortfall in fiscal performance. The Bank fiscal effort. This sttategy proved successful, and we also will provide international experience in such 10 Argentina Country Strategy Paper areas as fiscal federalism, regional integration, invest- generation. Work on regulation, productive services, ment finandng, the regulation of natural monopolies, and environmental policy will seekeffident solutions market-based environmental polides and poverty re- to significant problems of natural monopolies and duction through provision of basic social services. information and production externalities. A poverty World Bank lending support for the balance of pay- study will guide our policy dialogue and lending for ments and the fiscal transition will remain critical for the restoration of basic social services, and help target some time. Lending support will also be needed for investments in munidpal infrastructure. Studies in the regularization of relations with commercial banks. the agricultural and forestry sectors will identify the TIle alternative of taxation much above projected obstacles to effident growth and point the way to levels risks a return to widespread tax evasion and improvement of the necessary public services. A capital flight. Although access to voluntary private Country Economic Memorandum and a Policy 0p- finandng from domestic and foreign sources is likely tions Paper will summarize the Bank's policy recom- to grow, the confidence of private investors probably mendations for the Government assuming office in would wane if the Bank reduced its involvement 1995. abruptly. Lending. The lending program seeks to address the Government's most important needs: Bank Assistance Program • Completion of the Refonn Program. Within the Government's overall program, adjustment loans TIle above conclusions on assistance objectives and would focus on new and complex areas-the divesti- needs suggest a large assistance program for FY93- ture of defense-related public enterprises, finandaI 97, subject to strong policy performance and appro- sector adjustment, and provindal finance reform. TIle priate burden sharing. The program is depicted in adjustment loans will support a downsizing of pro- Annex III, relating proposed lending operations and vindal public sectors (including banks), releasing ad- ESW reports to assistance objectives. The composi- ministrative capadty and counterpart funds for in- tion and size of the program, including exposure vestment operations. Support for other public sector risks and conditionality, are discussed below. Mea- reforms would come through the supervision of on- sures to enhance the Department's effectiveness in going T A loans, and the consolidation of incentive program implementation are described thereafter. reforms would be supported through ESW. Our ear- lier lending programs included support for social Composition security adjustment, but the Government has asked us to limit our involvement to economic analysis due Economic and Sector Work. The need to monitor to political sensitivities. macroeconomic performance and advise on deficit- • Resource Mobilization and Intennediation. The pr0- redudng measures, plus the shift in assistance objec- posed finandal sector loans would support capital tives over FY93-97 will entail a high demand for ESW market development and the restoration of lending in the next three years. To monitor macroeconomic with longer maturities. We would cooperate with the developments and provide budgetary advice, we plan IFC in the development of capital market institutions to follow up the FY92 public finance review with (Annex N). IFC expects to commit up to US$200 macro assessments in FY93 and FY94. We will sup- million annually and mobilize additional finandng port the structural reform agenda analytically with from private sources. However, the needs for private the FY92 provindal finance review, and a sodal secu- investment finandng are likely to be much greater, rity study; in addition, work is planned on labor particularly until Argentina's access to international markets and trade regime associated with capital markets is fully restored. To ensure adequate MERCOSUR credit for private investment, we propose two gen- At the same time, our ESW must lay the intellectual eral credit lines and an agricultural credit operation foundation for Bank assistance in the post-adjust- to improve farmers' (particularly smaIl farmers'), ac- ment and post-privatization phase. In addition to the cess to commercial banks. In addition, we propose to private sector assessment, a private investment fi- provide the newly-privatized infrastructure firms with nandng study is planned to explore possibilities for guarantees of non-commercial risks, consistent with effident resource mobilization and intermediation the ECO policy paper. This would enhance their for investment with long lead times, such as in power access to international capital. Argenti"" Country Strategy Paper 11 • Public Productive Services and Infrastructure. The TA loan has helped the Government develop coher- deterioration of public services has led to a loss of ent strategies for education, health, and social assis- competitiveness by local producers. Two operations tance. Lending for improved environmental manage- (for agricultural and industrial services respectively) ment would also begin in FY95 based on earlier ESW. are planned to help restore the supply of research, We would also resume financial intermediation lend- quality control, voca tional training, and other ser- ing-discontinued because of high inflation-with a vices with information externalities. A group of six focus on banking sector reform, capital market devel- loans would help the provinces cope with their ex- opment and improving access of small farmers and tended responsibilities for infrastructure in the after- newly privatized infrastructure suppliers. math of public sector reform. A proposed FY93 Conditionality. We have put forward a single lend- Yacyreta II loan would help advance the date by ing scenario, conditional on maintenance of a non- which this project can contribute to the Govemment's inflationary financing environment Argentina's tran- cash flow; the loan would mark the end of Bank sition to sustained stability and high growth can only involvement with the project. succeed with strong fiscal policy action based on the • Social Servicesand Environment. Our lending would completion of public sector reforms and determined, help the provinces provide better health services, widespread sector policy improvements. It is there- secondary education, and health and nutrition assis- fore appropriate that the Bank use the leverage im- tance to mothers and children. With regard to the plied by the assistance program to help the Govern- environment, our lending support would focus on ment keep its program on track. In principle, the deforestation, soil degradation, and urban pollution required operational primary surplus target (mini- which have been assessed as the most important mum 2 percent of GDP) should be sufficient to cover concerns. interest costs, obviating the need to borrow or resort • PUlJerty. Our assistance for the above objectives to inflationary finance to cover interest. Accordingly, would address important dimensions of poverty in we propose continuing the practice of not presenting Argentina. Increased price stability would reduce the any loan to the Board without a positive macroeco- fluctuations of real wage and pension income against nomic policy framework, with the key variable being which poor households are unable to hedge. Private performance towards that primary surplus target sector development would expand employment op- which we will monitor and dialogue intensively. We portunities in the formal sector and, in the medium would also consider the quality of fiscal adjustment: term, increase real wages. Several operations would improvements in the tax structure, social security specifically contribute to poverty alleviation; a pov- reform and provincial finances. In the event of dete- erty study is expected to increase the effectiveness of riorative macroeconomic performance or adverse ex- our assistance in this regard; the maternal and child ternal changes, we would expect the Government to health project would target vulnerable groups in the reduce expenditures and raise revenues along the urban poverty belts and the underdeveloped north- lines recommended in the Public Finance Review and ern provinces; the restoration of basic health services our ongoing dialogue. Individual loans would also and improved access to secondary education would carry their own, substantially front-loaded policy con- improve living conditions for the poor, as would ditionality (Annex V), which if not fulfilled would better environmental management, water supply, and eliminate that loan and reduce total lending accord- municipal services in the urban poverty belts. ingly. • Debt and Debt-Service Reduction. Support for DDSR would corne from an additional free-standing opera- Size tion not included in the assistance program, and from set-asides. Level of Involvement. The proposed lending opera- The shift in assistance objectives is reflected in the tions add up to a five-year lending program of up to changing composition of lending depicted in the ma- US$5.o billion for FY93-97. Half of the FY93-94 pro- trix. Assuming the rhythm of reform is maintained, a gram would be devoted to adjustment lending, decade of adjustment lending would end in FY94 whereas investment and social sector operations with a loan supporting reform of provincial finances. would account for all of the FY95-97 program. An- FY95 would mark our entry into lending for social nual average commitments of U5$1.0 billion would sectors, after work under the ongoing Social Sector be the same as that authorized in the last CSP and '. • 12 Argent;"" Country Strategy Paper confirmed in the most recent lending allocation re- flows from the Bank as adjustment lending tapers off. view. The size of the FY93-95 program would be We consider these risks to be manageable: consistent with DDSR support of up to US$450 mil- • The export-based risk indicators are projected to lion in incremental interest support and up to US$300 stay within Bank guidelines. These indicators are not million in set-asides for principal support. The pro- likely to worsen drastically because export commod- posed ESW program for FY93-95 adds up to 17 re- ity prices are not expected to fall much below already ports. This involvement reflects the overlap of moni- depressed levels, the country's approximate energy toring. continued adjustment support, and the prepa- balance shields the current account against oil price ration of new and complex development tasks. variations, and the debt deal limits the rise in interest Exposure Risks. The Bank's exposure to Argentina on debt to commercial banks. stands at US$2.8 billion, or 2.8 percent of the total • A loss of macroeconomic control cannot be ruled mRD portfolio at the end of 1991, well within the out. But in the light of Argentina's experience with Bank's limit of 10 percent. This comparatively low alternative courses of action, and the broad political ratio for a large and active client reflects a history of support for the key reforms, the likelihood of a policy low lending before 1986, and the 1989-90 hiatus in reversal is deemed to be small. If there is a new new lending. Full implementation of the proposed inflationary outburst, the President could be expected lending program and incremental DDSR support to reaffirm the economic program, as he has success- would increase our exposure to US$5.7 billion, or fully in earlier crises. Furthermore, a change in the 4.3 percent of the projected total portfolio at the end exchange rate regime-which could be used without of 1997 (Annex VI). a loss of control to stave off a recession-would not DDSR support and adjustment lending sharply derail the reform program as long as the fundamen- raise Bank exposure in 1992 from $2.8 billion at end tals continue to improve. CY91 to a projected $3.6 billion at end CY92. In • Net resource flows from the Bank would neces- addition, external debt service to preferred creditors sarily decline after the period of adjustment lending. (multilaterals) rises sharply as a percentage of debt However, the assistance program would maintain service to reach 27 percent at end 1992. (ltfalls in 1993 positive net disbursements over the medium term and 1994 as IMF repurchases decline, then rises again and net transfers would turn negative in 1997 (Annex as the EFF begins to be repaid.) Moreover, amortiza- VI). Preferred debt service as a share of projected tion of dollar-denominated bonds held by domestic federal fiscal revenues--arguably the best available and foreign creditors (BONEX), that have been fully indicator for ability to pay-would actually decline. serviced in the past, also rises sharply in 1992. In As to willingness to pay, it is unlikely that the authori- judging the additional risk posed by the rise in Bank ties, having achieved fiscal adjustment, would jeop- exposure, it should first be noted that the increase in ardize capital repatriation by defaulting on preferred actual debt service under the debt deal is projected to creditors. Although net flows declined in 1989-90 be fiscally sustainable under the ongOing reform pro- because of the hiatus in lending. Argentina continued gram. Furthermore, in the event of adverse macro- to fully service its debt to the Bank. economic developments, payments to official credi- tors would be protected by various shock absorbers: Implementation the share of preferred creditors in actual debt service would fall because the deal would increase actual Resource Allocation. The Bank's effective role in re- payments to the banks; debt service on dollar-de- versing Argentina's long-term economic decline has nominated bonds could be rolled-<lver; and the fiscal been made possible by concentrating, since 1987, the program includes increased public investment ex- Department's limited resources on strategic tasks. penditures that could be cut. There would thus be Oose attention to the supervision of adjustment and room to reduce other payments and expenditures to technical assistance loans has proven to be particu- sustain service to the multilateral institutions. Our larly important for helping the Government trans- analysis therefore suggests that the increased expo- form intentions into effective action. We will, there- sure represents a justified and manageable risk. fore, continue to devote significant resources to this Sources of risk to the Bank's portfolio could be task. The assistance program for FY93-97 entails drastic adverse external events, a loss of macroeconomic medium term shifts in our involvement from struc- control, and the medium-term decline of net resource tural reform policies and public enterprise invest-  • ArKentina Country Strategy Paper 13 ment to the provision of social services and public gram, the Trade, Industry and Finance division has goods. To maintain effectiveness, the Department securedgrantresources and iscoordinating the Depart- will: ment's work in this area. We consider a strong pres- • Increase staff resources devoted to the human ence in the field critical to our ability to maintain resource area. effectiveness under uncertain working conditions. The • Strengthen the expertise among task managers in Resident Mission in Buenos Aires has already been regulation, natural resource management, and public expanded through the secondment of staff coordinat- productive services, while scaling back the existing ing our role in privatization and the hiring of local endowment with specialists in such areas as housing staff assisting in work with the provinces. We propose and hydrocarbons. devoting additional staff resources 10 the mission as • Make higher demands on the Technical Depart- our involvement with the provinces deepms ment and the research complex in such areas as pro- Coordination Among Agencies. We have maintained vincial public sector management, environmental close working relationships with the lOB and the policy, extension of technology, and international trade IMF. The lOB has cofinanced a number of our opera- agreements. tions. We intend to continue such cooperation invit- The short-term challenge for the Department lies in ing the lOB to assume a larger role in the loan devel- providing support for a new set of development opment and identification phase. We have also been policies while continuing to give attention to old instrumental in securing grant financing from official tasks. In addition, we must contend with transitional Japanese agencies. As the Japanese Government re- uncertainties in Argentina arising from the shift of sumes the cofinancing of projects in Argentina, our responsibilities to the provinces. The shift is likely to responsibilities in that respect will increase, as will generate friction in the preparation of investment opportunities for leveraging our support. We expect operations as provincial management capacities and the traditional cooperation with the IFC to intensify mechanisms for interprovincial and federal-provin- through our proposed involvement in capital market cial coordination are being built. In response to the development. The IFC's direct lending and resource overlap of tasks, we plan to assign additional re- mobilization for individual private firms would sources to ESW. To deal with the heavy cyclical load complement the proposed support for resource m0- caused by our involvement in the divestiture pro- bilization and intermediation.  • ANNEx I KEY ECONOMIC INDICATORS Key Economic Indicators, 1990-2000 1993-5 1996-2000 1990 1991 1992 (trolTa~t) r...,ag') Key atenuU wruwla UBOR 8_9 73 5.3 6.9 72 Terms of trade (1987=100) 1003 101.2 100.1 100.1 101.6 MUV index (% growth) 5.7 2.0 3.8 3.9 3.8 GOP (USS billion) 105.5 129.1 153.0 182.1 2483 ICOR Oagged) 213 1.6 2.2 3.6 4.4 Red growth rates GOP 0.4 5.0 5.8 4.3 4.0 Private consumption per capita (13) 52 5.8 1.5 1.7 'n ...tm'"t (""OOIt of GOP) Gross investment 8.4 12.5 14.0 16.0 18.0 Private fixed investment 6.5 10.8 12.4 13.9 15.6 Public fixed. investment 1.9 1.7 1.6 2.1 2.4 Saoings (percent of GOP) Private nahonal savings 12.0 11.2 10.4 12.4 14.6 Public national savings (2.0) (0.9) 13 1.4 2.1 Foreign savings (1.6) 22 2.4 2.2 1.4 Bwdgtt (p"C'"t of GOP) Overall balance- (33) (13) 1.0 (0.3) (0.0) Primary surplus 1.9 2.2 3.2 2.1 1.8 Operational primary surplus 13 1.0 1.9 2.0 1.8 FOItign t,ade (p"''"t of GOP) ExporlS GNFS 14.1 11.5 10.5 11.4 13.0 ImporlS GNFS 6.7 9.2 9.8 10.5 11.4 Dtbt and debt servic, (per""t of GOP) Public debt 57.6 48.8 52.8 42.5 32.5 Public debt service 11.4 8.8 5.7 6.0 5.8 Preferred creditor debt service 2.5 2.6 2.7 2.5 2.1 Monty and prices Domestic inflation index (% growth) 1902 139 12.2 4.2 3.8 Real exchange rate index (1987=100) 81.1 69.0 63.9 63.4 63.4 Domestic interest rate (annual) 2294 169 22.7 9.3 6.3 Ml (percent of GOP) 3.0 5.8 7.0 7.1 7.1 a.Inciudes quasi-fiscal balance of Central B.1nk. 14  . · • ANNEx II KEY FISCAL INDICATORS Key Fiscal Indicators, 1990-2001l" I"-"'g< of CDP or ... spteifi<d) 1990 1991 1992 1993-95 1996-2000 Current revenue 18_1 20.4 242 243 243 In percent of aurent revenue: Expenditure/income tax'" 14.4 28.0 52.4 52.9 52.7 Sodal security mntributions 28.1 27.4 19.8 23.0 23.1 Other revenues 57.5 44.6 27.8 24.1 24.2 Current expenditures 213 21.6 23.1 23.4 22.8 In percent of current expenditures: Central government 19.7 21.1 16.8 16.7 172 TransfeB 55.8 622 73.4 71.9 732 Interest (accrued)' 24.5 16.7 9.8 11.4 9.6 Public enterprise non-interest savings 12 03 0.2 0.6 0.5 Capital receipts 0.6 13 13 0.1 0.0 Capital expenditur.... 1.9 1.7 1.6 2.1 2.4 Overall balance- (33) (13) 1.0 (03) 0.0 Primary surplus 1.9 2.2 3.2 2.1 1.8 Operational primary surplus 13 1.0 1.9 2.0 1.8 I. Consolidated. public sector. b. Comprehensive taxes on value added, income/assets a!'ld primary surplus. c. Asswning debt service reduction to beocme effective in 1993. d. Federal government and public enterprises owned by federal government. e. Overall balance includes quasi-fiscal balance of Central Bank. 15  • ANNEx III PROPOSED ASSISTANCE PROGRAM Argentina: Proposed Assistance Program, FY93-97 AssislRnce objectivel __ 1993-97 proposd program 1993 1994 1995 1996 1997 Tolal % I. Strengthening of macroeconomic policy framework Economic and sector work (year of report) Macroeconomic Asse;sment • Macroeconomic Assessment • Country Economic Memorandum • Policy Options Paper • ll. Completion of public sector reform agenda and consolidation of incentive reforms Lending program (US$ million) Public Enterprise Refonn II' 300 Financial Sector Adjustment-' 400 Refonn of Provincial Finances' 300 Subtotal 700 300 1,000 20% Economic and sector work (year of report) Social Security Issues • Labor Market Study • Common Market Strategy • Mining Sector Issues • Ill. Improvement of resource mobilization 4nd intermediation Lending program (US$ million) Agricultural Credit 200 Capital Market Dev.1 300 Capital Market Dev.1I 400 Privatized Infra. Fin. (Guarantee) 200 Subtotal 300 200 200 400 1,100 22% Economic and seclor work (year of report) Priv.lnvestment Financing • IV. Restoration and development of public productive services and infrastructure Lending program (US$ million) Yacyreta II 300 Road Maintenance 300 Provincial Power 250 Rural Infrastructure 125 Provincial Development II 300 Agricultural Services 11 50 Transport Sector (Roads) 300 Ind. Technology Transfer 50 Water Supply and Sewerage 250 Subtotal 300 300 675 350 300 1,925 39% 16  • Argentina Country Strategy Paper 17 Argentina: Proposed Assistance Program, FY93-97 (cont.) Assistance objective! 1993-97 proposed program 1993 1994 1995 1996 1997 Total % Economic and sector work (year of reporl) Agricultural Sector Update • Priv.lnfrastructure Regulation • Productive Services • Power and Energy Sector Review • Private Sector Assessment • V. Restoration of social services ""d improvement of n"tu..." ",sou",e "nd wRSte ""'Mgl!- "",nt Lending program (US$ million) Maternal Child Health 150 Education Development 200 Urban Environment Management 50 Forestry and Soil Conservation 125 Buenos Aires Health 200 Provincial Health 250 Subtotal 150 200 375 250 975 19% Economic and sector work (year of report) Poverty Study • Environmental Policy Paper • Forestry Sector Paper • Programmed lending (US$ million) 1.000 1,050 1,075 925 950 5,000 100% Number of loans (3) (4) (5) (6) (4) (22) Freestanding DDSR support 450 • Adjustment lending.  • ANNEx IV IFC's ROLE IN ARGENTINA The Private Sector vestments have been in such sectors as petrochemi- cals (POLlSUR), oil and gas (ASTRA), and Argentina's private sector is responding positively to agribusiness (Rio Pia tense), and !FC is now consider- the Govemmenrs recent liberalization program. The ing cargo railways (FEPSA-the Rosario-Bahia Blanca stabilization process is expected to result in: (i) a corridor, and MITRE-the Cordoba-Rosario corri- broad privatization and restructuring of public enter- dor). IFC is also evaluating proposals for the privat- prises; (ii) a massive transformation of local indus- iza tion of the state-owned gas company and the large tries adjusting to open market policies; and (iii) con- Buenos Aires utility company. !FC also successfully siderable new investments to expand competitive advised the Argentine Government in the privatiza- export industries. In addition, local companies are tion of a steel mill (Alto Homos Zapla). seeking integration with other companies to adapt to Given Argentina's considerable private sector in- the regional common market initiative (MERCOSUR) vestment needs, IFC also intends to maximize its that is expected to be fully implemented by 1995. funds mobilization role via its traditional syndica- . Argentina's privatization program, which began tions, as well as open new ground by bringing com- with the arduous sales of national telephone and panies to the international capital markets. For ex- airline companies, has been extended to power, hy- ample, IFC recently raised US$43 million in loans drocarbons, railways, petrochemicals and steel com- from foreign commercial banks to finance an oil project. panies. Innovative arrangements" are being formu- In the local market, IFC is discussing the creation of lated to increase private involvement in the manage- an underwriting fund to facilitate the placement of ment and/or ownership of ports, gas pipelines and equity and debt. IFC is also supporting the develop- highways. ment of the local capital markets by helping to set up To support these transformations, Argentina re- brokerage houses, venture capital funds, and bond quires foreign investment, financial advisory services, rating agencies. and mature capital markets. Although some compa- IFC expects to invest between US$I85-200 mil- nies have been able to raise financing in the interna- lion in Argentina during FY92. IFC will continue its tional capital markets, the lack of a definite solution strong support for the development of export-{)ri- for commercial debt payment arrears continues to ented industries, concentrating in three areas: hinder the normalization of private external financ- • Expansion and/or modernization of agro and ing. Hence, as IFC continues to be virtually the only forestry processing capacity (fruits and grain pro- financial institution prOviding long-term financing to cessing, milling, meat processing, pulp and paper). Argentina's private sector, IFC's catalytic role is likely • Exploration/development and transport of to be needed more than ever. hydrocarbon resources and the transformation of non- tradeables into tradeable (oil exploration, gas trans- IFC's Activities and Strategy port and conversion, methanol production). • Rehabili ta tion and expansion of physical infra- IFC is becoming increasingly active in Argentina's structure geared towards exports (railway modern- privatization process. Recent IFC privatization in- ization, port and storage expansion). 18  ANNEx V POllCY ISSUES IN PROPOSED FY93-97 LENDING . I. Public Sector Reform Public enterprises • Divestiture of all PEs owned by Ministty of Defense • Improved anti-trust regulation • Improved flexibility of labor contracts Public finance modernization • Improved application of fiscal federalism • Provincial adjustment • Transfer of responSibilities to provinces • Privatization/closure of provincial banks Financial sector adjustment • Liquidation, privatization or downsizing of federal and provincial commercial banks • Enforcement of minimum capital and provi- Sioning requirements • Improved disclosure of banks' financial II. Resource mobilizaHon • Improvement in term intermediation and intermediaHon performance • Secondary market development • Improved second tier arrangement • Implementation of Central Bank reform III. Productive services and infrastructure Agricultural, industrial • Restoration and reform of applied research, services extension, vocational training and quality control • Restructuring of national institutes includ- ing partial user fee finandng • Liberalization of trade in consultant services Power • Privatization/ concessioning of electricity transmission and distribution • Closure/privatization of unfinished nuclear power projects • Completion of Yacyreta • Establishment 01 regulatory frameworks and agencies Transport • Road concessioning/transfer to provinces • Privatization of ports • Removal of bottlenecks in export corridors 19 '. • 20 Argentina Country Strategy Paper Provincial and municipal • Building capacity to plan, build and development maintain infrastructure Rural infrastructure • Improved water management Water supply, sewerage • Improved living condition and sanitation in urban poverty areas IV. Social seruias and errvironment Maternal and child health • Targeting of social assistance on vulnerable and nutrition groups • Reduction of maternal and infant mortality and malnutrition • Improved delivery of social assist<lnce Health • Transfer of public services to provinces • Refocusing on basic health case • Introduction of user fees Education • Transfer of secondary education to provinces • Introduction of university tuition Forestry, soils • Sustainable use of natural resources: pric- ing/regulation of access to state-owned or communal ranges, • Property issues Urban environment • Market-based solution to water pollution problem  • ANNEx VI PROJECIED IBRD LENDING FLOWS, EXPOSURE AND RISK INDICATORS Projected IBRD Lending Flows, Exposure and Risk Indicators, LY91-97 A ...."Z. 1991 1992 1993 1994 1995 1996 1997 1992·97 I. Flows (USS rna/ion) Gross disbursements 459.6 1,250.1 912.1 9420 76L4 824.9 827.9 919.7 Pre-FY93 portfolio' 459.6 560.1 257.1 2920 215.4 133.9 67.9 254.4 New loans (FY93 onwards) 690.0 655.0 650.0 546.0 691.0 760.0 665.3 Quick disbursing' 600.0 500.0 350.0 0.0 0.0 0.0 241.7 Siow-disbursing 90.0 155.0 300.0 546.0 691.0 760.0 423.7 Net disbursements 108.9 927.1 517.9 482.3 337.6 380.3 235.6 480.1 Net transfers (107.5) 761.8 285.8 188.8 6.0 5.9 (147.6) 183.4 Total loan servicing 567.1 488.3 6263 753.2 7553 819.0 975.5 7363 II. Exposure 2,789.9 3,717.0 4,234.9 4,717.2 5,054.8 5,435.1 5,670.7 4,804.9 Ill. Risk indicators (%) Exposure/totallBRD portfolio 28 3.6 3.9 4.1 4.2 4.3 4.3 4.0 IBRD OS/exports GNI'S 3.8 3.0 3.4 3.6 3.3 3.2 3.4 3.3 IBRD OS/MLT debt service 7.6 6.3 8.1 9.0 7.8 8.1 9.5 8.1 IBRD OS/fiscal revenue' 22 1.3 1.5 1.7 1.6 1.6 1.8 1.6 Multilateral + Bonex OS/ total OS 32.7 51.5 49.0 47.0 49.1 48.1 43.2 48.0 Multilateral OS/total OS' 21.7 26.6 21.7' 21.9- 26.7 29.1 23.8 25.0 Multilateral + Bonex OS/ fiscal rev. 13.0 11.2 10.1 9.9 11.2 10.9 9.3 10.4 a.lncludes two loans totaling USS48.0 million sdteduJed for Board presentation before 06/30/92. b. Indudes free standing DDSR operation; set-asides for principal support arc assumed to be disbursed. from the first tranche of new adjusbnent loans and from the second tranche of ongoing adjustment loans. c. Federal non-financial revenues only; excludes capital receipts, PEs and Central Bank. d. Excludes Bonex. e. Drop rellects sharp faU in IMF repurchases. 21