The damage to Argentina extends well beyond Menem’s pride. The country’s rigid currency-board system should save it from devaluation. But Argentine growth is certain to slow as the turmoil next door dampens exports, raises interest rates and makes it tougher to raise needed capital abroad. And, harder to quantify but no less serious, the Brazilian devaluation is a setback for Mercosur, the regional trade agreement linking Brazil, Argentina, Uruguay and Paraguay.
Mercosur is a potential bulwark against just the sort of turmoil that has been buffeting Brazil. Among other things, it has helped Brazil and Argentina attract some $20 billion in direct investment in the auto industries this decade. In areas like energy, the countries are on the path to an integrated market, allowing Brazil to take advantage of Argentina’s copious oil and gas reserves. Certainly Menem has high hopes for the pact. He has instructed his Finance minister, Roque Fernandez, to present a project for the region’s countries to adopt a common currency, tied to the dollar, by 2005.
But for now Argentina must contend with the drawbacks of integration. With a weaker currency, Brazil (which absorbs a third of Argentina’s exports) won’t be able to buy as much from its partner. And though some Argentine producers will sell their goods elsewhere, not all of them will. Argentine auto products–currently 29 percent of exports to Brazil–are too inefficient to compete outside Mercosur’s high external tariff barriers. Manufacturing, textiles and dairy products will also suffer. All that will exacerbate Argentina’s current account deficit–now equivalent to 4.5 percent of GDP–even as Brazil’s move makes it harder for Argentina to finance that deficit by raising capital abroad. Luis Secco, a local economist with Estudio Miguel Angel Broda, says financial institutions are strong enough to handle the additional strains in store. Many banks are now foreign-owned and the system as a whole has benefited from reforms that followed the 1995 Mexican peso crisis. ““But there will be an increase in interest rates, an increase in loan defaults, and the banks will adopt a more conservative lending policy,’’ he says. Unemployment, already at 12.4 percent, could worsen.
Yet there are grounds for hope as well. Trade relations are the last thing on Brazilian minds at the moment, but if Cardoso wins the fight to put his fiscal house in order, he’ll also bring his country more in sync with Argentina. Cuts in electricity- and interest-rate subsidies would help Argentine companies compete in Brazil, and a reduction of the Brazilian deficit to Argentine levels is a sine qua non for a single currency. Of course, so is breaking Brazil of its habit of acting first and telling its friends later.
