No More Excuses: Dollarize Argentina
Since the dismantling of the convertibility regime, the value of the Argentine peso has fallen from one US dollar to a tenth of a penny. Argentines have taken the hint, stockpiling an estimated $265 billion in dollar cash and foreign bank deposits and shunning the peso. A proposal by presidential contender Javier Milei to make the switch from pesos to dollars official would seem to be an obvious next step.
But whenever dollarization is suggested in policy circles, a litany of technical-sounding excuses is offered in opposition. These excuses are feeble and irrelevant and should not stand in the way of officially dollarizing the Argentine economy. Here, we offer a succinct rebuttal to some of the most common arguments.
Central banking is superior to dollarization. Central bank stabilization policy may work on a blackboard, but it is not set up for success in Argentina. Apart from the ten years of the convertibility system, the Banco Central de la Republica Argentina (BCRA) has not been a force for stability in the Argentine economy. While a preternaturally gifted central banker may be waiting in the wings somewhere, Argentine central banking will always have to contend with a lack of fiscal restraint, poorly developed domestic financial markets, and the public’s unwillingness to hold peso cash and peso-denominated bank balances. This combination has been the kiss of death for central banking.
The banking system is not ready for dollarization. Conducting business in multiple currencies is a headache for Argentine banks. Dollarization would be good for business, encouraging Argentines to deposit their cash and increase their use of the banking system. Foreigners would also be more inclined to hold dollar-denominated balances in Argentine banks. While the banking system would lose the BCRA as a lender of last resort, new connections to the dollar-based international financial system would provide richer opportunities for solvent banks to manage their liquidity.
We need to fix the government finances first. The Argentine government’s indiscipline is certainly not helpful. Eliminating the government’s ability to finance its deficits through the BCRA, however, is a fantastic way to encourage fiscal discipline. Financial planning will become much easier when interest rates and inflation decline from triple to single-digit annualized rates. Eliminating exchange rate-driven incentives for Argentines to move their wealth offshore and outside of the banking system will facilitate tax compliance. And international capital markets will be prepared to lend on much better terms in US dollars than in Argentine pesos. Dollarization can be a helpful catalyst toward fixing the government’s finances.
How will a dollarized economy respond to trade shocks? If Argentina only faced terms-of-trade shocks, it would be in a much better position than it is today. The economic impact of monetary and fiscal policy shocks dwarfs the impact of international trade. Nor is it evident that large amounts of Argentine trade are invoiced in pesos, or that international demand for Argentine exports is strongly price-elastic. Giving trading partners the ability to hold dollar-denominated balances in Argentina will also remove strain from Argentina’s balance of payments.
But dollarization is not technically feasible! Nonsense—of course it is. Peso cash in the hands of the public is the only monetary liability that must be redeemed in dollars. The BCRA has more than enough dollars to redeem outstanding peso cash, and to the extent that Argentines are willing to deposit cash in the banking system again, the BCRA’s task becomes even easier. All other peso monetary liabilities at the BCRA and within the banking system can simply be redenominated on paper; no dollar funds are needed for settlement.
The economies of California and New York are both larger than Argentina’s. Despite a fixed rate of exchange and limited factor mobility, they trade with each other without difficulty. And while the two states may struggle with deficits, no reasonable person would suggest that each needs a central bank to increase the state’s fiscal flexibility. Yet economists who are trained to look through ‘institutional details’ to see the heart of the matter are easily confused when a trading partner is a sovereign state.
Dollarization in Argentina is not only feasible, but desirable. Even though the fiscal constraints imposed by dollarization may be a source of consternation for Argentina’s politicians, they are a small price to pay for the monetary stability that has eluded the country for the entire twenty-first century and most of the twentieth.