Argentina's Economic Overhaul Under Milei and the Resurgence of Market Optimism

Argentina’s Javier Milei program for radical reforms aimed at addressing Argentina's chronic high inflation and a stagnating economy has fiscal and monetary discipline as its cornerstone. Milei has announced significant cuts in government spending to reduce Argentina's fiscal deficit, which according to IMF estimates reached over 4.2% of GDP in 2023. The objective is to improve Argentina’s sovereign credit rating and lower the cost of borrowing. The measures are having an impact. Argentina’s country risk premium has dropped almost 1,000 basis points since Milei took office and it currently hovers around 1,600 basis points (a 100-basis point is equal to 1%). However, at these levels, Argentina has no access to international capital markets.

An ambitious program of deregulation and reduced government intervention is also central to Milei’s proposal to radically change Argentina, fostering a more dynamic and competitive economic environment for the private sector.  Argentina’s transformation during the 1990s, which involved extensive deregulation and market liberalization, resulted in significant economic growth and increased foreign investment, which is the model Milei is trying to emulate. Foreign and local observers agree that this is the right approach to revive a stagnating economy, bring down endemic high inflation and alleviate poverty. However, the challenge is huge. Significant entrenched interests are fighting to keep their privileges and are coalescing to derail’s Milei’s plans.

How has all this effected equity markets? Since Milei took office there has been a surge in investor confidence. Since December last year Argentine equities have made significant gains across the board. The New York-listed shares of YPF, Argentina's largest energy company, surged by more than 40%. Most Argentine equities have experienced substantial gains. For instance, shares of Grupo Financiero Galicia and Banco Macro, the country’s largest private sector banks, soared by over 20%, while the Global X MSCI Argentina ETF jumped by more than 11.6% since 10 December. This performance reflects optimism that Milei will succeed.

Milei’s Repeal of the 2011 rural land law act, specifically law 26.737, has also sparked the markets curiosity. The law had previously set limits on the purchase of land by foreigners to 1000 hectares and it ensured that foreign individuals or entities were thoroughly restricted in land ownership (rate of land foreignization in Argentina ranged between 6.02% and 5.05% between the land laws passing in 2011 and 2023). Milei described this as an “oppressive legal framework” that hindered national prosperity. Afterall, Argentina’s pampas are one of the most mineral and crop rich regions in the world, and its northern regions are packed with lithium and copper. Some of the names that could benefit from these changes include Adecoagro (AGRO), Cresud (CRESY) and Bioceres Crop Solutions (BIOX) which are linked to the agricultural sector and Pampa Energia, which has a broad portfolio of energy assets. IRSA, an Argentine real estate investment company, is also play on urban real estate. A permanent reduction of inflation rate may also contribute to revive moribund mortgage credit, which in turn could sustain solid growth in real estate valuations.

Of course, predicting markets is impossible, and trying to make money given Argentina’s track record of defaulting, modifying existing laws and financing government spending with money creation can scare away even the most optimistic of Milei’s supporters. When in dealing with this country, caution is paramount.

If Milei is unable to bring down Argentina’s inflation rate in the next six months, it is likely that political opposition will mount. Under such scenario, his plan of winning more seats in Congress in the 2025 legislative election to garner broader support for his reform plans, could prove challenging.

Despite all the hoopla, skepticism abounds. Many investors doubt Javier Milei will be able to change Argentina. In the last seventy years all the attempts to reform the system have failed. Only Convertibility during the 1990s raised hope for a new Argentina, but the crisis of 2002 proved the pessimists right. Then starting in 2003, a rally in the price of agricultural commodities revived the hopes of the optimistic camp. Unfortunately, the populist government of Nestor and Cristina Kirchner squandered the opportunity and used the bonanza to expand government spending to almost 50% of GDP. In the 2015 election Mauricio Macri promised change with a gradualist approach but failed miserably. Cristina Kirchner managed to regain power as Vice President and the populist approach again squandered another rally in soybean prices. Many observers think this is the last chance for Argentina.

Not surprisingly, Milei’s May Pact and ten-point plan for ‘the new Argentine economic order’, announced in his March 2 speech echoed many of the same things promised by Macri in 2016. The difference is Milei has discarded gradualism and opted for shock therapy to break the resistance of the tightly knit web of entrenched interests that profit and thrive thanks to government largesse and corruption. Although currently Milei’s popularity is high, he faces an uphill political battle against governors and senators of the opposition and labor union leaders.

Many still hope Milei will not abandon his dollarization plan. Ditching the peso forever is a drastic measure but one that might be necessary given that everything else has been tried to bring down inflation and failed.  The success of dollarization in Ecuador, which survived ten years of populism under Rafael Corera, suggests it could have a lasting impact. It would limit the ability of future populist governments to abuse the currency to finance their profligacy. But implementing dollarization also entails overcoming daunting challenges. Nationalist rhetoric has raised concerns over a loss of sovereignty by handing itself over to the ‘Yankees’.  Other critics state that Argentina lacks the dollars to finance a switch from ARS to USD. Supporters of dollarization argue that if sovereignty is linked to having the peso, it has already been lost. In 2001 one peso was worth US$1 and now it is worth US$ 0.0001. For decades Argentines have chosen the dollar as their currency, not only for saving and investment purposes but also for transaction, for example in real estate. The idea that Argentina lacks dollars to effect dollarization seems farfetched when one considers that Argentines currently hold between four and five time the amount of pesos in dollars,  most of it outside of the country but a substantial portion in safe deposit boxes and “under the mattress”.

Be it as it may, Argentina’s current anti-political establishment fever, and Milei’s radical proposals are hopeful signs that the country is waking up from self-destructive lethargy. The international community also wants Argentina to recover and is offering support, evidenced by the IMF’s public praise of Milei’s ‘shock therapy’. From the perspective of an investor, the opportunity for a quick profit is there but risks are still high, may be too high for retail investors. It is an evolving situation. Investors with high risk tolerance should keep an eye on Argentina, maybe build a small position and be ready for further accumulation or complete divestment.