Argentina: Central Bank hikes repo rate to 40% to stem peso’s fall
On 4 May, the Central Bank of Argentina (Banco Central de la República Argentina, BCRA) increased the 7-day repo reference rate by 675 basis points to an all-time high of 40.00%. The decision marked the third rate hike in the span of a week. On 27 April, the Central Bank surprised markets by increasing interest rates 300 basis points from 27.25% to 30.25%; this was followed by another hike on 3 May, bringing the rate to 33.25%, to stem the slide of the currency. The cuts reversed two rate cuts made early in the year after the Bank eased inflation targets on 28 December 2017 to support economic activity. The radical measures taken since 27 April underscore the difficulties the Bank is facing to halt the decline of the Argentine peso against the US dollar. The economy has become severely exposed to external shocks in recent months due to wide fiscal and current deficits and a high foreign-denominated debt burden. Moreover, the Bank used over 10% of the country’s international reserves to prop up the currency in the days prior to the final rate hike on 4 May.
The peso ended the day at a record-low 23.3 ARS per USD on 3 May amid a broad-based selloff of emerging market assets due to increased prospects of rising U.S. interest rates. Market analysts widely expect the Fed to raise interest rates in June and up to two more times in 2018 mainly due to a stronger inflation outlook. The peso’s current depreciation was sparked by fears on the sustainability of the country’s large foreign denominated debt burden, which has grown substantially since President Mauricio Macri took office in late 2015 to finance fiscal spending as he tries to implement painful economic reforms without quickly reducing public spending. Stubbornly-high inflation, which reached 25.4% in March according to the National Statistical Institute, has prevented the government from cutting public spending and forced it to keep tapping international markets to finance spending.
The latest press statement released by the Central Bank on 5 May clearly expressed its commitment to use the tools at its disposals to stabilize the Argentine peso in the short-term and contain inflation in the medium- and long-term to reach the 15.0% inflation target by the end of the year. However, it remains to be seen how markets will react to the latest Central Bank decision and how the Bank will respond to incoming data and new developments in the real economy and forex markets.