ARGENTINA ECONOMIC AND FINANCIAL REVIEW, APRIL 7 -

UNCLAS SECTION 01 OF 04 BUENOS AIRES 000506 SIPDIS SENSITIVE SIPDIS E.O. 12958: N/A TAGS: EFIN ECON EINV ETRD ELAB EAIR AR SUBJECT: ARGENTINA ECONOMIC AND FINANCIAL REVIEW, APRIL 7 - 18, 2008 ¶1. (U) Provided below is Embassy Buenos Aires' Economic and Financial Review covering the period April 7 - 18, 2008. The unclassified email version of this report includes tables and SIPDIS charts tracking Argentine economic developments. Contact Econoff Chris Landberg at landbergca@state.gov to be included on the email distribution list. This document is sensitive but unclassified. It should not be disseminated outside of USG channels or in any public forum without the written concurrence of the originator. It should not be posted on the internet. -------------- Highlights -------------- -- March official CPI up 1.1% m-o-m, while private sector estimates 3% -- Inflation expectations top 30%; increasing concerns about wage/price spiral -- IMF and World Bank question Argentina's CPI -- GoA approves financial structure for over $3.5 billion high-speed train -- BCRA meets monetary target for 19th consecutive quarter, helped by Treasury FX purchases -------------- Inflation -------------- March official CPI up 1.1% m-o-m, while private sector estimates 3% -------------- -------------- ¶2. (SBU) After delaying for almost a week past the normal April 6 reporting date, Argentine national statistics agency INDEC reported April 11 that headline consumer price inflation in March was 1.1% month-over-month. While the announced inflation was in line with market expectations, the report was well below most independent analysts' estimates for actual or "true" inflation, which range from 2.5-3.5%. (Note: The CPI is based on the Buenos Aires metropolitan area price survey.) On a year-on-year basis, headline official CPI was 8.8%, slightly accelerating from 8.4% in February. INDEC also reported that producer price inflation of 0.9% m-o-m in March, driven by higher agricultural primary product and manufactured good prices. In y-o-y terms, producer price inflation was 15.5%. ¶3. (SBU) According to INDEC, all nine sub-indexes of the CPI showed increases, albeit quite moderate in contrast with the popular perception of true inflation (see below) as reported by consumer defense organizations and independent consultants. INDEC's measure of the food and beverages sub-index, which accounted for about 37% of the CPI in March, increased only 1.1% m-o-m. This figure seems to take no account of the three-week agricultural strike in March, which caused food shortages and substantial price hikes in urban areas (especially for basic food such as meat, poultry, milk, fruits and vegetables). During the strike, senior GoA officials blamed Argentine farmers for driving up food prices, and following INDEC's announcement of March inflation, several private commentators noted sarcastically that the GoA should apologize to farmers, since at least according to INDEC there had been no such spike in food prices. ¶4. (SBU) Like food and beverages, housing, transportation and health show price increases of only 0.7 - 0.8% m-o-m, suspiciously low levels, given anecdotal reports of increasing prices in all three areas. The largest increase was in education, up 7.6% m-o-m (and accounted for 25% of headline inflation). Despite this comparatively large increase, private analysts still consider this figure excessively low, since March was the start of the school year and the press is reporting much higher increases in school fees. Similarly, the 1.1% m-o-m increase in the price of entertainment (which includes tourism) sub-index appears to significantly understate the price increases that took place during the long Easter weekend. Inflation expectations top 30%; increasing concerns about wage/price spiral -------------- -------------- ¶5. (SBU) On April 15, the Finance Research Center of Di Tella University reported that inflation expectations for the next twelve months increased to 33% in April, up from 26.8% in March. The gap between Di Tella's inflation expectations survey and the BCRA consensus survey, which estimates the BUENOS AIR 00000506 002 OF 004 next twelve months "official" inflation (INDEC-reported) at 9.7%, widened to 23.1 percentage points. Inflation expectations have risen by over 10 percentage points since the beginning of the year. This rapid increase in expectations is understandable given that first quarter "true" inflation, annualized, is in the range of 30%, "true" March inflation annualized is in the range of 43%, and early estimates for "true" April inflation are in the range of 2.5-3% m-o-m, or again nearing 40% on an annual basis. ¶6. (SBU) Increasing inflationary expectations will likely complicate ongoing wage negotiations, and may also force Unions to seek additional wage increase later in the year or even to demand some form of automatic increases (Note: directly indexing wages to inflation is illegal under Argentine law.) Local economists are increasingly concerned about the acceleration of inflation, expectations, and wages, which increase the chances that the economy will experience a hard landing when commodity prices soften. IMF and World Bank question Argentina's CPI -------------- ¶7. (SBU) Despite having expressed doubts in private to the GoA about the quality of Argentina's CPI, the IMF included in the April 10 release of the World Economic Outlook CPI estimates of 9.2% for 2008 and 9.1% for 2009, in line with official INDEC estimates. However, the IMF cautioned that "most private sector analysts believe that actual inflation is considerably higher than reflected in official data." (Note: This is almost the exact caveat that Post included in the Investment Climate Statement, released March 5, 2008.) In February, when local press reported that IMF staff had sent a letter to INDEC questioning its inflation-measuring methodology, there was local speculation that the IMF would exclude Argentine data from the report. According to Argentine daily "Cronista Comercial," a senior IMF source stated April 9 that "if the situation does not change and (the Argentine government) does not make more transparent the indices and methodologies with which it calculates CPI, the next IMF report (to be released in six months) will probably not include official GoA statistics." ¶8. (SBU) In contrast, Augusto de la Torre, World Bank Chief Economist for Latin America and the Caribbean, opted to exclude Argentina from a presentation he gave during the spring IMF/World Bank meetings, showing inflation statistics for the region. When later queried by a Cronista reporter about inflation in Argentina, he diplomatically responded, "The only thing I can tell you is that we understand that the Argentine government is preparing a new inflation index with an updated methodology and qualitative changes. We are going to wait to see the new data." Cronista also reported that de la Torre subsequently admitted that he did not include Argentine inflation numbers "so as to not have to respond to questions about it." -------------- Finance -------------- GoA approves financial structure for over $3.5 billion high-speed train -------------- -------------- ¶9. (SBU) On April 4, the GoA published in the Official Gazette Resolution N178, approving the financial structure to pay for the politically controversial project of building a high-speed train between the cities of Buenos Aires, Rosario, and Cordoba. Under the resolution, the GoA will issue two bonds to finance the construction of the train by French company Alstom. The first bond for Euros 430 million will be a 30-year, amortizing, dollar-denominated bond with a fixed coupon for the first 17 years and a variable coupon of Libor plus a spread for years 18-30. (Note: the Economy Ministry will determine the spread nearer the launch date, expected in May or June 2008.) ¶10. (SBU) The GoA expects to issue the second bond for Euros 2.0 billion in several tranches from 2009-2011. Argentina's Congress must approve this second bond as part of the overall 2009 Budget Law (prior to January 31, 2009). This second bond will be a thirty-year, amortizing, dollar-denominated bond with a fixed coupon. Interestingly, these bonds will be issued under English law, which will require the GoA to engage in a sophisticated legal structure to avoid attachment from "holdout" bondholders. Also, the GoA will pay French corporate and investment bank Natixis a 3% and 1% fee (on the principal amount) to structure and underwriting the BUENOS AIR 00000506 003 OF 004 transaction, respectively. Interestingly, under the terms of the agreement with Alstom, the GoA's financing obligation is independent of the performance or completion of the project, meaning it will be obliged to issue these bonds even in the face of construction delays or cost increases. Local media has independently reported that Natixis' package could be refinanced by French export credit agency COFACE if/when the GoA settles on its Paris Club arrears. ¶11. (U) Background: In May 2006, the GoA announced plans to develop the first high-speed rail line in South America, stretching 310 km from Buenos Aires to Rosario, with a further 400-km line proposed for a 160km/h operation between Rosario and Cordoba. In May 2006, the GoA held an open tender for the contract to build the project. Four European firms presented as bidders: Alstom (French),Siemens (German),CAF (Spanish) and Impregilo (Italian). The total cost of the Buenos Aires)Rosario)Cordoba line was calculated at $4 billion. When technical and financial bids were due in March 2007, only the Veloxia grouping of Alstom, Isolux Corsan, Iecsa and Emepa came forward, and the GoA selected this consortium as the preferred bidder in June ¶2007. President Cristina Fernandez de Kirchner officially announced in January 2008 that Alstom and its partners had been awarded the project. She also discussed the project during her April 7 meeting in Paris with French President Sarkozy. The two governments and Alstom have reportedly agreed to sign the final contract in late April. -- Travel Time: The Buenos Aires to Cordoba trip will take three hours, compared to the current 10 hours by automobile. According to the project, the journey will be served by eight double-decker high speed trains, each with a capacity of 500 passengers, operating nine return trips/day at speeds of up to 320 km/hour. -- Infrastructure. The project requires construction of seven stations and 780 kilometers of tracks, an electrical network, signaling apparatus, the supply of rolling stock, and maintenance. Alstom will provide overall management and engineering, the supply of rolling stock, signaling, communications, electrification, and maintenance. Alstom will manufacture the trains in France and assemble them in Argentina. IECSA and Isolux Corsan will be in charge of civil works, and EMEPA will join Alstom in constructing the rail line. -- Passengers. Analysts estimate that three million passengers per year will use the high-speed line for the Buenos Aires ) Rosario line, and an additional 500,000 passengers will use the Rosario-Cordoba line. ¶12. (SBU) Concerns: Aside from the high cost, critics of this deal point to a number of problems that complicate this project: 1) Argentina will be going from a "Lada to a Lamborghini," and does not have in place the necessary expertise to operate the project -- requiring an expensive management contract. 2) The country is already facing electricity capacity issues, and this project will require a large and reliable supply of power. 3) Ticket prices likely will exceed most Argentines' capacity to pay, limiting the number of passengers that will use the train, or requiring significant ongoing GoA subsidies, or more likely both. (According to an EU study, a high-speed train requires six million passengers/year to justify the investment and nine million passengers/year to be profitable.) -------------- Monetary -------------- BCRA meets monetary target for 19th consecutive quarter, helped by Treasury FX purchases -------------- -------------- ¶13. (SBU) The BCRA announced April 14 that for the 19th consecutive quarter it had fulfilled its monetary target in first quarter 2008. The BCRA's 2008 Monetary Program targets M2, which is defined as cash in circulation plus private and public sector sight-accounts (savings and checking). According to preliminary BCRA data, the average M2 level during the quarter was ARP 149.8 billion, ARP 1.0 billion below the base scenario of ARP 150.7 billion established in the 20087 Program, and ARP 3.5 billion above the lower limit of ARP 146.3 billion. Nominal growth of M2 reached a strong 18.2% y-o-y, but still below the upper growth target of 22.5% and below the nominal growth of GDP. Independent economists note that, in Argentina's increasingly inflation driven BUENOS AIR 00000506 004 OF 004 economy, M2 growth becomes a less reliable measure of inflationary pressures as consumers choose to limit cash balances to avoid depreciation carrying losses. ¶14. (SBU) During the quarter, the GoA Treasury (under the Economy Ministry) purchased $1.5 billion foreign exchange. This had a contractionary impact on monetary aggregates, both on the monetary base and M2, since the Treasury used pesos already in circulation to make the purchases (as opposed to the BCRA's issuance of new pesos to purchase FX). The Treasury purchases also helped offset the expansionary effect of private sector purchases of foreign exchange (to hedge against high inflation and concerns about a possible depreciation of the peso) and the increase in private sector credit. Also, in March the agricultural strike, which mostly halted agricultural commodity exports, reduced dollar inflows to exporters. The combination of these factors supported the BCRA's effort to prevent the nominal appreciation of the peso, and alleviated the burden of sterilizing its foreign exchange purchases (estimated by private analysts at $2.9 billion for the quarter). WAYNE