Argentina’s currency crisis and economicdepression have been caused by the bad policiesof its government—not by banks, speculators,the International Monetary Fund (despite thebad advice it has given), or other scapegoats. TheDe la Rúa and Duhalde governments have madeseveral gigantic blunders, namely,

• increasing tax rates,• freezing bank deposits, • devaluing the peso, and•forcibly converting dollar bank deposits and

contracts into pesos (“pesofication”).

At present, all property is potentially subjectto government control or confiscation. There islittle reason for anybody to produce, save, or

invest in Argentina. The country is returning tothe failed economic model that caused so muchtrouble in the 1980s and had to be jettisonedfrom 1989 to 1991.

Fixing Argentina’s currency and economyrequires reversing those blunders and returningto policies that respect private property andencourage the private saving, investment, andinitiative that create economic growth. The mainsteps necessary in the short term are

• officially dollarize, converting all pesoassets, liabilities, and prices into dollars;

• to the extent possible, reverse the dam-age done by pesofication of deposits;

• reconstruct the financial system; and• drastically reduce tax rates.

Fixing Argentinaby Kurt Schuler

_____________________________________________________________________________________________________

Kurt Schuler (kurt_schuler@jec.senate.gov) is a senior economist at the Joint Economic Committee of the U.S.Congress. The views expressed here are those of the author, not necessarily those of the Joint Economic Committee orthe U.S. government.

Executive Summary

No. 445 July 16, 2002

Introduction: The Failure toUnderstand Argentina’s

CrisisArgentina was once one of the world’s

richest countries. Again and again, though,its people have chosen or at least toleratedleaders who have had no idea how wealth iscreated and preserved. Argentina’s currencycrisis and economic depression result fromthat disastrous failure of understanding.

The failure extends well beyond Argentina.The International Monetary Fund and theGroup of Seven nations have given bad advice orhave failed to give good advice. It was reportedbefore the peso was floated that the IMF wasadvising either floating or dollarization (eliminat-ing the peso and making the U.S. dollarArgentina’s national currency). The IMF gaveadvice as if both choices were equally good, eventhough under central banking the peso haddepreciated against the dollar by a factor of about10,000,000,000,000. When asked about dollariza-tion at a press conference on January 11, 2002,Anne Krueger, the IMF’s first deputy managingdirector, said, “My understanding is that, at themoment, it is technically unfeasible.”1 In reality,dollarization is always technically feasible at someexchange rate. John Taylor, under secretary forinternational affairs at the U.S. Treasury, admit-ted in a congressional committee hearing that hethought dollarization would have been betterthan the freeze of deposits the De la Rúa govern-ment imposed in December 2001, but he had notcommunicated his opinion to the Argentine gov-ernment. Argentines should be aware that theyare largely on their own; judging from its publicstatements, the executive branch of the U.S. gov-ernment is not prepared to offer substantial helpthrough loans, a free-trade agreement, sharingseigniorage (profit) from issuing the dollarshould Argentina dollarize, or even helpful hints.2

The failure of understanding extends tomost prominent foreign economists who havewritten about Argentina. Their advice has con-stituted professional malpractice. Obsessed bymonetary policy, few noted the cripplingeffects of Argentina’s high tax rates, which dis-

couraged production and encouraged tax eva-sion. They mistakenly blamed the peso’s for-mer exchange rate link of 1 per dollar for mostof Argentina’s economic problems. Mostadvised floating the peso, and quite a few pro-posed coupling devaluation with forced con-version of dollar bank deposits into pesos(“pesofication”). They were oblivious to theimmense destruction of property rights thatfollowing their advice entailed. One test of aneconomist’s advice is whether he would applyit at home. No foreign economist has volun-teered to convert his own dollars into pesos atthe disadvantageous rate imposed onArgentine bank depositors.

Argentina’s government, the IMF, theGroup of Seven, and most economists haveoffered nothing but a diet of ashes. Critics ofthe current policies must propose otheroptions, not just complain about existing poli-cies. Nobody has offered a set of alternativepolicies that is both comprehensive and benefi-cial, though a few economists have made valu-able analyses of and suggestions concerningparticular topics, some of which are incorporat-ed here.3 The Argentine government and mosteconomists are opposed to the ideas proposedhere, particularly dollarization, but the failureof the current policies is battering down resis-tance. The government of President Duhaldecontinues to march determinedly in the wrongdirection, but the day will come when a newgovernment and fresh ideas can allow a moreprosperous Argentina to emerge.

What Caused the Crisis?

Tables 1 and 2 show the basic facts ofArgentina’s economy and economic crisis.4

The conventional view of Argentina’s crisis asit unfolded in 2001 was that

• Argentina’s monetary system,locally known as “convertibility,”was a currency board;

• the peso’s exchange rate of 1 perdollar made the peso persistentlyovervalued; and

2

Under centralbanking the peso

had depreciatedagainst the dollar

by a factor of about

10,000,000,000,000.

• as a result, Argentina’s exports suf-fered, triggering recession and default.

According to the conventional view, theway to end the recession was to allow thepeso to float. However, Argentines had manyof their bank deposits and loans in dollarsprecisely because they were afraid that float-

ing would result in severe depreciation, so theconventional view advised pesofication.5

The government followed that advice.Argentines have already tasted its bitterfruits, including a rapidly depreciating peso.Knowing why the conventional view was sowrong is essential to a proper diagnosis forending the crisis.6

3

WouldArgentina’s cen-tral bank makefewer mistakesthan the FederalReserve over thelong run?

Table 1Main Economic Indicators for Argentina, 1996–2001

1996 1997 1998 1999 2000 2001

Gross domestic product (bn pesos) 272 292 298 283 284 271Growth of real GDP per person (%) 4.2 6.3 0.8 -6.5 -0.6 -7.0Inflation (consumer prices, %) 0.2 0.5 0.9 -1.2 -0.9 -1.1Inflation (producer prices, %) 3.7 -1.1 -3.3 -4.1 -3.7 -5.6Unemployment rate, October (%) 17.3 13.7 12.4 13.8 14.7 18.3Exports of goods (bn US$) 23.8 26.37 26.44 23.3 26.3 26.7Imports of goods (c.i.f., bn US$) 23.8 30.5 31.4 25.5 25.4 20.3Current account balance (bn US$) -6.9 -12.3 -14.6 -12.0 -8.9 -4.4Monetary base, December (bn pesos) 14.1 15.0 16.4 16.5 15.1 16.9Net foreign reserves, December

(bn US$) 13.5 16.9 20.8 22.8 21.9 14.8Peso bank deposits, December (bn) 25.9 32.4 34.4 33.7 31.9 18.6Dollar bank deposits, December (bn) 28.3 36.9 42.5 47.2 51.9 47.6Average money market rate, pesos (%) 6.23 6.63 6.81 6.99 8.15 24.90Average money market rate, US$ (%) 5.91 6.39 6.55 6.07 7.53 12.76Average lending rate, pesos (%) 10.51 9.24 10.64 11.04 11.09 28.6Average lending rate, US$ (%) 9.12 7.84 8.95 9.07 9.67 17.5Federal tax and nontax revenue

(bn pesos) 47.7 55.4 56.7 58.5 56.6 51.1Fed. spending and revenue sharing

(bn pesos) 52.9 59.6 60.6 65.6 63.2 59.0Total government spending (bn pesos) 83.2 88.9 92.6 96.7 96.0 94.5Gross government debt

(e.o.p., bn US$) 97 101 109 118 128 141a

Country risk premium (e.o.p., %) 4.94 4.61 7.07 5.33 7.73 43.72

Sources: Ministry of Economy, Secretariat of Finance, Undersecretariat of Financing, “Main MacroeconomicIndicators,” www.mecon.gov.ar/download/financiamiento/newinf.xls; Banco Central de la República Argentina,Información Monetaria y Financiera Mensual, www.bcra.gov.ar; International Monetary Fund, InternationalMonetary Statistics; Ministry of Economy, Secretariat of Economic Policy, “Información Económica,”www2.mecon.gov.ar/infoeco/apendice6.xls (total government spending); and J. P. Morgan Emerging MarketsBond Index Plus (country risk premium).Notes: c.i.f. = cost, insurance, and freight; e.o.p. = end of period. Amounts in dollars or pesos are in current units(nominal amounts for the year in question, not adjusted for inflation). Net foreign reserves are for the centralbank. Curiously, there do not seem to be standardized figures for total government revenue.aSeptember.

Errors of the Conventional View“Convertibility” was not an orthodox cur-

rency board. Few commentators on currencyboards have distinguished between orthodox

and unorthodox boards.7 As I have stressedin writings with Steve Hanke dating back to1991, the convertibility system was never anorthodox currency board.8 Rather, it was a

4

Table 2Chronology of Important Economic Events in Argentina since 1999

December 10, 1999 Fernando De la Rúa succeeds Carlos Menem as president. Economy inrecession since September 1998. Country risk premium is 6.10 percentagepoints.

January 1, 2000 Package of increases in tax rates takes effect. Tax revenue will be belowforecast.

December 18 International Monetary Fund lends US$40 billion aid package toArgentina.

March 2001 Economy minister José Luis Machinea resigns March 2. Ricardo LópezMurphy appointed March 4, resigns March 19. Domingo Cavallo appoint-ed March 20, unveils plan March 21 to impose financial transactions taxand increase tariffs.

April 17 Cavallo introduces bill to link peso to euro and dollar (enacted June 25).April 25 De la Rúa replaces BCRA president Pedro Pou with Roque Maccarone.June 3 Debt swap of US$29.5 billion.June 15 Cavallo announces preferential exchange rate for exports (starts June 19).July 11–26 Argentina’s credit rating cut. Country risk rises above 13 percentage points.July 30 Congress passes “zero deficit” law.Aug. 21–Sept. 7 IMF increases Argentina’s US$14 billion stand-by loan to US$22 billion.October 14 Peronist victories in congressional midterm elections.November 1 New measures, including debt swap for most of the US$132 billion public debt.November 30 Offers to take part in local portion of debt swap exceed US$50 billion.

Overnight interest rates in pesos average 689 percent because of fear ofdevaluation. Bank run.

December Cavallo announces restrictions on deposit withdrawals and on transfer offunds abroad December 1 (effective December 3). IMF announcesDecember 5 that it will not disburse US$1.3 billion in aid to Argentina thismonth; country risk premium exceeds 40 percentage points. Central bankimposes high reserve requirements on new deposits December 7 to dis-courage shifts of deposits within the banking system. General strikeDecember 13. Riots and looting. Cavallo resigns December 19. De la Rúaresigns December 20. Three interim presidents (Ramón Puerta, AdolfoRodríguez Saá, and Eduardo Camaño) December 20–January 1. Saádeclares default on foreign debt December 23.

January 1, 2002 Eduardo Duhalde, chosen by congress, sworn in to complete De la Rúa’s term.January 6 Law of Public Emergency and Reform of the Exchange Rate Regime.January 9 Peso devalued to 1.40 per dollar for certain transactions, floated for the rest.

Pesofication of bank deposits at 1.40 peso per dollar (loans at 1.00).February 11 Foreign exchange market fully reopens; peso falls to around 2 per dollar.March 25 Retail selling rate of peso touches 4 per dollar before rebounding.April 22–25 Bank holiday. Economy minister Jorge Remes Lenicov resigns April 23.

Congress passes law reinforcing legal basis of deposit freeze April 25.

Source: Press reports.

currency board–like system, which left thecentral bank (the Banco Central de laRepública Argentina, or BCRA) intact withimportant discretionary powers. An ortho-dox currency board has three major definingfeatures: (1) a fixed exchange rate with ananchor currency, (2) full convertibility intothe anchor currency at that exchange rate,and (3) reserves of 100 percent or slightlymore of its monetary liabilities, held in for-eign assets only. Together, those three fea-tures imply that an orthodox currency boardhas no room for discretion in monetary poli-cy. The convertibility system at times lackedone, two, or all three of those features:

Exchange Rate. The exchange rate of 1 pesoper dollar lasted from April 1991 untilJanuary 2002. However, upon becomingminister of the economy and finance inMarch 2001, Domingo Cavallo announced aplan to convert the exchange rate link fromthe U.S. dollar alone to a basket comprisedhalf of the dollar and half of the euro. Thelaw implementing the plan was passed inJune. Cavallo’s willingness to meddle withthe exchange rate link caused people to ques-tion whether the other features of the con-vertibility system were equally insecure.Interbank interest rates in pesos immediatelydoubled and never returned to their formerlevels for any sustained period.9

Full Convertibility. When the convertibilitysystem was introduced in April 1991, therewere almost no exchange controls, and thosethat did exist were later eliminated. Theexchange rate was a single rate. On June 19,2001, the government began offering a pref-erential exchange rate for exports—a type ofdiscrimination that is contrary to the spiritof an orthodox currency board. OnDecember 1, the government announced afreeze on bank deposits (corralito), whichremains in effect in modified form.10

Reserves. The Convertibility Law, whichestablished the convertibility system, provid-ed that the central bank should hold freelyavailable foreign reserves of at least 100 per-cent of its monetary liabilities but allowedthe central bank to count Argentine govern-

ment bonds payable in foreign currency asup to one-third of those reserves. Thosebonds were not “pure” foreign reserves. Therewas no maximum reserve ratio. Over thecourse of 2001, the central bank’s ratio ofpure foreign reserves to foreign liabilities var-ied from 193 percent on February 23 to 82percent at year-end.11 In an orthodox curren-cy board system, reserves would haveremained near 100 percent continuously.

Alleged Causes of the CrisisOvervaluation. The peso was not persis-

tently overvalued. There are three senses inwhich a currency can be overvalued. In themost precise and easily observed sense, apegged or allegedly fixed exchange rate isovervalued if, at that rate, demand to sell thecurrency exceeds the willingness of the cen-tral bank to buy the currency. To the extentArgentina’s central bank acted like an ortho-dox currency board and held foreign reservesequal to its monetary liabilities, overvalua-tion in this sense could not occur, because apeso was simply a kind of coatroom ticket toa dollar. At times during the life of the con-vertibility system, the central bank held pureforeign reserves (that is, not countingArgentine government bonds) that werebelow 100 percent, but it later reverted toreserves of 100 percent or more except at theend: the ratio fell below 100 percent onNovember 30, 2001, and remained below 100percent until the peso was devalued inJanuary 2002.

Another sense in which a currency can beovervalued is precise in theory but more diffi-cult to determine in practice. In this sense, acurrency is overvalued if it deviates from anideal of “neutral money” and makes prices fallpurely because of a lower than optimal supplyof money and credit, not because of lowerdemand for the goods themselves. By pursu-ing a monetary policy from 1999 until part-way through 2001 that many observersthought was too tight, the U.S. FederalReserve System may have created this kind ofovervaluation of the dollar and, by extension,of the peso. Would Argentina’s central bank

5

The export sectorwas one of thefew bright spotsin the Argentineeconomy.

make fewer mistakes than the Federal Reserveover the long run, though? Abundant experi-ence indicates that it would not.

In the final, loosest sense, a currency issaid to be overvalued if, expressed in a com-mon currency, some measure of prices hasincreased more in one country than anotherover a period. In making such measurements,the period used as the base and the way cal-culations are made are important. Consumerprices in Argentina rose about 30 percentagepoints more than they did in the UnitedStates from March 1991 (just before the con-vertibility system began) to the start of 2001.However, consumer prices in San Franciscoalso rose about 15 percentage points morethan in Honolulu over the same period, yetnobody has proposed that San Franciscoshould issue its own currency and devalue itagainst the dollar. From mid-1992 onward,cumulative inflation in consumer prices wasless in Argentina than in the United States. Asurvey of prices in 58 of the world’s largestcities in 2000 found that for a basket of 111goods and services, weighted by typical con-sumer habits—including three categories ofhouse rent—Buenos Aires ranked 22nd.12

Buenos Aires’s place, in the middle third ofthe cities surveyed, corresponded roughly toestimates of Argentina’s gross domesticproduct per person at the time. TheEconomist’s Big Mac index, which comparesthe prices of McDonald’s hamburgersaround the world, indicated that the pesowas 2 percent undervalued relative to the dol-lar in early 2001.

Producer prices are more relevant thanconsumer prices as indicators of export com-petitiveness. Using March 1991 as the base,cumulative inflation in Argentina minuscumulative inflation in the United Statespeaked at nearly 15 percentage points in mid-1996. It fell below 2 percentage points byFebruary 1999; from December 2000 untilthe end of the convertibility system, it wasnegative, indicating that the peso was under-valued relative to the dollar.13 And althoughmodels estimating equilibrium exchangerates should be viewed with skepticism, a

recent careful study has estimated that from1993 to 1999 (the period for which the studymade calculations), the peso was always with-in 6 percent of its so-called fundamentalequilibrium real exchange rate.14 Finally, theIMF calculated that the so-called multilateralunit labor cost–based real effective exchangerate had been generally falling since 1993,indicating increasing competitiveness.

It has been suggested that foreign financ-ing of the Argentine government’s debt cre-ated a large inflow of capital that pushedprices significantly higher than they other-wise would have been. That may be so, but itdoes not mean the peso was persistently over-valued in either of the two precise senses justdiscussed. The cause of high prices and theappropriate remedies (retrenchment ordefault by the government) were both sepa-rate from the exchange rate. Critics of thepeso’s rigid exchange rate with the dollarmistook high costs and trouble in govern-ment finances for overvaluation.15 The pesois now undervalued by most measures, butArgentina remains a high-cost country forproducing many goods because it lacks anefficient legal system, a tax code that encour-ages enterprise and compliance, flexiblelabor laws, and other institutions that areoutside the sphere of monetary policy.16 Themassive violations of property rights theDuhalde government has made haveincreased those costs.

To say that the peso was not persistentlyovervalued under the convertibility system isnot to say that it is possible to return to theold exchange rate of 1 peso per dollar.Unfortunately, the government’s policieshave destroyed wealth on a large scale andhave started to cause inflation, so the institu-tional framework and the structure of pricesin the economy are every day increasinglyunlike what they were in 2001. Returning tothe old exchange rate would require defla-tion to reverse the current inflation, com-pounding one error with another.

Exports. A strong peso did not crushexports. The convertibility system and otherreforms under president Menem led to exten-

6

The main causeof the crisis was

mishandled gov-ernment finance,

in particular government debt.

sive and often painful changes to Argentina’seconomy as it adapted to greater openness tothe outside world. Imports increased fast,with most imports being used for consump-tion or for services such as upgrading theantiquated telephone system. The patternwas for Argentina to have trade deficits dur-ing economic expansions and trade surplus-es during recessions. Exports of goodsincreased every full year of the convertibilitysystem (1992 to 2001) except 1999, whenBrazil, Argentina’s largest trading partner,suffered a currency crisis. Exports in 2001barely exceeded those in 2000, but that wasbecause the freeze of bank deposits inDecember 2001 killed trade generally. Theexport sector was one of the few bright spotsin the Argentine economy. Claims thatArgentina’s exports fell after 1999 or thatArgentina’s trade deficit increased in the lastfew years are not based on an examination ofthe statistics, which are readily available.(However, since the peso was devalued inJanuary exports have so far been lower thanthey were in 2001.)17

Growth in exports was not limited tocommodities; exports of manufacturedgoods also increased through 2000. Nor doesBrazil’s January 1999 currency devaluationseem to have made Argentine exports perma-nently uncompetitive there. Exports toBrazil, including those of manufacturedgoods, increased in 2000 over 1999.(Statistics for 2001 are not yet available.)Brazil’s devaluation was unfortunate forArgentine exporters, but the experience of afloating peso suggests that devaluing thepeso to remain “competitive” with theBrazilian real in 1999 would have made mat-ters worse for the economy as a whole.

Looking beyond trade in goods to the cur-rent account, which also includes trade inservices, investment income, and transferssuch as workers’ remittances, Argentina haddeficits every year of the convertibility sys-tem. The biggest factor behind the deficitswas interest payments owed to foreigninvestors. Persistent current-account deficitsare not inherently bad, nor do they necessar-

ily indicate an overvalued currency or dangerof a currency crisis, especially for a countrythat has capital-account convertibility (asArgentina did for almost the entire life of theconvertibility system). The United States hashad a current-account deficit every year since1982, with the exception of the recession year1991; it has also had a trade deficit every yearsince 1976.

True Causes of the CrisisMenem’s Debt. As we have seen, the con-

ventional account of the crisis does not with-stand examination. The main cause of thecrisis was not the exchange rate but mishan-dled government finance, in particular gov-ernment debt (not “foreign debt” in general).The problem began during the presidency ofCarlos Menem. After enacting bold and gen-erally beneficial reforms during his first term,Menem wasted most of his second term try-ing to gather support for an unconstitution-al third term. Significant reforms occurred,but Menem avoided tackling the big prob-lems of inflexible labor laws, inefficientmandatory health care organizations, andoverstaffed government bureaucracies.Argentina was fortunate to have Menem dur-ing his first term and a bit of his second term.Despite problems that can be traced to hispresidency, given the performance of his pre-decessors and successors, it is difficult toimagine better performance from otherpoliticians who had realistic chances of beingpresident. Had Menem succeeded in hisquest for a third term, though, democracy inArgentina would have suffered a severe blow.

Under Menem, Argentina suffered theunfavorable external shocks of the East Asiancurrency crisis (which slowed investment inemerging markets generally) and Brazil’s cur-rency devaluation. Also, by some measures,the Federal Reserve System’s monetary policywas too tight from 1999 until sometime in2001. However, it is important to put thoseexternal shocks into perspective. Argentina’strade with Brazil (imports plus exports ofgoods, divided by two) was less than 2.5 per-cent of GDP until the recent devaluation of

7

Internal factorswere far moreimportant thanexternal ones increatingArgentina’s crisis.

the peso, and its total trade in goods has longbeen below 10 percent of GDP. As for theFederal Reserve’s monetary policy, it isdoubtful that Argentina would have donebetter under a floating exchange rate, such asit now has. Internal factors were far moreimportant than external ones in creatingArgentina’s crisis.

Menem bequeathed to President FernandoDe la Rúa a growing government debt. In theearly years of Menem’s presidency, economicgrowth and one-time revenues from privatiza-tion kept the federal budget in or near balance.Starting in 1994, the federal budget was indeficit continuously, even in years of good eco-nomic growth. New debt was added to oldyear after year, and debt plus interest grewmuch faster than the economy. At the end of1994, the federal government’s gross debt wasabout US$70 billion—not far above its level offive years earlier, when Menem became presi-dent. GDP had grown fast and was US$257billion. By the third quarter of 2001, the debtwas twice as large, at US$141 billion, whileGDP was US$271 billion—only 5 percent big-ger than 1994 in nominal terms and smaller inreal terms per person.18

De la Rúa’s Tax Increases. President De laRúa did not create the debt problem, but hisgovernment responded to it incorrectly byenacting three large tax increases. The first,which took effect in January 2000, increasedincome tax rates for people earning morethan 30,000 pesos a year; subjected retire-ment benefits of more than 24,000 pesos ayear to tax; and increased the wealth tax(assets tax), beverage taxes, tax surcharges onautomobiles, and the special tax on tobacco.The so-called Competitiveness Law imposeda financial transactions tax, which becameeffective in early April 2001. The rate was ini-tially set at 0.25 percent and later raised to 0.4percent. In August 2001, the governmentraised the financial transactions tax by decreeto the legal maximum of 0.6 percent, where itremains.19 (The government also cut spend-ing, but attempts by economy ministerRicardo López Murphy to make deep cuts inMarch 2001 resulted in his being forced out

of office after barely two weeks.)The tax increases stifled the recovering

economy. The financial transactions tax hasa much higher rate than is evident at firstglance because it is a “cascading” tax. In otherwords, because the tax is imposed on grossvalue rather than value added at each stage ofproduction, a good can be subject to the taxmultiple times as it moves from productionto sale.20 As the economy continued to shrinkunder a high tax burden, the governmenthad increasing difficulty funding its debt,because potential lenders were afraid of aneventual default.

Cavallo’s Meddling with the Peso. Despiteproblems with government debt, the pesoand the banking system remained quite soliduntil March 2001, when Domingo Cavallowas appointed minister of economy andfinance. Cavallo had previously expressed theopinion that the peso should eventuallyfloat, and he apparently viewed changing theanchor for the peso from the dollar to a bas-ket of half euros and half dollars as a step inthat direction. Interbank interest rates inpesos immediately doubled. A slow “silentrun” on banks began as depositors who dis-trusted the government withdrew theirfunds. In another bad sign for the long-termstability of the peso, Pedro Pou, the indepen-dent-minded president of the central bankwho preferred dollarization to devaluation,was ousted on a pretext in favor of the morepliable Roque Maccarone in April.

By June 2001 the original convertibilitysystem was definitively finished. Congressapproved changing the exchange rate link ifand when the euro ever appreciated to 1 perdollar. More important, Cavallo announceda preferential exchange rate for exports—adual exchange rate. This was contrary to theintent of both the original convertibility sys-tem and an orthodox currency board.Cavallo’s measures showed that the govern-ment was quite willing to tamper with theconvertibility system. In previous episodeswhen confidence in the peso had declined,the government had responded, sometimesafter an agonizing delay, by reaffirming the

8

The peso and thebanking systemremained quite

solid until March2001, when

Domingo Cavallowas appointed

minister of econ-omy and finance.

link to the dollar and the commitment to asingle exchange rate. By removing those cor-nerstones of the convertibility system,Cavallo left the edifice shaky.

The freeze on bank deposits imposed onDecember 1, in response to large withdrawalson November 30, was the final blow.Argentines remembered how high inflationduring similar freezes in 1982 (engineered byCavallo) and 1989 had robbed them of thereal value of their savings. Cavallo and De laRúa resigned in the face of widespreadprotests.

Duhalde’s Destruction of Property Rights. Theinterregnum of three presidents between De laRúa and Duhalde was notable mainly for thedefault on the foreign debt declared by then-president Adolfo Rodríguez Saá on December23, 2001. Default was by then inevitable, giventhe disorganization of the government.However, the government could still havequarantined its own financial problems fromthe rest of the economy.21 Instead, presidentDuhalde chose a course of contamination. Hischief idea in economic policy has been to expelthe dollar from the financial system. The Lawof Public Emergency and Reform of theExchange Rate Regime, passed on January 6,2002, and the measures the government hassince announced have amounted to massivedestruction of property rights.22 The measuresinclude the following:

• Devaluation of the peso to 1.40 perdollar and later a floating exchangerate.

• Forced pesofication of dollar bankdeposits at 1.40 pesos per dollar andof dollar loans at 1 peso per dollar.

• Forced pesofication of contracts indollars at 1 peso per dollar.

• Seizure of the dollar reserves ofbanks.

• Exchange controls (restrictions onbuying dollars and other foreigncurrencies).

• New taxes and regulations, intro-duced in uncoordinated fashionand revised daily.

In addition, president Duhalde and hisfirst minister of economy, Jorge RemesLenicov, sought but failed to obtain the sup-port of Argentina’s congress for a forced con-version of many bank deposits into govern-ment bonds. Remes Lenicov resigned onApril 23 after it became clear that the con-gress would not pass the bill, at least not in itsoriginal form and not yet.

Despite the government’s attempt toeliminate the dollar, dollars are more highlysought and the peso’s exchange rate with thedollar is today the focus of more attentionthan at any time since early 1991, before theconvertibility system was established.

A wave of defaults or liquidity problems atsome of Argentina’s largest companies beganin March. Among the companies affectedhave been the utilities Metrogas, TelecomArgentina, Aguas Argentinas, and the banksBanco Galicia and Scotiabank Quilmes. Theresult will be the official or unofficial rena-tionalization of utilities, the financial system,and perhaps other sectors of the economy.The Duhalde government’s policies arereturning Argentina to the failed economicmodel that caused so much trouble in the1980s and had to be jettisoned between 1989and 1991. What is needed now is to reestab-lish private property rights and protect themfrom a government that has little apprecia-tion of their importance for creating and pre-serving wealth.

Ending the Crisis:Dollarization

The most pressing problems Argentinaneeds to solve to restore economic growth con-cern its currency, its financial system, and its taxsystem. Because nobody trusts the currency orthe fiscal system, people are not doing the buy-ing, selling, saving, and investing necessary togenerate growth and jobs. Because the tax sys-tem is complex and has high rates, it discour-ages honest effort and encourages evasion.There are many other aspects of the economythat need reform also, but the currency, finan-

9

The measures thegovernment hassince announcedhave amountedto massivedestruction ofproperty rights.

cial system, and tax system are the most urgent.The reforms proposed here are a package thatwould be most beneficial if implementedtogether, but many of the individual recom-mendations are independent from others andwould be beneficial on their own. I do not claimto have addressed all the details; there is muchwork that could usefully be done by researchersfamiliar with, say, the pension system or theadministration of tax collection. Changing cir-cumstances may change how the policies I pro-pose are implemented. However, I think that tobe most beneficial for Argentina, any plan ofreform needs to include the main elements thispaper describes.

Let us begin with the currency. The con-vertibility system, though imperfect, was a sta-bilizing force in Argentina’s economy. Therapid depreciation of the peso under a floatingexchange rate is the most visible sign of lack ofconfidence in the economy and the govern-ment. The peso has depreciated from 1 perdollar at the start of 2002 to about 3.70 perdollar as of early June. Dollarization—official-ly replacing the peso with the dollar—is thequickest and most effective step the govern-ment can take to restore confidence in theeconomy. Money is the most widely held formof property in society, and dollarization willstart to reverse the destruction of private prop-erty rights that has been so disastrous toArgentina.

As of April 19, the last business day beforea bank holiday was declared, Argentina’s cen-tral bank had monetary liabilities (the “nar-row” monetary base) of 20.4 billion pesos, ofwhich 14.0 billion pesos were notes and coinsin circulation. In addition, as discussed later,there were outstanding 2 billion pesos ofnational bonds and an estimated 2.9 billionpesos of provincial government bonds thatare intended to circulate like notes. Addingthem to the monetary liabilities of the centralbank yields an “expanded” monetary base of25.3 billion pesos. Bank deposits were 74.2billion pesos.23

How many dollars does Argentina haveand how many does it need to “support”these amounts? Table 3 lists some statistics

useful in thinking about this question. Notethat the weekly central bank balance sheet isfrom April 15. The central bank issues infor-mation about some individual items of itsbalance sheet daily. Other items in the tableare from April 19.

How Many Dollars Does Argentina Have?It has been claimed that Argentina lacks

the dollars to dollarize.24 At some exchangerate, though, there are always enough dollarsfor a monetary system to dollarize, evenwhen confidence is initially low.

The central bank stated that it hadUS$12.3 billion in foreign reserves as of April19. Are the central bank’s numbers reliable?When challenged by Steve Hanke on thispoint in a letter of January 17 to the FinancialTimes, the IMF’s chief press officer respondedon February 1 by changing the subject andnot saying whether the central bank’s figureswere reliable or unreliable.25

The central bank has seized the dollarsformerly deposited with it by commercialbanks or held in their vaults.26 Almost all dol-lars in the financial system are now owned bythe central bank. Commercial bank depositsof foreign currency at the central bank wereUS$15 million (47 million pesos) on April 19;those deposits peaked at US$6.6 billion onJanuary 14.

The public has long held a considerableamount of dollar notes. A U.S. Treasuryreport of January 2000 estimated thatArgentines hold US$25 billion of dollarnotes—almost US$700 per person. That ismore per person than Americans themselveshold, if estimates are correct that most dollarnotes are held outside the United States. TheArgentine economist Eduardo Levy Yeyatihas suggested that holdings of dollar notesare much lower, perhaps US$7 billion.27 Evenif he is correct, at the current rate of exchangethe value of dollar notes held by Argentinesfar exceeds bank reserves, which averaged12.8 billion pesos in March.28 In addition todollar notes, the public holds foreign assets,which it might repatriate (though only inlimited amounts at first).

10

The Duhalde gov-ernment’s poli-

cies are returningArgentina to thefailed economic

model thatcaused so much

trouble in the1980s.

11

How Many Dollars Does Argentina Need?The amount of dollar reserves necessary

to support dollarization depends on theexchange rate the government chooses,which is discussed below. It also depends onthe particular form of dollarizationArgentina establishes. Under the convertibil-ity system, roughly two-thirds of the centralbank’s dollar reserves were held against pesonotes and coins in circulation, and onlyabout one-third was held against depositsthat commercial banks use to settle theirclearings. A dollarized system has two poten-tial means of economizing on the actual useof dollars (Federal Reserve–issued notes,coins, and deposits) without endangering itsfixed exchange rate to the dollar. One is toallow commercial banks to issue their owndollar-denominated notes. Such notes, likedollar-denominated bank deposits, would beredeemable in Federal Reserve–issued dol-lars, but if the public had sufficient confi-dence in them, actual redemptions would besmall. This idea, which has many historicalprecedents, is discussed in detail later.

The other way a dollarized system caneconomize on the actual use of dollars is toavoid imposing reserve requirements oncommercial banks. Banks hold a certainamount of reserves so they can pay theirdebts in a timely manner when they owemore than they are owed by others.Requiring them to hold more reserves thanthey need imposes a cost on them andincreases the amount of dollar reservesrequired for dollarization. This point too isdiscussed in detail later. A corollary point isthat deposits of commercial banks at the cen-tral bank, which are part of the monetarybase, need not be converted into dollars, tothe extent they are imposed as a tax on bankactivity and are not actually accessible tobanks. From an economic viewpoint, suchreserves could simply be extinguished. UnderArgentina’s current circumstances, however,it would be wise to convert into dollars allbank reserves that are in the form of depositsat the central bank.

Peso bank deposits need not be exchanged

for dollar reserves. The belief that they mustbe is the source of the idea that dollarizationwould require the government to have tens ofbillions of dollars in reserves on hand.29 I amaware of no currency stabilization planinvolving a truly fixed exchange rate, whetherdollarization or a currency board, that hasneeded huge sums for such an exchange.Later sections discuss further what can bedone about bank deposits.

Determining the Exchange Rate forDollarization

Determining the appropriate exchangerate for dollarization involves the followingsteps.

1. Determine What Liabilities Need to BeRedeemed with Dollar Reserves. The expandedpeso monetary base, 25.3 billion pesos as ofApril 19, seems an appropriate maximumestimate.

2. Assess the Financial Position of the CentralBank and the Government. As we have seen, thecentral bank says it has US$12.3 billion inforeign reserves. If all its reserves are notfreely available, that information should bedisclosed to the public. The central bankshould publish a detailed description of itsdollar reserves, indicating what amountshave been invested for which securities or indeposits at which banks located where. Thegovernment also has the possibility of bor-rowing money from the IMF to support dol-larization, although that should not be nec-essary. As is discussed later, the IMF wouldquite probably lend money to support dol-larization. Should it require tax increases orimpose other conditions that would beharmful, however, Argentina should refusethe loan.

3a. (Ordinary Procedure) Announce ThatDollarization Will Occur and Allow the Peso toFloat Cleanly for no More Than One Week. Atruly clean float implies removing controlson buying and selling foreign currencies,though it does not imply unfreezing bankdeposits. To set an appropriate fixedexchange rate at which to convert peso pricesto dollar prices, the best indicator to use is

12

Money is themost widely heldform of property

in society.

the market rate that will evolve once peopleknow that the value of the peso will soon befixed and that the dollar will then replace thepeso. Demand for pesos may well increase, inwhich case the exchange rate will appreciate.The government should not try to manipu-late the exchange rate to achieve any particu-lar level; it should let market participantsdetermine the level. Manipulating theexchange rate is costly. A highly overvaluedexchange rate will price exports out of worldmarkets and may create a recession, while ahighly undervalued exchange rate will makeimports expensive and prolong inflation.The exchange rate should float for apreestablished period not to exceed oneweek. The float should be “clean,” that is, thecentral bank should not try to influence theexchange rate.

Many people think of the foreign reservesnecessary for dollarization as a problem ofstocks and think therefore that the exchangerate should be determined mechanically. So,if the central bank has US$10 billion in for-eign reserves and the monetary base is 30 bil-lion pesos, the exchange rate should be 3pesos per dollar (or 5 pesos per dollar if onethinks “coverage” is needed for 20 billionpesos of bank deposits in addition to 30 bil-lion pesos of the monetary base). But deter-mining the exchange rate is not a matter ofworking backward from the stock of foreignreserves to some measure of the supply ofmoney and credit; it is a matter of discover-ing the market rate that equilibrates flows.Before dollarization, the flows will beexchanges between pesos and dollars in theforeign-exchange market; after dollarization,the flows will be exchanges between bankdeposits and the dollar monetary base. Thestocks are not so important in themselves;what matters for the exchange rate is theiradjustment over time.30 Depending on cir-cumstances, the market rate may evaluate thelocal currency as more valuable or less valu-able than the mechanical calculation. (Thetendency is for the market rate to evaluatethe local currency as more valuable than themechanical calculation does, because curren-

cy stabilization increases demand to holdlocal-currency assets, changing flows in theforeign-exchange market.) Comprehensionof this point is one of the tests that distin-guish people who understand dollarizationwell from those who do not.

Exchange controls on the use of the pesoin foreign-exchange markets should be abol-ished when dollarization is announced. Alater section discusses limits on withdrawalsof bank deposits.

All the steps from 3b to the end should besimultaneous, or nearly so.

3b. (Panic Procedure) Remove ExchangeControls, but Omit the Period of Floating andProceed Immediately to Step 4. The political andeconomic situation may be so bad that theexchange rate must be fixed immediately,without recourse to a short period of floatingto learn from the market. The tendency of gov-ernments in this situation, which requiresuneducated guesses, is to establish a highlydepreciated rate so as to have a large margin oferror. My opinion is that, should the govern-ment fix an exchange rate immediately, itshould not fix a rate more depreciated thanthe market rate. As of mid-April, the marketrate was roughly 3 pesos per dollar. Were thegovernment to establish a fixed rate today, Iwould recommend a rate of 2 pesos per dollar,understand why the government mightchoose 2.50 or 3 pesos per dollar, but considera rate of 4 pesos per dollar undervalued.However, a number of Argentines with whomI discussed this point think the rate wouldhave to be considerably higher than the cur-rent market rate to equilibrate the large out-flow of deposits they expect would follow ifthe deposit freeze were quickly removed.31

4. At the End of the Period of Floating (If ThereHas Been One), Declare a Fixed Exchange Rate withthe Dollar and Announce That, EffectiveImmediately, the Dollar Is Legal Tender. If therehas been a period of floating, the fixed rateshould be somewhere within the range of mar-ket rates during the period, particularlytoward the end of the period. Setting exchangerates is an art rather than a science, and thereis no mechanical formula for making the tran-

13

Almost all dollarsin the financialsystem are nowowned by the cen-tral bank.

sition from a floating rate to an appropriatefixed rate. If there is doubt about the appro-priate rate, it is better to err on the side of anapparent slight undervaluation rather than anovervaluation compared with recent marketrates, so as not to cause a slowdown in eco-nomic growth. Experience indicates that aneconomy will quickly adjust to an exchangerate that is approximately right. Again, a largedeliberate overvaluation or undervaluation isundesirable because it will require unnecessar-ily large economic adjustments.32

The central bank will then be required toexchange the peso liabilities determined instep 1 for suitable dollar assets—someFederal Reserve notes and coins, but proba-bly U.S. Treasury securities for the most part.The dollar will be declared “domestic” cur-rency, with all the legal rights belonging todomestic currency.

4.5. Reconvert Deposits Originally in Dollarsinto Their Original Amounts in Dollars. Depositsthat were originally in dollars but have beenpesofied should be reconverted into theiroriginal dollar amounts, if they are still in thebanking system. (Some deposits have leakedout of the system despite the freeze becausetheir owners have won lawsuits enablingthem to withdraw them.) A later sectionexplains why this controversial idea would bebeneficial and feasible. This step will notapply if the government has made a forcedconversion of time deposits into long-termgovernment bonds. Such a conversion wouldchange a problem of bank finance, com-pounded by government meddling, into aproblem of government finance.

5. Announce That, Effective Immediately, AllPeso Assets and Liabilities (Such as Bank Depositsand Bank Loans) Are Dollar Assets and Liabilitiesat the Fixed Exchange Rate; Announce aTransition Period of No More Than 30 Days forReplacing Quotations of Wages and Prices in LocalCurrency with Quotations in Dollars. After theperiod of floating has ended and theexchange rate has been fixed, bank depositsin pesos will become deposits in dollars,while bank loans in pesos will become loansin dollars. Banks will charge no commission

fees for the conversion. During the transition period, wages can

continue to be quoted optionally in pesos sothat employers and banks have time to mod-ify their bookkeeping and computer systems.Prices can also continue to be quoted option-ally in pesos during the transition period, soas to spare merchants the trouble of repric-ing the goods on their shelves. After the tran-sition period, wages and prices will cease tobe quoted in pesos.

There will be a number of problems withcontracts that were originally priced in dol-lars and pesofied, or that have recently beenmade in pesos with the expectation that thepeso would continue to depreciate.Argentina has solved similar problems in pre-vious currency stabilizations, and these aretopics perhaps better addressed by lawyersthan by economists.

6. Freeze the Central Bank’s Total Liabilitiesand Dollarize the Liabilities Determined in Step 1.Once the central bank starts redeeming thepeso monetary base for dollars, commercialbanks should not be allowed to charge com-mission fees for converting pesos into dol-lars. Commercial banks will probably want toconvert their peso reserves into dollar assetsimmediately, and that can be done, butexchanging the peso notes and coins in cir-culation for dollars will be slower. The centralbank or the government should continue toaccept peso notes and coins for a set period,say one year, though the bulk of exchangeswill be made in the first 30 days. After 90 dayspeso notes should cease to be legal tender forhand-to-hand payments, and after one yearthe central bank should cease to be requiredto redeem them. Depending on the particu-lars of the next step, coins may remain in cir-culation, never to be redeemed.

7. Decide What to Do about Coins. Given suf-ficient time, arrangements can be made tohave a supply of U.S. coins on hand to replacepeso coins when dollarization occurs. If dol-larization is begun hastily, though, the sup-ply of U.S. coins may be insufficient.Moreover, the fixed exchange rate may not beone for which coins have a convenient whole-

14

There is nomechanical for-

mula for makingthe transition

from a floatingrate to an appro-priate fixed rate.

number relationship to the dollar. If so,coins, and only coins, can be devalued orrevalued to a nearby whole-number equiva-lent that makes them decimal divisions ofthe dollar. Because coins are only a small por-tion of the monetary base, the overall effectswill be small and the importance of this stepwill be correspondingly low.

In the dollarized systems of Panama,Ecuador, and El Salvador, the government orthe agency that is called the central bank con-tinues to issue coins. In Argentina, the wisestcourse is to deny the government or the cen-tral bank any role in issuing new coins. Coinsstill in the vault of the central bank may beissued, but no new coins should be minted.Argentina should use U.S. coins or privatelyissued coins, such as a syndicate of banksmay decide to issue in common.

Converting Peso Interest Rates into DollarsInterest rates in dollars will be much lower

than rates in pesos. Argentina has experiencewith converting interest rates in a high-infla-tion currency to rates in a low-inflation cur-rency (desagio). Ecuador’s conversion schemewhen it dollarized in 2000 was in fact inspiredby similar experiences in Argentina. Conver-sion could be accomplished by establishingreference rates in pesos and dollars, then con-verting peso interest rates into dollar ratesaround a reference rate and preserving theirposition relative to the reference rate accord-ing to a factor of multiplication. For example,if the reference rate in pesos is 50 percent andthe reference rate in dollars is 10 percent, aloan of 55 percent in pesos (1.1 times the pesoreference rate) will become a loan of 11 per-cent in dollars (1.1 times the dollar referencerate). A loan of 40 percent in pesos (0.8 timesthe dollar reference rate) will become a loan of8 percent in dollars (0.8 times the dollar refer-ence rate). Obviously, the choice of referencerates is important, and the governmentshould choose rates of the same type andmaturity in both currencies (for example, theseven-day interbank interest rate in both pesosand dollars). If a local rate in dollars is notavailable or is distorted by special factors, an

international market rate, such as LIBOR (theLondon Interbank Offered Rate), should bechosen and a suitable premium should beadded to it.

Former dollar loans that were pesofiedhave their principal indexed according to theCoeficiente de Estabilización de Referencia(CER), which is intended to offer some pro-tection from inflation for lenders.33 The logi-cal procedure for such loans would be to con-vert the principal, adjusted by the CER, intodollars at the uniform exchange rate thatapplies to all assets and liabilities. The appli-cation of the CER is still a subject of intensedebate. The CER may be changed extensivelyby the time a monetary reform happens, sodiscussing it at length here is not worthwhile.

What If Additional Dollar Reserves AreNecessary?

To repeat, the exchange rate and its role indollarization should be thought of in termsof flows, not stocks. It is possible that afterthe brief period of clean floating recom-mended above, the market exchange rate ofthe peso will be such that dollar reserves areless than the liabilities to be converted intodollar reserves. To cover the shortfall, thegovernment has a number of options. One isto sell domestic assets in the portfolio of thecentral bank. Mechanical calculations thatderive the exchange rate by dividing somemeasure of the money supply by the centralbank’s foreign reserves assume that the cen-tral bank’s domestic assets are worthless.

Another way of obtaining dollar reservesis to borrow them from the IMF or anotherofficial foreign source. (Presumably, the gov-ernment will not be able to borrow from theprivate sector at least until it renegotiates itsdebt.) Another is to reduce the amount ofpeso liabilities converted into dollar reserves,for example by accepting peso notes in pay-ment of taxes and not redeeming them at thecentral bank. Still another option is to con-vert some of the peso liabilities into govern-ment bonds, although, given Argentina’s his-torical experience, such bonds would not bewidely desired.

15

The exchangerate and its rolein dollarizationshould bethought of interms of flows,not stocks.

Liquidating the Financial Assets andLiabilities of the Central Bank

Without a national currency, there is nogood reason to keep the Banco Central de laRepública Argentina in its present form. Thecentral bank should be made to liquidate allits financial assets and liabilities. Thedeposits of financial institutions at the cen-tral bank can be returned to the owners or, atthe owners’ request, transferred to anotherbank. The other financial assets of the centralbank can be transferred to accounts at otherfinancial institutions—the government-owned Banco de la Nación Argentina, pri-vately owned banks within Argentina, orbanks abroad.

To discourage future governments fromreintroducing the peso, the central bank’spower to issue currency should be repealed. TheAppendix to this paper suggests a legal formu-lation for this and some of the proposals in thispaper related to the issuance of currency.

In the dollarized system of Ecuador, theBanco Central del Ecuador has persistedbecause the constitution mandates its exis-tence, and passing a constitutional amend-ment to abolish the central bank would bedifficult. Argentina’s central bank exists onlyby statute law, not by constitutional law, soinstitutional reform should be easier than inEcuador. The whole central bank shouldreceive the name of the part of the organiza-tion within it that deals with financial super-vision, the Superintendencia de EntidadesFinancieras y Cambiarias (Superintendencyof Financial Institutions and ExchangeBureaus). The successor organization cancontinue to gather statistics and ensure com-pliance with prudential regulations such asminimum capital requirements. It can con-tinue to occupy its fine building in the heartof Buenos Aires (its main nonfinancial asset).However, it would cease to make monetarypolicy. It would be like the Superintendencyof Banks in the dollarized system of Panama.

A Short Reply to Objections toDollarization

Under the convertibility system, advocates

of a floating peso could contrast the very realimperfections of convertibility with theimagined perfection of floating. NowArgentina is learning that floating does notwork in reality as it does on a classroomblackboard. There are many objections from“blackboard economics” that can be madeagainst dollarization. In a previous paper,written before the peso was floated, SteveHanke and I answered some of them.34 Now,it suffices simply to answer the objectionswith two questions: If dollarization would beso bad, why do so many Argentines want dol-lars? If the peso is so good, why do people useit only under compulsion? Advocates of dol-larization do not claim that it would be a per-fect monetary system or that it would resolveall nonmonetary problems, only that itwould work better than floating now doesand that it would make solutions to some ofthe nonmonetary problems easier.

Opinion polls have consistently shownthat a majority of Argentines do not wantdollarization, but what people do is morerevealing than what they say. It is clear thatArgentines want dollars; witness the linesthat form every day outside foreign-exchangebureaus. Most Argentines would like theircountry to have a stable, government-issuedlocal currency, but Argentina’s experienceindicates that that is highly unlikely to occur.Appeals to “monetary sovereignty” as a justi-fication for perpetuating central banking aremisplaced, because sovereignty properlyresides in the people and not the govern-ment. The people should be free to choosewhat currency they use, and the governmentshould have no “right” to impose a currencyof inferior quality on the people.35

Dollarization would permit Argentines toswitch to another currency if they wished.Should the dollar become unstable, orshould it simply be less suitable for financeand trade than the euro, the Brazilian real, oranother currency, no law would compel con-tinued use of the dollar. Hence, unlike thecurrent system, dollarization would allow apeaceful exit into another currency if thatwere what Argentines wanted.

16

Without a national currency,

there is no goodreason to keep

the Banco Centralde la República

Argentina.

The Destruction and Reconstruction of the

Financial SystemBanks are not to blame for the deposit

freeze that has made the public so angry. Thefreeze was imposed by the De la Rúa govern-ment and persists because the Duhalde gov-ernment has made further blunders in mon-etary policy. Banks have been victims alongwith depositors. However, bankers main-tained a cowardly silence while the govern-ment trampled on the rights of depositors.They thought silence would preserve them,but the government’s policies have madethem so weak that their survival is now inquestion.

Despite the deposit freeze that began inDecember, funds had been leaking out of thebanking system, such as judges have orderedbanks to pay individual depositors who hadchallenged the freeze in lawsuits. On April19, Scotiabank Quilmes, Argentina’s 11thlargest bank in terms of deposits, haltedmost operations; under Argentine law, it has30 days to receive fresh cash from its parentin Canada or close. Banco de Galicia yBuenos Aires, the fifth largest bank in termsof deposits and the second largest in terms ofloans, is trying to reorganize.

In response to those problems, the gov-ernment developed a “Plan Bonos” (BondPlan) similar to the Bonex Plan of December1989. The government sought approval ofthe Argentine congress for the plan duringthe week of April 22, but the congress has sofar refused to approve the plan. Still, the planis worth describing in some detail becausepresident Duhalde may try to implement aversion of it by decree. The plan would forceholders of deposits that were in dollars as ofFebruary 3, and holders of time deposits inpesos, to exchange their deposits for govern-ment bonds. Holders of time deposits inpesos would receive bonds whose principalwould be adjusted according to the CER; theinterest rate would be 3 percent a year, paidquarterly starting February 3, 2002; and the

principal supposedly would be repaid in 16quarterly installments starting May 3, 2003,and ending May 3, 2007. Holders of dollardeposits would have 30 days to choose pesobonds or dollar bonds. For the peso bonds,dollars would be pesofied at 1.40 pesos perdollar. For the dollar bonds, the principalwould be the original dollar value ofdeposits; the interest rate would be 2 percenta year, paid half-yearly starting August 3,2002; and the principal supposedly would berepaid in eight annual installments startingFebruary 3, 2005, and ending February 3,2012. Bonds presumably would be more liq-uid than frozen bank deposits because peo-ple would be able to buy and sell them.Bonds issued under the original Bonex Planpaid no interest for two years, and at onepoint were worth only 18 percent of their facevalue, but depositors who held the bonds tomaturity (10 years) received full principalplus interest. Bonds issued under the newplan would have less chance of being paid infull because government debt is much largerthan it was in 1989; the proposed bondsmight trade at perhaps 15 percent of facevalue initially.

Time deposits in pesos have already beenforcibly rescheduled at 7 percent interest andare not included in the new plan.36 However,under Plan Bonos, holders of demanddeposits, which are all now in pesos, wouldhave the option of using the deposits to buya bond in dollars at 1.40 pesos per dollar; theinterest rate would be LIBOR plus 1 percent,starting November 30, 2002; and the bondswould be paid off in installments startingMay 31, 2004, and ending in 2005.

If implemented, Plan Bonos wouldchange the financial system fundamentally,by shrinking private (nongovernment) bankdeposits, which were about 61 billion pesosbefore devaluation, to about 30 billionpesos—at current exchange rates, roughlyUS$10 billion. Banks would acquire the newbonds by exchanging other types of govern-ment bonds they already hold. The effectwould be to make banks more liquid, thegovernment more indebted, and depositors

17

If dollarizationwould be so bad,why do so manyArgentines wantdollars?

poorer, at least in the short term. The bank-ing system would return to what it was in1990: a largely government-owned sectorused for transacting some kinds of pay-ments, with little role in collecting savings ormaking investments. Were Plan Bonosimplemented, the best things a future gov-ernment could do to restore in some measurethe property rights of depositors would be togive them priority over certain other bond-holders (particularly foreign bondholders)and to accelerate repayment of the bonds tothe extent economic growth permitted.

What Still Might BeEven at this late date, it would still be pos-

sible to restore a great deal of confidence in thefinancial system if the government wouldreverse its blunders. The biggest steps it couldtake to restore confidence would be to dollar-ize, ensuring that the depreciation of the pesowould cease, and to help depositors of dollarsreceive the full value of their deposits withmore chance of success and sooner thanunder Plan Bonos. Those steps would signalthat the government had begun to reverse itsmassive destruction of property rights.

Every Argentine I have spoken with hasemphasized the depth of public anger at thebanks and said that bank depositors will with-draw the majority of their funds, if permitted.I am much more optimistic that the bankingsystem need not continue shrinking.Ecuadorians were almost as angry at theirbanks after the government imposed a freezeon deposits in March 1999. (Unlike theArgentine government, though, the govern-ment of Ecuador did not forcibly convert dol-lar deposits and loans into local currency, anddollar loans were not as common as they werein Argentina.) Most banks were insolvent, andthe government had taken control of abouttwo-thirds of the banking system. Even so,after it became clear in early 2000 that the gov-ernment would indeed dollarize, bankdeposits began to increase and continued todo so.37 Like the question of determining theexchange rate for dollarization, the questionof reconstructing the financial system is large-

ly a matter of flows. I believe that in Argentinaconfidence can return despite the trauma ofrecent events. Banks will, however, have toabsorb some short-term costs to reverse theirvery bad public image.

I have proposed that pesofication bereversed for former dollar deposits still in thebanking system. Under current arrange-ments, banks would not be able to sustainlarge withdrawals of deposits immediatelywithout some type of external help—from theparent offices of foreign banks, from theIMF, or from financial markets—that is high-ly unlikely to be forthcoming. To address theproblem, I recommend three measures. Thefirst two, discussed in more detail later, are toallow banks to issue dollar-denominatednotes (paper money) and to allow a phasedcontinuation of the present bank depositfreeze but with incentives for banks to end it.

The third measure is to recover fromdebtors some of the benefit they haveenjoyed from pesofication. Even if banks donot lose deposits, they will be weak for a longtime if they cannot somehow increase theirassets to cover the increase in liabilities thatwould result from reversing pesofication. It isappropriate to ask debtors to give up some ofthe windfall gains they received from pesofi-cation, given that those gains were a violationof property rights and that a growing econo-my will increase the capacity for repayment. Isuggest that the nominal amounts of pay-ments remain as they are now but that thematurity of loans be increased by a factorhaving some proportion to the windfall gainthe depreciation of the peso has caused.Determining the particular proportion isboth an economic and a political matter. Ifthe deterioration of the economy continues,at some point recouping some of the wind-fall gains from debtors and restoring theoriginal dollar values of pesofied depositswill become highly unlikely.

The government’s destruction of propertyrights has reduced bank assets to such anextent that any realistic plan for deposits mustinclude some diminution of their presentvalue, whether by inflation or by delayed pay-

18

If the peso is sogood, why do people use it

only under compulsion?

ment. (In principle, it would be feasible toallow immediate withdrawal of deposits with-out inflation if Argentina could obtain a bigloan or guarantee to cover the outflow, but noloan will be forthcoming.) One idea that hascirculated is to end restrictions on with-drawals by printing money to whatever extentis necessary to supply people who converttheir deposits into peso notes. That path leadsto hyperinflation. Depositors would benefitfar more by waiting a while for their moneyand then receiving more in real value thanthey would in the hyperinflationary scenario.

Allow or Even Encourage“Offshorization”

Some legal protection is necessary toensure that Argentina has a banking systemthat is used to accumulate savings, not just tomake payments that cannot be made in cash.As some Argentine economists38 have pro-posed since last year, bank deposits could belegally domiciled outside Argentina to pre-serve them from seizure by a future govern-ment, yet holders of those deposits could begiven full access to the Argentine payment sys-tem without additional cost (because nothingin the current system would change except thelegal domicile of deposits as recorded forbook-entry purposes). Depositors might bepermitted recourse to the Argentine legal sys-tem to settle certain kinds of disputes. Forbank loans, “offshorization” would be moredifficult, since many loans are made againstcollateral that is held in Argentina. Banksmight be reluctant to have large mismatchesbetween offshore deposits held by Argentinesand onshore loans. Bankers and lawyers arebetter suited than economists to provide adetailed solution here, but economists can atleast emphasize how offshorization couldhelp in reconstructing the financial system.

Allow Solvent Banks toIssue Notes

Argentina has large potential bankreserves, but they are outside banks. As

reserves, banks use the monetary base. Underdollarization, the monetary base would con-sist of notes and other monetary liabilitiesissued by the U.S. Federal Reserve System. Ashas been mentioned, the U.S. Treasury esti-mates that Argentines hold US$25 billion indollar notes issued by the Federal Reserve—far more than the dollar value of the pesomonetary base. In a dollarized system, thosenotes would constitute reserves if held insidebanks. There is ample room for banks to gainincreased reserves, if they can persuade thepublic to move its holdings of the monetarybase from outside banks to inside banks.

A powerful way of moving the monetarybase from outside banks to inside themwould be to allow solvent banks to issue theirown notes (paper money) denominated indollars.39 The notes should be liabilities of apart of the bank outside Argentina, so as tobe in effect “offshore” and not readily subjectto seizure as onshore deposits were.40 At thedemand of people holding bank-issued dol-lar notes, the notes would be payable in notesissued by the U.S. Federal Reserve or in someother external asset acceptable to personsredeeming notes. (Most demands forredemption would in fact be not from indi-viduals but from other banks, which wouldexchange notes through the clearing systemjust as they now exchange checks and elec-tronic transfers. As in the case of deposits,redemptions by other banks would be thefactor tending to ensure that banks did notoverissue notes.) People would always havethe option of continuing to use dollar notesissued by the U.S. Federal Reserve.Competitive note issue by banks has a longhistory and is known to economists as “freebanking.”

Allowing Banks to Issue Notes WouldImprove Bank Liquidity

If the public were unwilling to acceptbank-issued notes, banks would be in noworse condition than they are now. But tothe extent that the public was willing toaccept bank-issued notes in exchange forFederal Reserve–issued notes, banks would

19

Banks have beenvictims alongwith depositors.

increase their supply of reserves on hand.Bank-issued notes would also reduce banks’demand for reserves. In a monetary systemthat uses the dollar but in which banks arenot allowed to issue notes, when depositorswish to exchange deposits for notes, banksmust give them Federal Reserve notes. Bankscall these reserves vault cash. When a deposi-tor wishes to convert a $100 deposit into$100 of notes, his bank loses $100 of reserves.If the depositor were willing to accept bank-issued notes, converting deposits into noteswould not result in any loss of reserves, anymore than switching funds from a checkingaccount to a certificate of deposit within thesame bank results in a loss of reserves.

Banks would accumulate Federal Reserve–issued notes when people came to depositthem. Banks would put their own notes intocirculation by paying out their own notesinstead of Federal Reserve notes when deposi-tors wished to convert deposits into notes.Again, depositors would always have theoption of demanding Federal Reserve notesrather than bank-issued notes if they desired.If there were sufficient confidence in bank-issued notes, gradually the supply of FederalReserve notes would be replaced by bank-issued dollar notes.

The seigniorage (profit) that the Argentinegovernment could earn from noninflationaryissues of notes was shrinking as notes in circu-lation declined; it was on the order of US$400million a year toward the end of the convert-ibility system.41 Under a system of note issue bybanks, that profit would accrue to commercialbanks rather than to the government.Ultimately, the profits from issuing noteswould tend to be competed away and passedalong to customers in the form of lower costs orbetter services. The great advantage of dollar-ization under free banking, in contrast to con-ventional dollarization, is that the seigniorage,or its equivalent in benefits to consumers,would accrue to banks and consumers inArgentina, not to the Federal Reserve. (Torepeat, the U.S. Treasury has expressed opposi-tion to the idea of sharing with other countriesthe seigniorage from Federal Reserve notes.)

Bank-Issued Notes Are Nothing NewAllowing banks to issue their own notes

might seem far-fetched or at least novel, butit is neither. Many financial firms alreadyissue paper traveler’s checks, which resemblecurrency although they cannot pass fromhand to hand without having to be endorsed.Before the 20th century, commercial banksissued their own notes in most financiallyadvanced countries—nearly 60 countries inall. Multiple brands of notes did not confusepeople any more than multiple brands oftraveler’s checks, credit cards, or bankdeposits now do. Governments took overnote issuance from commercial banks notbecause the private sector was doing a badjob but because governments wanted theprofits for themselves. The record of privateissuance of notes was generally good. 42 Insome countries bank failures caused losses tonote holders, but the losses were small com-pared with the losses inflicted by the centralbanks that later took over note issuance.

In the 1880s Argentina was one of thecountries that had note issuance by commer-cial banks. Argentina had a rather unhappyexperience because it made a number of mis-takes. One was that bank notes wereredeemable in government-issued pesos, adepreciated currency with no fixed link toanything, rather than in an internationalunit such as gold or the pound sterling.Another mistake was that, as a condition forissuing notes, banks were required to holdspecified Argentine government bonds. Tobuy the bonds, banks had to pay in gold. Thegovernment did not use the gold to reestab-lish a linked rate with gold for its own notesbut to pay its foreign debt (which wasdenominated in gold or gold-linked curren-cies). Unreliable government-issued currencywas the shaky foundation of the financialsystem of the era. The government’s defaulton its foreign debt in 1890 triggered a cur-rency and banking crisis.43 The governmentresponded by ending note issuance by banksand establishing the Caja de Conversión in1891. In 1902 the Caja began to operate as acurrency board, and continued to do so, pro-

20

Bank depositscould be legally

domiciled outsideArgentina to

preserve themfrom seizure

by a futuregovernment.

viding Argentina with one of its few periodsof monetary stability, until World War Ibroke out in 1914.

The United States was another countrywhere restrictions on banks gave note issuanceby banks an undeserved bad reputation. U.S.banks were prohibited from establishingbranches across state lines or in most caseseven within states. As a result, the banking sys-tem consisted of thousands of small and oftenweak banks, rather than the small number oflarger, stronger banks that existed in Canadaand other countries that did not restrictbranch banking. Thousands of banks meantthousands of varieties of bank note brandsand greater proportional losses to note hold-ers from bank failures than occurred inCanada. In addition, before the Civil Warbanks chartered by states were often requiredto back the dollar notes they issued with low-quality bonds issued by the states. That was aformula for problems with banking and cur-rency quality. Countries that did not make theregulatory mistakes that Argentina and theUnited States did had much happier experi-ences with free banking.44

Would the Public Accept Bank-Issued Notes?The incentive for banks to issue notes is

apparent: supplying notes to the publicchanges from being a cost, as it is now, to asource of profits. What incentive would thepublic have to use bank-issued notes?

Commercial banks are not protected bysovereign immunity as are the central banksof Argentina and other countries, so, unlikethe case with the peso, if a commercial bankbroke its promise to redeem one of its dollarsfor a U.S. dollar, the holder of the commer-cial bank note could sue the bank in thecountry where the notes were issued (which,as has been suggested, should be outsideArgentina). In addition, competition wouldinduce banks to maintain their redemptionpledge. After all, if people thought there wasa possibility that a bank might not fulfill itsredemption pledge, they would switch toanother brand of dollar-denominated banknotes. Consequently, incentives in the mar-

ket and legal system would make the qualityof the redemption pledge strong.

Dollar-denominated notes issued by bankscould offer three features that could makethem more attractive to the public thanFederal Reserve notes. One would be a higher-quality supply. Federal Reserve notes in circu-lation in Argentina are often quite worn, andsmall denominations are scarce. The secondfeature bank-issued notes could offer wouldbe design characteristics, such as Spanishwords and local symbols, that would appeal toArgentines more readily than the design fea-tures of Federal Reserve notes. The third fea-ture bank-issued notes could offer would be arebate or lottery payment feature. Banks couldoffer cash back to merchants who agreed toaccept and pay out their notes, much as creditcard companies offer inducements for mer-chants to accept their credit cards. Competi-tion tends to pass along the rebates from mer-chants to customers in the form of lowerprices. The idea of a lottery payment, whichhas been suggested but never put into prac-tice, is that bank notes would be like perma-nent lottery tickets. Now and then, bankswould announce that whoever held a notewith a winning serial number, drawn at ran-dom, would receive a special payment.45 Thelottery payment feature would be a kind ofsubstitute for payment of interest on notes,since a note issuer does not know how long aparticular person has held a note.

Banks would put their notes into circula-tion by paying them out to customersthrough automatic teller machines and overthe counter. Historically, the public has read-ily accepted the notes of high-quality banksin free banking systems. In Scotland, whichformerly had a free banking system, the Bankof Scotland, Clydesdale Bank, and the RoyalBank of Scotland still issue notes alongsidethe Bank of England, the central bank. InNorthern Ireland, the (privately owned) Bankof Ireland, First Trust Bank, the NorthernBank, and the Ulster Bank issue notes along-side Bank of England notes. Customersaccept bank-issued notes and rarely demandthat the banks pay them Bank of England

21

Governmentstook over noteissuance fromcommercialbanks notbecause the pri-vate sector wasdoing a bad jobbut because gov-ernments wantedthe profits forthemselves.

notes instead. In Hong Kong, HSBC (theHong Kong and Shanghai BankingCorporation), the Standard Chartered Bank,and the Bank of China issue separate brandsof notes as the agents for the Hong KongMonetary Authority.46

Banks might decide to issue individualbrands of coins, presumably of similarweight and size as existing coins, or theymight decide to form a syndicate to issue asingle brand of coins for all members. Aswith notes, there are many historical prece-dents for private issuance of coins. U.S. coinswould be legal tender and would circulate ifbanks did not wish to issue coins or ifenough people preferred U.S. coins to bank-issued coins.

No Constitutional Obstacles Unlike the case in some other countries,

nothing in Argentina’s constitution stipulatesthat it must have a central bank or a national-ly issued currency. In fact, because the consti-tution has roots in the 19th century, whennote issue by multiple banks was widespreadaround the world, the constitution contem-plates the possibility of multiple issuers.

Article 75 of the constitution deals withthe powers of the Argentine congress.Paragraph 6 gives the congress the power to“establecer y reglamentar un banco federalcon facultad de emitir moneda, así comootros bancos nacionales” (establish and regu-late both a federal bank with the ability toissue money, and other national [that is, fed-erally chartered] banks). However, the consti-tution explicitly contemplates the possibilityof multiple note issuers in article 126, whichstates that “las provincias . . . no pueden . . .acuñar moneda; ni establecer bancos con fac-ultades de emitir billetes, sin autorización delCongreso Federal” (provinces may not coinmoney or establish note-issuing banks with-out the authorization of the FederalCongress). By implication, the federal gov-ernment may itself authorize banks to issuenotes, or it may authorize the provinces tocharter private or government-owned banksthat issue notes.

Paragraph 11 of article 75 gives the congressthe power to “hacer sellar moneda, fijar su valory el de las extranjeras” (have money coined, fixits value and that of foreign monies). Noticethat the constitution leaves open the possibilitythat the congress may decide not to havemoney coined for the government.

Argentina’s Law on Financial Institutionsdoes not mention note issuance as a permit-ted power of commercial banks or otherfinancial institutions. The Organic Law ofthe Central Bank gives the central bankpower to issue notes but does not state thatthe power is a monopoly. It may be possibleto give commercial banks the freedom toissue notes through administrative decisions,without changing any existing laws. As wasmentioned above, though, it would be desir-able to eliminate any potential role for thecentral bank as an issuer of currency, whichwould require amending the Organic Law ofthe Central Bank.47

Other Issues Related tothe Financial System

Remove Interest-Rate Ceilings andLiquidity Requirements

On November 26, 2001, the central bankbegan setting a weekly reference rate for interestrates paid on bank deposits. Banks were heavilypenalized for offering rates more than 1 percentabove the reference rate. Bank deposits payinterest rates in single digits or low double dig-its, limited by decrees and regulations. Marketlevels for peso loans, evident in the interbankmarket, are 100 percent a year or more. Underdollarization, nominal rates of interest wouldfall substantially from their current market lev-els, and there would be no reason for interest-rate ceilings. The government should removethe ceilings as soon as it has chosen theexchange rate for dollarization.

Minimum reserve requirements for banks(technically called liquidity requirements) arecurrently up to 15 percent for the most wide-ly held types of deposits. There is also a 75percent requirement against new deposits

22

Historically, thepublic has readily

accepted thenotes of high-

quality banks infree banking

systems.

first imposed on December 7, 2001, to dis-courage customers from shifting depositsamong banks.48 Under the convertibility sys-tem, requiring banks to hold extensivereserves was part of a regulatory strategy ofkeeping their assets (with the notable excep-tion of credit to the government) highly liq-uid as a protection against volatility in finan-cial markets. Most of the volatility, however,has been the result of potential or actual cur-rency crises and the damage they cause to theeconomy. Dollarization would eliminate thepeso as a source of currency crises. The gov-ernment could immediately reduce mini-mum reserve requirements to the official U.S.level of 10 percent or even to the zero percentlevel of Panama’s dollarized system.49

Reducing reserve requirements would enablebanks to lend more to Argentine businessesand individuals, helping to generate econom-ic growth.

Capital requirements should be retained,because they have a clear connection to thesecurity of deposits; they are not taxesimposed to benefit the government or banks.If the system becomes heavily “offshorized,” assuggested earlier, the various kinds of bankingregulation that now exist in Argentina will losetheir practical importance.

Unfreeze Bank DepositsBank deposits peaked in February 2001 at

the equivalent of almost US$90 billion (90billion pesos). Uncertainty about the futureof the peso and fear of a deposit freeze likethose of 1982 and 1989 led to a steadydecline in deposits from March onward. OnFriday, November 30, deposits fell 2.1 billionpesos (almost 3 percent) in a day. In response,on December 1 the De la Rúa governmentimposed restrictions on withdrawing moneyfrom the banking system and on transferringfunds out of Argentina. The regulationsbecame effective on December 3 and remainin effect in modified form. Cash withdrawalsfrom bank deposits are limited to 1,200pesos a month. Transfers of funds out of thecountry are subject to the approval of thecentral bank.50

Plan Bonos would have completed theseizure of depositors’ wealth by convertingwhat were once secure private obligations ofdeterminate value into government bonds ofinitially low and fluctuating value that mightnever be paid. The remaining deposits wouldhave been of sufficiently little value thatunfreezing them immediately would havebeen feasible despite the continuing lack ofconfidence in banks. At an exchange rate of 3pesos per dollar, the central bank would havehad dollar reserves sufficient to finance anoutflow into dollars of all deposits remainingafter implementation of Plan Bonos.

To repeat, Plan Bonos would have trans-formed a problem of bank finance into a problemof government finance. If deposits remain a prob-lem of bank finance, I propose that the govern-ment-imposed deposit freeze end the day officialdollarization begins but that banks be given theoption to delay withdrawals in phases for up tothree years. Depositors would be allowed to with-draw up to 25 percent of their deposits by the endof the first year, another 25 percent by the end ofthe second year, and the remaining 50 percent bythe end of the third year. Banks that were afraid oflarge losses of reserves would be allowed to decideindividually whether to retain restrictions ondeposit withdrawals. The price they would berequired to pay to depositors would be an inter-est-rate premium specified by law—for example, 2percentage points a year more than the rate theypay for new one-year dollar deposits. Payment ofthe premium would cease when a bank unfrozeall its deposits. For the future, banks might wishto include a similar “option clause” in their con-tracts with depositors allowing them to suspendconversion into the monetary base, in return forwhich they would pay a penalty rate of interest. Afew free banking systems have had option claus-es, and, although rarely used, they provided sol-vent but illiquid banks with a way to buy time inwhich to become more liquid.51

Cease Issuance of Government IOUsThat Circulate like Notes

When provincial governments in Argentinahave lacked funds to pay their employees, theyhave often issued IOUs that circulate like curren-

23

Nothing inArgentina’s con-stitution stipu-lates that it musthave a centralbank or a nation-ally issued cur-rency.

cy, sometimes at face value, sometimes at a dis-count. The most important notes of the 22provinces that now issue IOUs are Patacones(officially, Bonos de Cancelación de Obligacionesde la Provincia de Buenos Aires). They are issuedby the province of Buenos Aires, the most popu-lous and economically important province.52 Toconsolidate the provincial IOUs, the governmenthas issued Letras de Cancelación de ObligacionesProvinciales (Lecops). An agreement ofNovember 15 between the federal governmentand the provinces about revenue sharing allowedthe federal government to pay money it currentlyowes the provinces and 40 percent of future fed-eral government revenue sharing in Lecops. Theprovinces are allowed to use Lecops to pay theiremployees. Currently, there are 2 billion pesos ofLecops in circulation, 1.6 billion pesos ofPatacones, almost 1.3 billion pesos of otherprovincial government IOUs, and a few millionpesos of municipal IOUs, making a total of 4.9billion pesos.53 The IOUs circulate at as much as96 percent of face value (for Patacones) to report-edly as little as 20 percent (for the Federales issuedby the relatively small province of Entre Rios).There are also electronic counterparts to theIOUs within the banking system, so deposits inIOUs are credited in IOUs, or in pesos at a dis-count to face value.

Government IOUs that circulate asmoney have to a limited extent been useful inreplacing credit that has evaporated as theeconomy has shrunk and the governmenthas disrupted property rights. In manyprovinces they reportedly constitute the bulkof currency in day-to-day use. However, bypromoting economic growth, the measuressuggested here will reduce the budgetary jus-tification for issuing IOUs that circulate likecurrency. They will also promote a revival ofcredit, though, as has been mentioned, reviv-ing investment in Argentina may be muchmore difficult than reviving saving.

Sell Government-Owned BanksThe government has just proposed merg-

ing all government-owned banks into one bigbank, to be called the Banco FederalNacional. Apparently the government thinks

that putting all the rotten eggs in one bigbasket would be better than having them indifferent baskets. The federal banks includedin the merger would be the Banco de la NaciónArgentina (Banco Nación), Argentina’s largestbank, and the Banco de Inversión y ComercioExtranjero, a small investment bank. Provin-cial and local governments would be invited,though not required, to merge the 11 banksthey own. The most significant are the Bancode la Provincia de Buenos Aires, owned by thegovernment of Buenos Aires province, andthe Banco de la Cuidad de Buenos Aires,owned by the autonomous municipal gov-ernment of Buenos Aires. In combination,government-owned banks had about one-third of all bank assets, liabilities, anddeposits at the end of 2001.54

Since it was established in 1891, BancoNación has been entangled so closely in gov-ernment finances that it has often beenimpossible to draw the line between the bankand the government. The same has been trueof the other government-owned banks. Allgovernment-owned banks should be priva-tized. Today’s government-owned banks arethe survivors of a larger group that onceexisted, most of which failed or were takenover when the tequila crisis of 1995 exposedtheir accumulated years of bad management.Research on provincial banks that were pri-vatized in the 1990s indicates that theyreduced their bad loans, lowered theiradministrative costs, and reduced politicallymotivated loans to public enterprises.55

Evidence from other countries also indicatesthat, as a recent World Bank study says,“Authorities in developing countries general-ly need to reduce their ownership role” inbanks.56

Another reason for privatizing govern-ment-owned banks is that, if banks areallowed to issue notes, as proposed here, thespecial status of the proposed Banco FederalNacional as a government-owned bank couldmake it a vehicle for reestablishing centralbanking. Argentina has had enough prob-lems with central banking and there is noneed to return to them.

24

All government-owned banks

should be privatized.

Expected Effects of Financial ReformsDollarization and the reforms to the

financial system proposed here would stimu-late economic growth in the following ways:

• Eliminating the peso would eliminatecurrency risk.

• Allowing or encouraging “offshoriza-tion” would insulate depositors fromfuture seizures of deposits by theArgentine government.

• Allowing banks to issue dollar-denomi-nated notes would help them increasetheir supply of reserves on hand by “cap-turing” some of the Federal Reservenotes now held by Argentines andreplacing them with bank-issued notes.

• Allowing banks to issue dollar-denominat-ed notes would reduce banks’ demand forreserves by reducing their need for FederalReserve notes as vault cash.

• Eliminating reserve requirementswould allow onshore banks to extendmore credit on the basis of a givenamount of reserves, if they thought itprudent.

• Total savings (deposits plus bank noteissue) captured by local and offshorebanks should rise, though investmentwill take longer to recover.

Government Finance

Currency Stabilization Precedes RatherThan Follows a Balanced Budget

According to the conventional view,Argentina’s crisis began with an overvaluedpeso. The conventional view has paid almostno attention to Argentina’s high tax ratesand the drag they impose on economicgrowth. A correct view of the crisis mustplace tax rates squarely at the center. The taxincreases of January 2000, April 2001, andAugust 2001 added to an already high taxburden and discouraged economic recovery.Dollarization can provide a quick return ofconfidence in the economy and give a short-term boost to economic growth, but without

much lower tax rates, Argentina will beunable to achieve good long-term growth.

Having misdiagnosed what caused the cri-sis, the conventional view now misdiagnoseshow to end it. The IMF has stressed that thefederal and provincial governments mustreduce their budget deficits before the IMFwill lend money to stabilize the peso. InArgentina’s current circumstances, though,currency stabilization is the mother ratherthan the daughter of a balanced budget. Realtax revenue has fallen because the unstablepeso and the freeze on bank deposits impedetrade. The currency must first be stabilized ifthe economy is to revive and generate thehigher tax revenues necessary to eliminatethe budget deficit. Argentina’s recent experi-ence has been that cutting spending is not byitself sufficient to balance the budget, andraising tax rates from their already high levelsactually reduces tax revenue.

Maintaining budgetary discipline has been apersistent problem for Argentina, no matterwhat type of exchange rate it has had. Noexchange rate system in itself guarantees budg-etary discipline, and I know of no prominentadvocate of dollarization who has claimed thatdollarization would do so.57 Dollarizationwould simply improve the chances of disci-pline. A formal debt rule would be desirable,but dollarization plus the inability of the feder-al and provincial governments to borrow ininternational markets for some years to comewill provide an informal rule.

Federal-Provincial RelationsBudgetary relations between the federal

government and provincial governments arecomplex, not because of the economicsinvolved, but because of the politics.Historically, provincial governments thathave encountered financial trouble haveappealed to the federal government to rescuethem with federal funds rather than fix theirproblems themselves. They have been able todo so because presidents have generally need-ed the political support of federal governorsand the governors’ allies in the congress.

Federal-provincial relations have been a

25

The conventionalview has paidalmost no attention toArgentina’s hightax rates and thedrag they imposeon economicgrowth.

matter of great concern to the IMF and theGroup of Seven nations, which have urgedthe federal government to enforce greaterfinancial discipline on the provinces. Theirconcern is amply justified under Argentina’scurrent monetary policy. Under dollariza-tion, though, the problem would diminish. Ifthe federal government could not printmoney to fund the provinces, both it andthey would be subject to greater budgetarydiscipline (though, to repeat, no monetarysystem can guarantee budgetary discipline).Provincial governments would have moreincentive to solve their own financial prob-lems, as is the case with states and munici-palities in the United States.

Another way of improving the incentivefor provinces to solve their own financialproblems would be to change the nature offederal revenue-sharing, or coparticipation,funds. The federal government could contin-ue to collect taxes for the provinces but shareless of that revenue in the general pool andinstead grant provinces some power toimpose surcharges. The federal governmentwould distribute to each province the rev-enue raised by that province’s surcharges.Efficient provincial governments wouldimpose lower surcharges and be more popu-lar with voters; inefficient governmentswould impose higher surcharges and risk los-ing power to opposition politicians promis-ing lower spending and lower surcharges.58

Domestic and Foreign DebtOn December 23, 2001, then-president

Adolfo Rodríguez Saá announced that thegovernment would default on its foreign debt.Internationally, the effect of the default hasso far not hurt other emerging markets.

Plan Bonos would have reduced thedomestic debt the government stuffed intobanks by, in effect, forcing it on depositors.Banks would have become financiallystronger while the government and deposi-tors would have become weaker. Whether ornot something like Plan Bonos is adopted, itremains important for the government topay its domestic debt. What the government

would “save” from a default on the domesticdebt, the Argentine economy as a wholewould lose. Domestic creditors of the gov-ernment should continue to receive priorityover foreign creditors until the economystarts growing again and the foreign debt hasbeen renegotiated. Unlike foreign creditors,many domestic creditors have been forced tohold government debt by regulations orinformal pressure by the Argentine govern-ment. Foreign creditors knew they were mak-ing a risky investment by buying Argentinegovernment debt. The IMF should continueits recent and commendable policy of notbailing out foreign creditors.

A growing economy offers the best chancefor holders of government debt, whether for-eign or domestic, to recoup their losses. Itwould be in their self-interest to support thepolicies suggested in this paper.

Cut Tax Rates DrasticallyTable 4 shows the rates for the major feder-

al and provincial taxes. Adding up the mainfederal taxes that apply to individuals makesapparent how heavy a burden they are for citi-zens who actually pay them, and helps explainwhy tax evasion is widespread. A comparisonwith the United States is instructive. U.S. statesales taxes range from zero to 9 percent (thereis no federal sales tax); the top rate on federalincome tax is 39.6 percent (state rates rangefrom zero to 11 percent); the rates for SocialSecurity and Medicare taxes total 15.3 percentof wages; and there are no export taxes orfinancial transactions tax.

As has been mentioned, the De la Rúa gov-ernment imposed large tax increases that tookeffect in January 2000, April 2001, and August2001. Toward the end of 2001 tax revenue fellsharply, especially in December, when thefreeze on bank deposits began. The Duhaldegovernment has proposed, announced, thenin some cases modified new taxes. It is repeat-ing the mistake of the De la Rúa govern-ment.59 Argentina needs to move toward fewerand simpler taxes, not more and highly com-plex taxes. The government seems to have con-fused tax rates with tax revenues.60 Although

26

Without muchlower tax rates,

Argentina will beunable to achieve

good long-termgrowth.

the analogy is not exact, it may help to think ofgovernment as “selling” its services for a“price” that is taxation. A higher price does notalways result in higher revenues. Past a certainpoint, the number of buyers drops faster than

the price rises, so revenue in fact falls. Thesolution for a seller who wants to increase hisrevenue is to reduce his prices.

Argentina’s experience with higher tax ratesyielding lower tax revenues strongly suggests

27

Table 4Major Taxes in Argentina in 2001

Tax Rate(s) Revenue Remarks(%) (bn pesos)

Federal

Social security taxes 32.9 8.0 Employees pay 11%, including 5% (down from11% before November 2001) to private pensionfunds; employers pay 21.9%. Ends at 57,600pesos.

Value-added tax 21 15.4 Main rate 21%; special rates of 10.5% and 27%.Income tax 9–35 10.1 Corporate rate is 35 percent; individual rates

are 9–5 percent, with top rate starting at120,000 pesos.

Fuel taxes ~50–60 3.4 Rates vary, and were rejiggered in 2001.Financial transactions tax 0.6 2.9 Imposed in April 2001 at 0.25%, increased in

August. Paid on both bank credits and debits.Excise taxes Various 0.5 Part of revenue shared with provinces.Tariffs 0–35 1.7 Raised on many items March 2001.All other taxes Various 3.5 Includes personal assets tax of 0.5–0.75% start-

ing at assets of 102,300 pesos and presumptiveminimum tax of 1% starting at assets of300,000 pesos. Export taxes imposed in 2002.

Total 45.5 (In addition, 4.0 billion pesos were collected andpaid into workers’ private pension accounts.)

Provincial and Local

Tax on gross sales 1.0–4.9 4.4 Averages 3%; many exemptions.Property tax Various 1.4Motor vehicle tax Various 0.7 A common rate is 3%.Stamp taxes 1 0.6 Most common rate is 1%.All other revenue Various 0.8Total of these taxes 7.8 Revenue for January–September 2001.

Sources: Administración Federal de Ingresos Públicos, www.afip.gov.ar/sistema/sistema.asp, www.afip.gov.ar/estadisticas/serie2001.htm; Fundación Invertir Argentina, www.invertir.com/taxation.html; Ministry of Economy,Secretariat of Finance, Undersecretariat of Financing, “Main Macroeconomic Indicators,” www.mecon.gov.ar/download/financiamiento/newinf.xls; and Ministry of Economy, Secretaría de Hacienda, Boletín Fiscal and“Recursos Tributarios Provinciales,” www.mecon.gov.ar/coord-pcias/anexo_presupuestario/ anexo4.htm,www.mecon.gov.ar/hacienda.

Notes: Revenue amounts are rounded and may not add up to totals. Capital gains tax for individuals and gift andestate taxes are zero, but real estate sales are subject to a 1.5 percent transfer tax. The provincial governmentsreceive more than half their revenue from federal revenue sharing. Whereas Table 1 lists tax and nontax revenue,this table lists only tax revenue.

28

The IMF shouldcontinue its

recent and com-mendable policy

of not bailing outforeign creditors.

that tax rates are too high, and that the way toincrease revenues is to reduce rates. For at leastsome taxes, Argentina seems to be on the wrongside of the Laffer curve.61 High tax rates reducerevenues in two ways: by reducing the amountproduced of the good being taxed by those whopay the tax, and by increasing the incentive toevade the tax for people who do not pay it. It hasbeen estimated that Argentines evade the value-added tax, the government’s biggest generatorof revenue, in 40 percent of transactions.62

Lower tax rates would improve the long-term growth prospects of the Argentine econ-omy. Lowering tax rates is a calculated risk,but raising tax rates has not worked well, sopersisting with high tax rates is at least as risky.

The Duhalde government has expressed adesire to reduce tax rates, but so far it has notactually cut any rates. It can encourage sustainedeconomic growth by making a commitment tocutting tax rates consistently for a number ofyears (potentially through 2007, if PresidentDuhalde is still in office by next year and is reelect-ed). A good model to imitate is Ireland, which hascut the rates on one or more of its importanttaxes almost every year since 1987.63

The government needs to begin with animmediate, dramatic tax reduction, whichshould include the following components:

•Cut the value-added tax from the currentmain rate of 21 percent to 15 percent.Eliminate the special rate of 27 percent.

• Combine the payroll tax (for socialsecurity and medical care) and theincome tax into a flat-rate tax of 25 per-cent with no exemptions. (A flat-ratepersonal income tax of a sort alreadyexists, but it applies only to nonresi-dents and the rate is 35 percent.)

• Eliminate the financial transactionstax (though if the banking system issubstantially “offshorized,” the tax willnot apply to offshore transactions any-way).

• Eliminate the presumptive minimumtax, the personal assets tax, and recent-ly imposed export taxes on agriculturalgoods.

• Eliminate all changes to the tax codesince August 1, 2001, that haveimposed new taxes or made the tax sys-tem more complex.

• Combine lower and simpler taxes withgreater enforcement.

Further reductions would be desirablelater. At present, tax rates are so high thatthey encourage massive evasion. Reducingtax rates now and continuing to reduce themin the future can significantly broaden thebase of taxpayers. Over the next five years, thegovernment should aim to reduce the value-added tax to 10 percent and the proposedflat tax to 20 percent.

It is instructive to compare the experienceof Argentina with that of Ecuador over the lastfew years. Argentina’s tax revenue has beenfalling, while Ecuador’s tax revenue fromsources other than oil has increased from theequivalent of US$1.5 billion in 1999, the lastyear before dollarization, to US$2.4 billion in2001 and an expected $3 billion or so in 2002.In the first three months of 2002, federal taxrevenues fell 16 percent in Argentina com-pared with the same period a year before; inEcuador, nonoil tax revenues rose more than35 percent.64 Part of the increase in Ecuador’snonoil tax revenue reflects prices catching upto world levels after falling far behind in 1999.The increase remains impressive even so, for ithas consistently exceeded forecasts. Theunderlying cause of the difference is thatEcuador’s economy has been growing whileArgentina’s has been shrinking. Argentina’snominal tax revenues will soon begin rising,but it will be mainly because they are expressedin depreciating pesos; expressed in dollars, rev-enues are likely to continue shrinking.

Government SpendingAlthough there are government functions

that are notoriously overstaffed (the bureauc-racy of the congress, the top ranks of the mili-tary) or inefficient (universities), it has provedpolitically difficult to reduce their spending.The government should focus on increasingrevenue rather than on cutting spending. An

29

inefficient government in a growing economyis more tolerable than a highly efficient gov-ernment in a shrinking economy. Real govern-ment spending can be restrained by notincreasing the wages of government employ-ees as fast as inflation. If inflation is 50 percentor more this year, as private-sector forecastsproject, the reduction in real governmentspending from retaining existing nominal lev-els of spending will be considerable. For thefuture, one idea for making salary costs moreflexible would be to index the wages of gov-ernment employees to those of private-sectoremployees or to tax collections.65

It has been suggested that governmentspending should be the motor of economicgrowth, in the manner suggested by JohnMaynard Keynes during the depression ofthe 1930s. Without entering into an involveddiscussion of Keynes’s ideas, it suffices tonote that they were proposed for conditionsof deflation. Argentina today has begunagain to experience conditions of inflation. Itis clear that under current conditions moregovernment spending will lead to higherinflation but not higher growth—a combina-tion familiar to Argentines from the 1980s.

Establish a More Transparent FiscalFramework

In addition to reducing tax rates and elimi-nating some taxes, the government shouldintroduce a new fiscal framework based onsound, transparent accounting. The govern-ment should produce an annual balance sheetand income statement, using a full accrual basis(which is more complete than the cash basis thegovernment now uses) and applying generallyaccepted accounting principles. The balancesheet and the income statement should beaudited by private accounting firms. This typeof fiscal framework was introduced in NewZealand starting in 1989; among other things,it has discouraged corruption and promotedhonesty in government finances.66

Remember Who Was RightFinally, the government should entrust the

implementation of major reforms to persons

who were correct in their analysis of the eventsleading to the present situation: those whowarned against floating the peso, protestedthe freeze of bank deposits, decried the gov-ernment’s massive destruction of propertyrights, and emphasized the need for reducingtax rates. The implementation of Ecuador’sdollarization and other reforms of 2000 washindered by the presence of officials in thecentral bank and ministry of economy whowere known as strong opponents of dollariza-tion. Argentina should not make the samemistake. There is a small but capable group ofeconomists, lawyers, financiers, and other per-sons in Argentina who should be willing tohelp politicians smart enough to ask them.

Conclusion

Argentina and the IMFArgentina’s negotiations with the IMF

have so far resulted in no new loans, in partbecause the IMF thinks there is no “quickfix” for Argentina, as its managing director,Horst Köhler, has claimed.67 In reality, thereis a quick fix, at least for the currency prob-lem: dollarization. It could be done immedi-ately, and it would establish a truly fixedexchange rate before eliminating pesos fromcirculation.

Ecuador in January 2000 was also in themidst of a depression, with a currency nobodytrusted and a banking system far worse man-aged than that of Argentina. In desperation,on January 9, president Jamil Mahuadannounced dollarization, which had been pro-posed for months by a number of prominentlocal economists and businesspeople, as wellas by myself and a few other foreigners.68 Thenext day the Ecuadorean sucre stabilized atthe announced rate of 25,000 per U.S. dollarand remained there until sucres were eliminat-ed from circulation. The interbank interestrate tumbled from 200 percent on January 7to 20 percent by January 11. Money beganflowing back into the banks, the economystarted growing, and tax revenue rose. Thosetrends continue today.

The governmentseems to haveconfused taxrates with tax revenues.

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Summary of Recommendations

Currency (for immediate action)• Officially dollarize.

• Retire from circulation all notes of the Banco Central de la República Argentina (BCRA) andall deposits at the BCRA; replace them with dollar assets.

• Allow coins in circulation or already minted to continue, but require new dollar-denominatedcoins to be issued by the U.S. Federal Reserve System or by banks.

• Reform the central bank to strip it of all monetary policy functions.

• Allow banks to issue notes (paper money) denominated in dollars .

• Convert peso interest rates into dollars.

Financial system (for action immediately or soon)• Allow or even encourage “offshorization” of the banking system.

• To the extent possible, reverse the damage from pesofication of deposits.

• Modify the deposit freeze to allow banks that wish to pay deposits to do so. Unfreeze alldeposits within three years and make banks pay a penalty rate of interest on frozen deposits inthe meantime.

• Remove minimum liquidity requirements immediately.

• Remove interest-rate ceilings immediately.

• Sell government-owned banks.

Government finance (for action immediately or soon)• Reduce tax rates. It is possible that lower tax rates will quickly result in higher tax revenues. In

the short term, cut the value-added tax to 15 percent; combine the payroll and income taxesinto a flat-rate tax of 25 percent with no exemptions; abolish the financial transaction tax, pre-sumptive minimum tax, and personal assets tax. In the longer term, reduce the value-added taxto 10 percent and reduce the personal and corporate income taxes to 20 percent.

• Introduce a transparent fiscal framework for the federal and provincial governments, includingpublished balance sheets and income statements using an accrual basis (not the current cashbasis); annual audits by outside firms; and adherence to generally accepted accounting princi-ples.

• Make the provinces more responsible for their own tax revenues.

• Give priority to repaying domestic debt; repayment of foreign debt will have to wait until theeconomy begins growing again.

Expected results• Lower interest rates.

• Rising bank liabilities (deposits, bank notes, etc.) and loans.

• More seigniorage (profit from issuing notes) retained by financial system.

• A return to economic growth, though sustaining growth will require continued effort.

31

Where was the IMF? Until the day beforedollarization was announced, a key IMF offi-cial concerned with Ecuador, with whom Ihad a brief private correspondence, was criti-cal of dollarization, even though every type ofcentral banking measure had been tried andhad failed. Although one or two members ofthe IMF staff (not working on Ecuador) hadsome knowledge of dollarization, the IMF asan institution did not. That state of affairscontinues today.

After president Mahuad announced dol-larization, the IMF quickly declared its sup-port. The same would likely happen inArgentina. However, Argentina must be care-ful about accepting conditions that the IMFmight wish to attach to loans. In Ecuador,the IMF pushed for an increase in the value-added tax from 12 percent to 15 percent. Thegovernment negotiated the rate down to 14percent, but fortunately for Ecuador’s tax-payers, the Constitutional Court declared theincrease unconstitutional. The value-addedtax has remained at 12 percent, and thanksto economic growth, revenue from it hasexceeded projections. In addition to lackingan understanding of dollarization, the IMFas an institution lacks an appreciation of theLaffer curve. Argentina could implement theideas outlined here with or without IMFassistance. Proceeding without the IMFwould be better than accepting new loanstied to further tax increases or other condi-tions that would harm the economy.

Toward the FutureArgentines know that the peso does not

work well and that its depreciation is thebiggest single problem they face today.Dollarization is the essential first step forreestablishing private property rights andreviving the economy. Dollarization will pro-vide a first positive jolt. It must be followedquickly with reforms to the financial systemand taxes (see the accompanying box for asummary of proposals). Beyond that, thereare many other steps Argentina could take tomake its economy more efficient and moreflexible so it grows faster.69 Labor laws are

notoriously inflexible. The health care sys-tem, dominated by monopolistic providers,is a mess. Most provincial governments arepoorly run. Delivery of government servicesis in general poor. Corruption is still exten-sive. Tax collection is weak. The legal systemis unreliable. All those things are well-knownand have been subjects of numerous studiesand recommendations. The problem is hav-ing the political willpower to make reformsand the determination to follow through.

Appendix: A ModelDollarization Statute

This model law suggests the main featuresdesirable for a law on dollarization. An actu-al statute may need to be somewhat differentto comply with legal technicalities.

* * *

In accord with article 75 of the constitu-tion, this “Law on Dollarization” is enacted.

1. The Argentine peso is hereby eliminat-ed as a unit of account and replaced bythe United States dollar at a rate of ___pesos = 1 dollar. Notes, coins, and othermonetary liabilities of the FederalReserve System of the United Statesshall be legal tender in Argentina.

2. All assets, liabilities, and prices denomi-nated in pesos are hereby redenominat-ed into dollars at the rate specified inparagraph 1. [If former dollar depositsare reconverted into their originalamounts in dollars, an exception willhave to be written for them.]

3. The government shall establish refer-ence rates and procedures for convert-ing peso interest rates into dollarinterest rates.

4. The Banco Central de la RepúblicaArgentina (BCRA) shall cease to be acentral bank, and its monetary assetsand liabilities shall be liquidated asspeedily as possible. Its peso liabilities

Argentines evadethe value-addedtax, the govern-ment’s biggestgenerator of revenue, in 40percent of transactions.

32

Dollarization isthe essential firststep for reestab-

lishing privateproperty rights

and reviving theeconomy.

shall be converted into dollars at theexchange rate specified in paragraph 1.

(a) The BCRA shall return all depositsby banks or the public to their holderswithin 90 days after this law becomeseffective.

(b) The BCRA shall not issue any newnotes or reissue old notes. It shall with-draw existing notes from circulation asquickly as possible. Ninety days after thislaw becomes effective, BCRA notes shallcease to be legal tender, though they maycontinue to be accepted by consentingparties. One year after this law becomeseffective, the BCRA shall no longer berequired to exchange its notes for dollars.

(c) The BCRA shall issue no coins beyondthose already in its vaults when this lawbecomes effective. The government shall notmint new coins to replace old coins.

5. Solvent banks licensed to operate inArgentina may issue notes and coinsdenominated in U.S. dollars or otherunits of account and redeemable inthose units. The notes shall not besubject to a circulation tax or value-added tax. Notes issued by banks shallnot be forced tender.

6. No level of government shall issueadditional notes intended to circulatelike currency.

7. All restrictions on trading or settingprices in foreign currencies are herebyabolished. Consenting parties may useany currency they specify, for anyamount they choose.

8. All compulsory government-imposedrestrictions on withdrawals of bankdeposits shall be eliminated when thislaw takes effect. Banks may delaywithdrawals for up to three years,upon payment of a penalty rate ofinterest to depositors, according toterms decreed by the Executive Power.

9. Previously enacted legislation con-flicting with this law is repealed.

10. This law becomes effective immediately.

NotesI thank audiences at ESEADE in Buenos Aires onApril 2-3, 2002, and other readers for commentson an earlier version of the paper. This paper wasoriginally posted as a Cato Institute workingpaper on April 26, 2002, at www.cato.org and isbased on work with Steve H. Hanke, in particular,our December 2001–January 2002 Cato InstituteWeb paper “How to Dollarize in Argentina Now.”The present paper reflects the circumstances ofApril 2002, though I had the opportunity tomake some minor updates in June.

Web sites that are temporarily unavailabledirectly or have had information removed fromthem may be viewed through the InternetArchive, www.archive.org.

1. Anne O. Krueger, “Transcript of a Press Briefing(Teleconference) on Argentina,” January 11, 2002,www.imf.org/external/np/tr/2002/tr020111.htm.

2. On advice, see John B. Taylor, extemporaneoustestimony before the Subcommittee onInternational Monetary Policy and Trade of theHouse Committee on Financial Services, Hearingon Argentina’s Economic Meltdown—Causes andRemedies, February 6, 2002; on unwillingness toshare seigniorage, see Taylor’s testimony beforethe Joint Economic Committee of the U.S.Congress, Hearing on Reform of the IMF andWorld Bank, February 14, 2002.

3. Within Argentina, they include Martín Krause,Pedro Pou, and Gabriel Rubinstein. SeeRubinstein’s website, www.econline.com.ar, andhis book Dolarización: Argentina en la Aldea Global(Buenos Aires: Nuevohacer Grupo EditorLatinoamericano, 1999). Outside Argentina, theyinclude Charles Calomiris, Guillermo Calvo, and,to a limited extent, Adam Lerrick and AllanMeltzer. Other than work by myself and SteveHanke, apparently the only comprehensive alter-native to the policies of the government has beenPlan Fénix, proposed in September 2001 andupdated in April 2002 by economists from theUniversidad de Buenos Aires whose ideas differmuch from those proposed here; seewww.econ.uba.ar/www/destacados/fenix.htm.

4. Argentina has an extensive underground econ-omy not recorded in official statistics, but I amconfident that the official statistics accuratelyreflect most trends in the economy, even if notprecise magnitudes.

5. Economists in the United States who support theconventional view include Olivier Blanchard(Massachusetts Institute of Technology), “Argentina’sSymbols Crash against Reality,” Nation (Bangkok),

December 17, 2001; Michael Bordo and RicardoChang (Rutgers University), “Throw Away the DollarPeg,” Financial Times, June 7, 2001, p. 21; MartinFeldstein (Harvard University), “Argentina’s Fall—Lessons from the Latest Financial Crisis,” ForeignAffairs, March–April 2002, pp. 8–14; RicardoHausmann (Harvard University’s Kennedy School ofGovernment), “A Way Out for Argentina,” FinancialTimes, October 30, 2001, p. 23; Paul Krugman(Princeton University), “Crying with Argentina,” NewYork Times, January 1, 2002, p. A21; Allan Meltzer(Carnegie Mellon University), Remarks at theAmerican Enterprise Institute conference “Who LostArgentina?” Washington, February 5, 2002; MichaelMussa (Institute for International Economics),“Fantasy in Argentina,” Financial Times, November 11,2001, p. 23; Michael Mussa, “Argentina and the Fund:From Triumph to Tragedy,” Paper for Institute forInternational Economics, March 25, 2002,www.iie.com/ papers/mussa0302-1.htm; NourielRoubini (New York University), “Should ArgentinaDollarize or Float? The Pros and Cons of AlternativeExchange Rate Regimes and Their Implications forDomestic and Foreign Debt Restructuring/Reduction,” December 2, 2001, www.stern.nyu.edu/globalmacro; Martin Uribe (University ofPennsylvania), quoted in Jenalia Moreno, “FreeFloating of Currency Cheered,” Houston Chronicle,February 12, 2002, business section, p. 6; Thomas D.Willett (Claremont Graduate University), “Crying forArgentina,” Milken Institute Review, 2d quarter 2002, pp.50–59, www.milkeninstitute. org/poe.cfm?point=pub03; John Williamson (Institute for Interna-tionalEconomics), quoted in Bill Hieronymous, “IIE’s JohnWilliamson Comments on Argentina’s FinancialCrisis,” Bloomberg news wire, December 31, 2001.Even Jeffrey Sachs (then of Harvard University), whohas supported dollarization in Argentina, has claimedthat the peso was overvalued and that floating mighthave benefits; see “A Crash Foretold,” Time International(Latin America), January 14, 2002, p. 17. An example ofhow the government has echoed the conventionalview is Eduardo Duhalde, “Rebuilding Argentina,”Washington Post, April 22, 2002, p. A19.

6. Steve H. Hanke commented on Argentina’s crisisas it unfolded in a number of articles, some of whichare available at cato.org/current/argentina/index.html and www.forbes.com/hanke.

7. Those who have failed to make the distinctioninclude Eduardo Luis Curia, “Los años noventa y elcurrency board: del éxtasis a la frustración,” in LaEconomía Argentina Hoy, ed. Marcelo RamónLascano (Buenos Aires: Editorial El Ateneo, 2001),pp. 141–59; Paul Krugman, “A Cross of Dollars,”New York Times, November 7, 2001; Nouriel Roubini,“The Case against Currency Boards: Debunking 10Myths about the Benefits of Currency Boards,”1998, www.stern.nyu.edu/~nroubini/asia/CurrencyBoardsRoubini.html; and most publications by staff

of the IMF, such as Tomás J. T. Baliño and CharlesEnoch, eds., Currency Board Arrangements: Issues andExperiences, IMF Occasional Paper 151 (Washington:International Monetary Fund, 1997).

8. Steve H. Hanke and Kurt Schuler, ¿Banco Centralo Caja de Conversión? (Buenos Aires: FundaciónRepública, 1991); idem, “Argentina ShouldAbolish Its Central Bank,” Wall Street Journal,October 25, 1991, p. A15; idem (with Lars Jonung),Russian Currency and Finance: A Currency BoardApproach to Reform (London: Routledge, 1993), pp.72–77; idem, Currency Boards for DevelopingCountries: A Handbook (San Francisco: InternationalCenter for Economic Growth, 1994), pp. 47–51;and idem, “A Monetary Constitution forArgentina: Rules for Dollarization,” Cato Journal 18,no. 3 (Winter 1999): 405–19, www.cato.org/pubs/journal/cj18n3/cj18n3-11.pdf.

9. Law 25.445, modifying Law 23.928 (the Converti-bility Law); and Banco Central de la RepúblicaArgentina, www.bcra.gov.ar/pdfs/estadistica/bai2001.xlw. Information on Argentine economic laws can befound at Infoleg, a service of the Ministry of Economy,www. infoleg.mecon.gov.ar/default. htm.

10. Decree 803/2001; and Decree 1570/2001.

11. Banco Central de la República Argentina,www.bcra.gov.ar/pdfs/estadistica/bas2001.xlw,column F divided by column J.

12. UBS Switzerland, “Prices and Earningsaround the Globe: An International Comparisonof Purchasing Power,” 2000, p. 6, www.ubs.com/e/index/about/research/economicresearch.new-dialog.0007.Upload5.pdf/pl00e1o.pdf.

13. For U.S. price indexes, see U.S. Department ofLabor, Bureau of Labor Statistics, http://data.bls.gov/cgi-bin/surveymost?bls. The producerprice index is the unadjusted index for finishedgoods. For consumer price indexes of particularU.S. cities, see http://data.bls.gov/labjava/ out-side.jsp?survey=cu. For Argentine price indexes,see the Instituto Nacional de Estadística y Censos,www.indec.mecon.gov.ar/DEFAULT.HTM. Theconsumer price index is for greater Buenos Aires.One way to argue that the peso was overvaluedwould be to claim that the government chose abad exchange rate at the start, but those whobelieve the overvaluation story claim instead thatthe peso became overvalued only later.

14. Kalin Hristov, Bulgarian National Bank, “FEERand Currency Boards: Evidence from the 90’s,”Paper presented at the Centre for Central BankingStudies (Bank of England) Conference onExchange Rates, November 26, 2001, p. 25; andInternational Monetary Fund, Third Review under

33

the Stand-By Arrangement . . . , June 2001, p. 10, www.imf.org/external/pubsft/scv/2001/cr0190.pdf.

15. Shortly before writing this paper, I sent e-mail mes-sages to three economists who had testified to a com-mittee of the U.S. Congress that the peso was overval-ued. I asked them according to what measure the pesowas overvalued, using what base year, and according towhose calculations. Two did not respond; the thirdadmitted that he had not investigated the subject forhimself but had accepted estimates given to him byArgentina’s central bank and Ministry of Economy inearly or mid December 2001.

16. For comparisons of Argentina with other coun-tries, see Simeon Djankov et al., “The Regulation ofEntry,” National Bureau of Economic Researchworking paper 7892, September 2000, p. 36,www.nber.org; James Gwartney and Robert Lawsonwith Charles Skipton and Walter Park, EconomicFreedom of the World Report 2001 (Vancouver: FraserInstitute, 2001), www.fraserinstitute.ca/publications/books/efw2001; and Gerald P. O’Driscoll Jr., Kim R.Holmes, and Mary Anastasia O’Grady, 2002 Indexof Economic Freedom (Washington: HeritageFoundation, 2002), www.heritage. org/index/2002;see also World Economic Forum, Global Competitive-ness Report (New York: Oxford University Press, 2001);country rankings available at www.weforum.org/pdf/gcr/OverallCompetitivenessRankings.pdf.

17. In a paper dated March 2002, MartinFeldstein, one of the best-known economists inthe United States, writes that Argentina has a“growing trade deficit,” whereas in fact it hadtrade surpluses in 2000 and 2001. MartinFeldstein, “Economic and Financial Crises inEmerging Market Economies: Overview ofPrevention and Management,” National Bureauof Economic Research working paper 8837,March 2002, p. 8, www.nber.org. For the statistics,see the Instituto Nacional de Estadística y Censos,www.indec.mecon.gov.ar/DEFAULT.HTM.

18. Statistics from Ministry of the Economy,Secretariat of Finance, “Main Macroeconomic Indica-tors,” www.mecon.gov.ar/download/financiamiento/newinf.xls. The federal government has recentlyassumed responsibility for some provincial debt.

19. Law 25.239; Law 25.413 (the CompetitivenessLaw); Decree 380/2001; and Decree 969/2001.The other key law of this period was Law 25.453(the Zero Deficit Law).

20. To discourage evasion of the financial transac-tion tax, it was decreed that all payments greaterthan 1,000 pesos had to be made through thebanking system to be recognized as legal. To under-stand the “cascading” nature of the financial trans-action tax, suppose a single company cuts down

trees, owns the mill that converts them intonewsprint, prints newspapers, delivers the newspa-pers to newsstands in its own fleet of deliverytrucks, and owns the newsstands. It can handle allthe financial transaction on its own books, withoutresort to the banking system, so it pays no financialtransactions tax. If a separate company handleseach stage of production, it is likely that each com-pany will make and receive payment through thebanking system in a chain of payment that corre-sponds to the stages of production. The fullamount of payment for the logs will in effect havebeen subject to the tax five times, once for eachstage in the chain of payment.

21. Many economists believe that when a govern-ment encounters financial problems, the currencymust suffer depreciation. That has been the gen-eral practice of national governments, but it isobviously not true for lower levels of governmentbecause they do not issue their own currencies,nor is it inevitable that national governmentsshould depreciate their currencies rather thandefault on their debt or otherwise reorganize theirfinances.

22. Law 25.561; see also Decree 71/2002 andMinistry of Economy, Resolution 6/2002. Amongother things, Law 25.561 suspended untilDecember 2003 Law 25.466, which was supposedto guarantee the security of deposits.

23. Ministry of Economy, Secretariat of Finance,Undersecretariat of Financing, “Main Macroeco-nomic Indicators,” www.mecon.gov.ar/download/financiamiento/newinf.xls; Banco Central de laRepública Argentina, Información Monetaria yFinanciera Mensual, www.bcra.gov.ar; InternationalMonetary Fund, International Monetary Statistics;Ministry of Economy, Secretariat of EconomicPolicy, “Información Económica,” www2.mecon.gov.ar/infoeco/apendice6.xls (total governmentspending); J. P. Morgan Emerging Markets BondIndex Plus (country risk premium).

24. Allan Meltzer, Testimony before theSubcommittee on International Monetary Policyand Trade of the House Committee on FinancialServices, Hearing on Argentina’s EconomicMeltdown—Causes and Remedies, Day 2, March 5,2002.

25. Steve H. Hanke, “Questions the IMF Is Obligedto Answer,” Letter, Financial Times, January 17, 2002,p. 10; Thomas Dawson, “Dollarisation in ArgentinaCannot Be Counted on to Succeed,” Letter, FinancialTimes, February 1, 2002, p. 12. A more recent com-ment on this issue is Gabriel Rubinstein, “Existen lasreservas del BCRA?” March 26, 2002, www.econon-line.com.ar. The BCRA issues a monthly statementgiving some details about its foreign reserves,

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“Reserves Internacionales/Liquididez en MonedaExtranjera,” www.bcra.gov.ar/pdfs/contad/ temp0202.pdf.

26. Decree 214/2002; Banco Central de la RepúblicaArgentina, Communicación “A” 3468, February 8,2002, www.bcra.gov.ar/folio/A3468.pdf.

27. U.S. Department of the Treasury, The Use andCounterfeiting of United States Currency Abroad, January2000, p. 19, www.federalreserve.gov/boarddocs/RptCongress/conterfeit.pdf; Eduardo Levy Yeyati, “10años de convertibilidad: la experiencia argentina,”Universidad Torcuatro di Tella, p. 41, www.utdt.edu/~ely/Convertibilidad.pdf.

28. Banco Central de la República Argentina,Información Monetaria y Financiera Mensual, March2002, www.bcra.gov.ar/pdfs/estadistica/bol0402.pdf.

29. One writer who has voiced concern about thismatter, though acknowledging that the problemmay be avoidable, is Gerardo Tresca, El Espejismo dela Convertibilidad: La Economía Argentina en la Décadadel Noventa (Buenos Aires: Ediciones RealidadArgentina, 2000), p. 228.

30. Theoretically, banks can gain all the reservesthey need from inflows of deposits and need holdno initial reserves.

31. As a very rough guide to establishing a fixedexchange rate immediately, Gabriel Rubinstein’sconcepts of a “dollar of maximum confidence”and a “dollar of minimum” confidence are help-ful. See his Website, www.econline.com.ar.

32. Why not try to return to the former exchangerate of 1 peso per dollar? Doing so would imply adeflation to reverse the inflation that has occurredsince the peso was devalued. Other things beingequal, it would also require the central bank tohave much larger dollar reserves than it now does,so as to be able to convert the peso monetary baseinto dollars at a more appreciated exchange rate.Argentina is highly unlikely to obtain a loan of thescale necessary to boost the central bank’s dollarreserves sufficiently.

33. Established by Decree 214/2002; see also BancoCentral de la República Argentina, Communicación“A” 3507, March 13, 2002, www.bcra.gov.ar/folio/a3507.pdf. For the CER itself, see Banco Central dela República Argentina, www.bcra.gov.ar/pdfs/estadistica/cer2002.xlw.

34. Kurt Schuler and Steve H. Hanke, “How toDollarize in Argentina Now,” December 20, 2001,and January 2, 2002, pp. 31–333, users.erols.com/kurrency/argjdec01f. For sample objectionsfrom blackboard economics, see Eduardo LevyYeyati and Franco Sturzenegger, “Dollarization: A

Primer,” Universidad Torcuatro DiTella, July 2001,www.utdt.edu/~fsturzen/CHAPTER1.pdf;Nouriel Roubini, “Should Argentina Dollarize orFloat? The Pros and Cons of Alternative ExchangeRate Regimes and Their Implications for Domesticand Foreign Debt Restructuring/ Reduction,” NewYork University, December 2, 2001, www.stern.nyu.edu/ globalmacro; Journal of Money,Credit, and Banking 33, no. 2, part 2 (May 2001); andJournal of Policy Modeling 23, no. 3 (April 2001).

35. See Kurt Schuler, “What Use Is MonetarySovereignty?” August 2000, users.erols.com/kurrency/monsov.htm.

36. Banco Central de la República Argentina,Communicación “A” 3467, February 8, 2002,www.bcra.gov.ar/folio/a3467.pdf.

37. For accounts of Ecuador’s experience under dollar-ization so far, see Paul Beckerman, “Dollarization andSemi-Dollarization in Ecuador,” World Bank WorkingPaper 2643, July 17, 2000, econ.worldbank.org/files/2322_wps2643.pdf; Carlos Julio Emanuel (Ecuador’sminister of economy and finance), “La dolarización yel paso a la economía real,” January 16, 2002, minfi-nanzas.ec-gov.net/docs/economia.doc; Franklin A.López, “Dollarization in Vulnerable Economies: TheLessons from Ecuador,” University of New Orleans,April 2002, 150.108.69.10/public/m-union/ abstracts/lopezpaper.pdf; and IMF information at www.imf.org/external/country/ECU/index.htm. For officialstatistics, see the Banco Central del Ecuador’s weeklyBoletín de Coyuntura www.bce.fin.ec/indicadores/semanal/ bol_sem.htm.

38. Gabriel Rubinstein, and, I am told, econo-mists from Universidad del CEMA.

39. I first discussed this idea in Kurt Schuler, “U-TurnOut of the Dead End: How to Solve Argentina’s Debt,Currency, and Banking Problems,” manuscript,August 16 and 27, 2001.

40. Banks with branches in the United States may evenwish to issue notes there. Federally chartered banks inthe United States have had the capacity to issue notessince 1994 (for the first time since 1935). One reasonthey have not issued notes is that they have beenunaware that the law allows them to do so. See KurtSchuler, “Note Issue by Banks: A Step toward FreeBanking in the United States?” Cato Journal 20, no. 3(Winter 2001): 453–65, www.cato.org/pubs/journal/cj20n3/cj20n3-8.pdf. Bank-issued notes in the UnitedStates are subject to a tax of 1 percent a year under theUnited States Code, title 12, section 541.

41. It has been claimed that a reasonable estimateof the present value of seigniorage is 23.8 percentof GDP, although the value could be significantlyhigher or lower depending on various factors.

35

(The present value is the stream of future rev-enues, discounted more heavily the further in thefuture the revenues are.) See Eduardo Levy Yeyati,“10 años de convertibilidad: la experienciaargentina,” manuscript, Universidad TorcuatroDi Tella, pp. 30, 69, www.utdt.edu/~ely/Convertibilidad.pdf.

42. Kevin Dowd, ed., The Experience of Free Banking(London: Routledge, 1992).

43. There are discussions of Argentina’s experi-ence in this period in John H. Williams, ArgentineTrade under Inconvertible Paper Currency, 1880–1900(Cambridge, Mass.: Harvard University Press,1920), chaps. 7–8; and Angel M. Quintero-Ramos,A History of Money and Banking in Argentina (RioPiedras, Puerto Rico: University of Puerto Rico,1965), chaps. 3–4.

44. See Dowd, The Experience of Free Banking, especiallythe chapter “US Banking in the ‘Free Banking’ Period”;Lawrence H. White, ed., Free Banking,3 vols. (Aldershot,England: Edward Elgar, 1993).

45. J. Huston McCulloch, “Beyond the HistoricalGold Standard,” in Alternative Monetary Regimes,ed. Colin D. Campbell and William R. Dougan(Baltimore: Johns Hopkins University Press,1986), pp. 74–75; and C. A. E. Goodhart, “HowCan Non-Interest-Bearing Assets Co-Exist withSafe Interest-Bearing Assets?” British Review ofEconomic Issues 8, no. 19 (Autumn 1986): 5.

46. Scotland and Ireland had free banking in the1700s and 1800s, and Hong Kong had it from 1845to 1935. Today, banks that issue notes in Scotland,Northern Ireland, and Hong Kong do so underreserve requirements like those that apply to anorthodox currency board. See Bank of England,“Fact Sheet: Bank Notes,” www.bankofengland.co.uk/banknotes/factnote.pdf; Hong Kong Mone-tary Authority, “Bank Notes in Hong Kong,”www.info.gov.hk/hkma/eng/currency/notes_co/index.htm; Committee of Scottish ClearingBankers, “History of Scottish Banknotes,” www.scotbanks.org.uk/notes.htm; “Irish Paper Money,”www.irishpapermoney.com/history/hist17n4.html;and Websites of the note-issuing banks. In Scotland,the Bank of Scotland is part of the HBOS Group;the Clydesdale Bank is part of the National AustraliaBank group; and the Royal Bank of Scotland is partof the Royal Bank of Scotland group, which includesEngland’s National Westminster Bank. In NorthernIreland, First Trust Bank is part of Allied Irish Banks,the Northern Bank is part of the National AustraliaBank group, and the Ulster Bank is part of the RoyalBank of Scotland group.

47. Selected laws concerning the Argentine finan -cial system are available on the Website of the cen-

tral bank, www.bcra.gov.ar/publica/epub0001.asp.

48. Banco Central de la República Argentina,Communicación “A” 3387, December 7, 2001, www.bcra.gov.ar/folio/A3387.pdf, and Communicación“A” 3470, February 8, 2002, www.bcra.gov.ar/folio/A3470.pdf.

49. In the United States, the requirement of 10 per-cent applies to accounts that banking regulationsdefine as transaction accounts. Nontransactionaccounts have no reserve requirement. Over thelast 10 years, “sweep” accounts that minimizefunds in transaction accounts have enabled banksto reduce their overall ratio of reserves to totalbank deposits. Although Panama has no reserverequirements, it does have liquidity requirements.Typically, an amount equal to 30 percent ofdeposits must be held in specified classes of assets.Panama, Decree-Law 9 of February 26, 1998, article46, www. superbancos.gob.pa/law9.htm.

50. Decree 1570/2001; Banco Central de la RepúblicaArgentina, Communicación “A” 3372, December 1,2001, www.bcra.gov.ar/folio/ A3372.pdf.

51. See Kevin Dowd, Laissez Faire Banking(London: Routledge, 1993), pp. 25–113; a moreskeptical view is found in Parth J. Shah, “TheOption Clause in Free-Banking Theory andHistory: A Reappraisal,” Review of AustrianEconomics 10, no. 2 (1997): 1–25, www.mises.org/journals/rae/pdf/rae10_2_1.pdf.

52. See Province of Buenos Aires, Ministry of theEconomy Website on Patacones, www.ec.gba.gov.ar/Financiamiento/Patacones.htm.

53. Oscar Martinez, “Negocian el apoyo del FMIpara rescartar los bonos provinciales,” March 30,and “Cada vez más bonos,” April 21, 2002, Clarín(online edition), www.clarin.com.

54. Banco Central de la República Argentina, “PDFPublicación de Información Entidades Finan-cieras,” www.bcra.gov.ar/efpaginas/pubentfin.asp.

55. George R. G. Clarke and Robert Cull, “WhyPrivatize: The Case of Argentina’s Public ProvincialBanks,” World Bank Research Working Paper 1972,September 1998, www.econ.worldbank.org/docs/703.pdf.

56. World Bank, Finance for Growth: Policy Choices ina Volatile World (Washington: World Bank, 2001),p. 124.

57. Frederic S. Mishkin and Miguel A. Savastanoclaim that “proponents of different strategies for theconduct of monetary policy [such as dollarization]often have a tendency to argue that their preferred

36

strategy will be a panacea that will help resolve hardproblems such as fiscal dominance.” However, theygive no examples of anybody who has claimed thatany particular strategy is a panacea. Frederic S.Mishkin and Miguel A. Savastano, “Monetary PolicyStrategies for Latin America,” National Bureau ofEconomics Working Paper 7617, March 2000, p. 58,www.nber.org.

58. On some other ideas for reforming budgetary rela-tions between the federal government and theprovinces, see Centro de Estudios Bonaerense, CEB(news) 2, no. 16 (April 2002), www.ceb.org.ar/ceb/sec_publicaciones/downloads/ceb_news_ 04_02.pdf.

59. Information on government revenues andspending can be found at the Website of theMinistry of Economy, Secretaría de Hacienda,www.mecon.gov.ar/hacienda. See especially theBoletín Fiscal and the “Resultado de las Cuentasdel Sector Público No Financiero.”

60. Notable exceptions have been Charles Calomirisand the economic consulting firms Polyconomicsand InterMarket Forecasting, which have warned ofthe dangers of increasing tax rates in Argentina. Seewww.polyconomics.com and www.intermarketfore-casting.com. To see the IMF’s surprise that highertax rates did not increase revenue proportionally,read its Argentina country reports at www.imf.org/external/country/ARG/index.htm.

61. It is also important to remember that the taxrates that maximize economic growth are lowerthan the rates that maximize government revenue.See Lawrence B. Lindsey, “Revenue MaximizingTaxation Is Not Optimal,” Report, Office of theChairman, Joint Economic Committee, U.S. Con-gress, July 1997, www.house.gov/jec/fiscal/tx-grwth/lindsey/lindsey.pdf.

62. Daniel Altman, “Reviving Argentina: The Troublewith Taxes,” New York Times, January 1, 2002, p. C1.

63. On Ireland, see Fred McMahon, Roads to Growth:How Lagging Economies Become Prosperous (Halifax:Atlantic Institute for Market Studies, 2000), chap. 2,www.aims.ca/Publications/Growth/aimsch2.pdf.

64. Argentina, Ministry of Economy, Secretariat ofFinance, Undersecretariat of Financing, “MainMacroeconomic Indicators,” www.mecon.gov.ar/download/financiamiento/newinf.xls; and Ecua-dor, Servicio de Rentas Internas, www.sri.gov.ec/download/pdf/estadisticas2002.pdf.

65. As Guillermo Calvo suggested in remarks atthe conference “Euro and Dollarization,”Fordham University Graduate Business School,New York, April 6, 2002.

66. Robert O’Quinn and Nigel Ashford, “The KiwiEffect: What Britain Can Learn from New Zealand,”London, Adam Smith Institute, 1996, pp. 28–30,www.adamsmith.org.uk/policy/publications/pdf-files/kiwi-effect.pdf.

67. “There’s no one, neither in Argentina, nor at theIMF nor in any other place who has a quick fix fora very, very complex situation.” Quoted in SimonGardner, “Argentina Wants Big Debt Cut, IMFSees No Quick Fix,” Reuters, March 21, 2002.

68. The Instituto Ecuatoriano de EconomíaPolítica translated two 1999 papers I wrote on dol-larization in general (“Promoviendo laDolarización Oficial in los Mercados Emergentes,”available over the Internet only, and“Fundamentos de la Dolariza-ción,” published as apamphlet). The institute also published a study Iwrote after dollarization was announced, suggest-ing the particular form dollarization should take(“Dolarización Oficial en Ecuador”). See www.his.com/~ieep/documen.htm. I first wrote on dol-larization in Ecuador in “Por qué el sucre no es tanbueno como el dólar,” El Financiero (Quayaquil),May 4, 1998, p. 15, and I visited Ecuador in July1999 and January 2000 to give speeches on dollar-ization and discuss it with government officialsand local economists and businesspeople.

69. Although I disagree with much of the IMF’sadvice on tax and currency matters, some possibleeconomic reforms are discussed in IMF countryreports on Argentina, www.imf.org/external/country/ARG/index.htm. World Bank documentson Argentina are available at www.worldbank.org.

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