Argentina Business Forecast Report Q3 2009

The mid-term elections, to be held on June 28, are likely to be a defining moment in Argentine politics and could signal the beginning of the end for the current presidential couple. We see the government losing ground to the opposition, which will cost the ruling Frente para la Victoria (FpV) coalition its majority in congress. While this may raise short-term economic and political uncertainty, over the medium term, a more balanced congress will help reduce the government's ability to implement distortionary economic policies. A weakened government would also increase the prospect that a non-Kirchner president will emerge at the helm in 2012. The threat of an imminent default has been largely alleviated by the recent rise in commodity prices and attempts at restructuring the country's debt load. The current policy mix, however, will continue to undermine medium-term economic stability and we still cannot discount a sovereign default over the coming years.

Latest polling data support our view that the ruling Frente para la Victoria (FpV) alliance will lose crucial ground to the opposition in June's mid-term elections. According to local newspaper Clarin, six recently-taken polls give former president N?(C)stor Kirchner, who is leading the FpV ticket in Buenos Aires, a thin lead (between two and nine percentage points) over his nearest rival, Peronist dissident Franciso de Narvaez, of the opposition Union Pro Party in the key battleground of Buenos Aires province. However, this may not be enough for the government to maintain its majority in congress, with the combined votes measured by the six polls giving the opposition between 20-21 of the 35 seats up for grabs in Buenos Aires. We believe that such a result would be a positive outcome for both short-term political stability and the medium-term economic outlook. In our view, comments made by former president N?(C)stor Kirchner that the country would face a return to chaos in the event an opposition victory are little more than electioneering.

Although Argentina's economic activity index continues to show expansion, data on industrial production, retail sales, construction output, and imports suggest that the economy is slipping into recession. While Q109 real GDP data will give a clearer picture, we note that the risks to our forecast of a 1.0% real GDP contraction this year appear weighted to the downside. We maintain our view that the economy will contract by a further 0.9% in 2010. On the external front, we have also upgraded our trade surplus forecast to reflect the reduction in imports and higher export prices, yet still see a weakening exchange rate this year as the government attempts to cover its fiscal surplus and protect the country's export sector through inflationary means. While the government will likely avoid a sovereign default this year, and has shown a renewed willingness to improve its creditworthiness, fiscal profligacy will continue to leave the country exposed to fluctuations in commodity prices and undermine the country's long-term economic fundamentals.

The Argentine business environment outlook continues to be threatened by a number of factors. The uncertain political landscape is a major deterrent to FDI, especially with the direction of economic policy in the balance. The inflation issue remains a key risk, as the government's official figures continue to underreport the true rate of inflation, in our view, and the expansionary fiscal policies threaten to crowd out private investment. Recent attempts by the Argentine authorities to improve its creditworthiness via bond prepayments and acquiring Word Bank financing should alleviate fears of a near-term default.