Sandleris Delivered a Speech at Fundación Libertad

The governor focused on the BCRA’s main mission and stated the monetary authority’s viewpoint on inflation.

This morning, the governor of the BCRA, Guido Sandleris, delivered a speech on the BCRA’s prospect to fight inflation.

The full speech was as follows:

Buenos Aires, February 28, 2019. Thank you for the inviting me to speak today. I would like to make good use of this opportunity to talk about the BCRA’s main mission: to fight inflation. Beyond the factors lying behind inflation, in January it was very high—2.9%—and in February it is likely to be high as well. However, today I would like to analyze inflation from a broader viewpoint.
Inflation in Argentina is much higher than that in most countries of the region. Except for Venezuela, which is going through an unprecedented humanitarian crisis, our country has the highest inflation in South America.
Indeed, it has been high for long. In twelve of the last twenty years, inflation must have been higher than 20% per year (I say “must have” because for many years INDEC statistics was not a reliable source). Even worse, 2007 to the present was the period of the highest inflation. Besides, we all know there is nothing new in this issue. Inflation was lower than 10% only in 17 out of the last 75 years.
Does this mean we should give up and live with high inflation? Of course not. Most Latin American countries with low inflation have gone through long periods of high inflation before. For instance, let us consider Brazil, Chile, Colombia, Mexico, Peru and Uruguay. Think about the time each of them achieved an inflation rate below 10% and kept it under that level. These countries had borne an average inflation rate of more than 20% in 14 out of the 20 previous years.
I am aware of the suffering that inflation causes our citizens, especially the most vulnerable in our society; that is why lowering inflation is the BCRA’s main target. We should not be discouraged by last decades' figures. We will succeed in reducing inflation and we will do it on solid grounds.
You may wonder what I mean by reducing inflation on solid grounds. Sometimes inflation has been lowered by means of an exchange rate lag. This happened, for instance, during Plan Austral, Convertibility Plan, Foreign Exchange Clamp (effective up to 2015) and, to a certain extent, the first few years of the current administration.
We all know there is a link between exchange rate and prices, and this strategy of keeping a delayed exchange rate can be effective in the short term. Both imported and exported goods become cheaper, inflation expectations remain unchanged and results show up. This brings about an imbalance in the external sector, which is supported to the extent the rest of the world is eager to provide us with funds. However, this ends up in depreciation and a rise in inflation once financing is no longer available. When that happens, we go back to the drawing board because the exchange rate jump damages those in hold of domestic currency, and makes it hard to convince them of keeping savings in such currency.
Another strategy of stabilization or inflation control used in our country, though with no solid grounds, is that of lagging regulated prices of goods and services, such as oil, electricity, gas and transport. The periods of higher lags in residential electricity prices, according to Fernando Navajas’ paper were from 1945 to 1952, when the price of electricity in real terms lagged by 51%; from 1973 to 1975, with a 43% lag; from 1981 to 1984, with a 49% lag; and from 2001 to 2015, with 73%, which set a record. The cycle is really similar to that of the exchange rate. Some prices are artificially lowered, costs and inflation expectations are driven down, and inflation remains unchanged in the short term. Meanwhile, an unsustainable imbalance is first caused and then exacerbated. Regarding demand, the use of goods and services is stimulated in detriment of the real cost for society. Regarding supply, investment is discouraged, and the supply and quality of services drop. And you may all know how unsustainable the fiscal cost of these policies is. When financing comes to an end, it creates, as in the case of the exchange rate, a reconstitution of the lagging price, an inflation jump and a new inflationary episode that once again undermines public trust in domestic currency.
The previous administration used both short-term strategies at the same time: exchange rate and price lag. However, with the high level of financing to the Treasury in the past, inflationary pressures were on the rise. This mix of policies temporarily controlled inflation by 25% in 2015, but laid the basis for an inflationary acceleration.
It had become commonplace that most attempts at controlling inflation in our country failed to solve the fiscal problem; what is more, we had to endure high fiscal deficits. The existence of fiscal deficit eventually made the BCRA finance such an imbalance. Sooner or later, the ensuing monetary issuance produces inflation.
In the last three years, we have been working both to correct the short-term shortcuts used previously to control inflation and to reduce the fiscal deficit. I am not saying that we have performed these actions quickly enough or with the best possible coordination. In fact, I do not think it was just like that. But I am convinced that we have paved the way on solid grounds for starting to lower inflation in a sustained way.
At present, real foreign exchange rate is 59% higher than before the exit from the foreign exchange clamp. The current account deficit of the fourth quarter of 2018 (in seasonally-adjusted and annualized terms) was 1.2% of GDP, 3.8 p.p. lower than in 2017.
The price lag that, as we have said, was a very much used instrument in 2015, has already been largely corrected. The greater part of the effort that means adjusting utility prices has already been made. Of course, if a lag in exchange rate and prices has short-term effects on the control of inflation, adjusted prices will in turn cause its temporary rise. However, these corrections are necessary to lower inflation permanently.
As for the fiscal aspect, primary deficit was reduced from nearly 5% in 2015 to 2.4% of GDP in 2018, and 2019 will witness no primary deficit.
To sum up, we have almost corrected all three macroeconomic imbalances that our economy was carrying: foreign exchange, price and fiscal deficit delay. As I was telling you, in this scenario inflation is likely to be lowered in a sustained way.
To be honest, we have not planned our reality this way. The path followed was harder than thought. The sudden stop of foreign financing in 2018, together with some of the mistakes already mentioned, led to economic contraction and nominal instability last year. Inflation and inflation expectations rose sharply.
For that reason, by the end of September we launched a scheme of tough monetary base targets. As the BCRA had lost credibility, we decided that the best way to regain public trust was to increase transparency by disclosing targets so that the public could easily check them month by month.
We complied or over complied with these targets in the first four months of the scheme, and we will do so in February.
With this monetary scheme, financial volatility dropped as well as inflation and the interest rate, even when they remain high. However, these are not simple processes.
The monetary scheme is tough, and we are implementing it very carefully. This is necessary for inflation to go down. In this sense, we know that the figures for January were not good and that prices should still be corrected in the coming months.
Hence, it is key to keep monetary discipline. The imbalances that prevented inflation from dropping in a sustained way in the past have been or are about to be solved. We have already been implementing a monetary policy aimed at reducing inflation. We must now be persistent and aware of the fact that this policy yields no immediate results; however they, no doubt, will come up. This is shown in our neighboring countries, which are already used to having one-digit inflation rates. There is no reason for us not to succeed.

February 28, 2019