Milton Friedman looms large in the personal and political life of Argentina’s likely next president. The ideas of Javier Milei, that led him to an unexpected victory in the country’s August primary election are heavily influenced by the most famous freemarket economist of the 20th century.
Friedman influenced both Milei’s views on the ideal size of government (tiny) and its role in the economy (nonexistent). Milei’s admiration is so great that he named one of his four dogs after the economist. The former economics professor said in a recent interview with The Economist that Milton and his other dogs, all named after economists, make up “the best strategic committee in the world.”
Among Milei’s Friedmaninfluenced proposals is the most farreaching dollarization of the economy. This would mean the replacement of the Argentine peso by the dollar and the end of Argentina’s central bank, which Milei describes as “the worst in the universe.” He exaggerates, but only a little.
Argentina’s economy is on the rocks. Annual inflation is 113%. The country’s central bank has exhausted its dollar reserves. The value of the peso against the American currency has halved since the beginning of the year. In short: the time for radical thinking has come. Unfortunately, dollarization may be more of a curse than a solution to Argentina’s problems.
When a country pegs its economy to another country’s currency, it gives up creating its own monetary policy. Interest rates would be set by the Federal Reserve, making them more predictable and virtually impossible to cheat. For a country with a history as dubious as Argentina’s, this would ease some headaches. Most Argentinians use dollars anyway. If this were made official, people could save themselves the hassle of converting U.S. currency into pesos and vice versa.
The exchange rates of the dollar, the world’s most traded currency, would not be shaken by anything that happened in Argentina, a reasonably small economy, meaning the currency’s value would no longer fluctuate. It’s a formula that kept the situation in Ecuador relatively stable, at least for a while, after the country’s dollarization in 2000.
One of Javier Milei’s proposals is the dollarization of the Argentine economy. Photo: Agustin Marcarian/Portal
However, the main benefit is that Argentina would be prevented from printing money. Friedman was a critic of central banks and was convinced that the majority was too weak to keep inflation under control because it would mean giving in to politicians’ pressure to make bill payments easier or keeping the economy warm until election time hold.
As Milei points out without batting an eyelid, Argentina’s central bank was one of the most irresponsible. Dollarization would make the printing presses completely unreachable. For proponents of the idea, this means it is only a matter of time before the government’s influence weakens and the long battle against inflation comes to an end.
However, there is a problem with this argument: it requires an overly rosy view of government. It assumes that politicians aware that they can no longer turn to the central bank in a crisis automatically reduce their borrowing to a safe level. This would be the case if the only reason governments borrow too much is because they are sure the central bank would bail them out.
In reality, most governments borrow because the pressure to do so is enormous. Creditors need payments. Bureaucracies need to be restructured. Opposition parties are pressuring the incumbent government to spend. And the greatest pressure of all: voters expect certain services from the state. The lack of printers is not enough to solve these problems.
When disaster strikes, things get scary in a dollar economy. There is no central bank that acts as a creditor and last hope, neither for the government nor for the banking system. This makes failures much more likely. Banks that could have been bailed out with emergency liquidity are failing, and the government has no dollars to cover their deposits, leaving millions destitute.
In addition, most loans could be subject to US law by then, which would put the government at a disadvantage in any restructuring discussions.
In fact, Ecuador now faces many disadvantages of dollarization. When the policy was implemented, it immediately stabilized prices. But it also failed to stop the government’s budget deficits. Since then, policymakers have called for increasingly creative ways to finance the debt, leading the country to an IMF deal in 2019.
A future in which Argentina faces catastrophe is more predictable than one in which policymakers make all the necessary decisions to succeed with dollarization. The budget deficit has been a problem for almost a century. The country has been bailed out by the IMF 22 times in the last 65 years. The fund was so depleted that it abandoned the requirement that the country reach a breakeven level.
A series of leftwing governments created a huge welfare state and a huge bureaucracy. Milei is promising cuts of 15% of GDP for a public sector that accounts for 38% of GDP, but is struggling to define where this will come from.
There are many other problems. A key question is how Milei’s government would come up with the $40 billion he says is needed to dollarize the economy. Currently Argentina cannot even pay the IMF, to which it owes $44 billion. After the dollars ran out The country’s central bank is now burning the yuan borrowed from China. Milei proposed selling stateowned companies and government debt to an offshore fund to raise the necessary capital. It’s hard to imagine that there will be many interested parties.
Whoever takes power in December will find themselves in a bad situation. Forget the idea of finding money to make dollarization possible. More and more economists are predicting that the country will once again become insolvent and that it will therefore be almost impossible to pay off its current debts. The country’s bond prices reflect the fact that financial markets are betting on further debt restructuring. To start from scratch, Argentina may need to impose a moratorium and not dollarization.