Argentina and Ecuador:
Understanding the Currency Crisis
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CASE ASSIGNMENT REQUIREMENT:
Case reports must be submitted as per the following format:
1. Title Page:
Name of the Case
2. Executive Summary
One half to one page summary of the issues involved and the strategy and recommendations must be
3. An analysis of the case on the basis of the questions given at the end of the case. Your analysis of
each question must include the following:
Strategies to deal with those issues
Recommendations with rationale
Length of Case Preparation: 4-5 pages
Papers are to be word-processed with correct grammar and punctuation. Information in the
papers must be properly documented.
Argentina and Ecuador: Understanding the Currency Crisis
While fiscal policy is never far from the mind of your average Argentine, who
remembers the tough times and hyperinflation of the 1980s, the events of 2001 and
2002 have brought fiscal policy back to the forefront of public concern. Though the
early 1990s may have been characterized by financial optimism, Argentina has been
in a recession since Brazil's 1998 monetary crisis sent shockwaves across the
regional and global markets.
In early 2002, Argentina defaulted on its US$132 billion in debt. Outraged over the
limits imposed on bank withdrawals, 'and fed up with four years of recession,
Argentines took to the streets, calling for general strikes. The popularity of
President Fernando de fa Rua, who took office in December 1999, plummeted until
he was forced to step down.
Travel north to Ecuador and you'll encounter a very different financial perspective.
In March 2000,.Ecuador underwent dollarization, the process of making the US
Dollar its currency. This policy move is credited with bringing the country's current
stability and growth.
In this segment, we'll cover the factors surrounding the economic situations in both
countries: the different foreign exchange paths and policies the countries took to
address the economic challenges, and what they mean for global businesses
operating in each country.
Crisis in Argentina
First we'll look at Argentina. To completely understand the crisis that rocked this
nation, we need to look at Argentina's economic history and culture. The land of
gauchos, the tango, and Eva Peron, Argentina is considered by many to be the most
Europeanized of all the countries in Latin American. The clean, orderly, cafe-lined
streets of Buenos Aires and the mannerisms of the people are indicative of a country
that takes great pride in its modernity as well as its Spanish and Italian heritage.
With a population of almost 38, million in 2002, Argentina is the third-largest
country in Latin America. After its independence from Spain in 1816, more than 4
million Europeans immigrated to Argentina. Others poured in from the Middle East,
notably from Syria, Lebanon, and Armenia.. Koreans, Peruvians, Bolivians, and
Paraguayans are also prominent. Italian and German are second languages for many
Argentines, though the country's distinctive Spanish is the principle tongue. Today,
only 15 percent of Argentina's population is mestizo. Unlike other Latin American
countries, Argentina has virtually no indigenous people or customs.
These immigrants came to Argentina in search of opportunity. As their successful
offspring can attest, many found it. Despite the economic tumult of the late '90s,
Argentina boasts Latin America's largest middle class and the highest per capita
GDP in Latin America. However, since 1997, the country has been in a steep
recession that .has sent many middle-class Argentines back into the ranks of the
Through the early '90s, Argentina was the sweetheart of Latin American economies.
The economic situation looked good in the early 1990s, largely due to the reforms of
the government of President Carlos Menem, who managed to pull his country
through the extreme economic hardships and hyperinflation of the '80s. State
enterprises were privatized, and Argentina modernized, rebuilding its social and
transportation infrastructure, its water and sewer systems, and cooperating with
formerly state-owned corporations in the fields of electricity, oil, gas, and
telecommunications. Foreign direct investment in Argentina flourished.
Argentina pegged its currency to the dollar in 1991, curbing hyperinflation and
creating an economic boon. Presidente Menem was credited with implementing
free-market reforms, opening the borders to more trade and restructuring
monetary and economic policies. Better trade policies capitalized on Argentina's
natural resources, which include an agriculturally based export sector focusing on
wheat, meat, corn, oilseed, manufactured goods, and oil. As the economy flourished,
national and provincial government spending skyrocketed. Many believe that
government spending contributed to the economic crisis.
Unfortunately, the strong rules governing the currency board under which the
Argentine government maintained its fixed peso-dollar exchange rate eventually
subjected the country to fluctuations in the U.S. currency, as well as fluctuations in
US fiscal policy. The government of Argentina could no longer control its own
monetary policy, and subsequently it had no control over the price of its exports.
The negative effects of one-to-one parity with the U.S. dollar became apparent in
1995 when the Mexican peso devalued, and again in 1999, when Brazil's currency
devalued as a result of the Asian meltdown. Suddenly, Argentina's exports, priced
virtually in dollars, were overpriced and no longer competitive. Argentina, like its
neighbors, relies heavily on the export of its goods for revenue. With Argentine
products no longer competitive, revenue from exports plummeted and
The policies and practices of the then-President Fernando de la Rua, which included
strong- arming the banks into buying government bonds, triggered a widespread
bank-run, and Argentines withdrew over $15 billion between July and November
2001. The country's default on public debt in December 2001 combined with
unpopular policies led to De La Rua's resignation. Over the next four months, the
country went through five presidents, culminating in Eduardo Duhalde's election. .
Duhalde imposed new restrictions on the foreign exchange markets that were
unsuccessful. Further, the IMF frowned on the way provinces were being allowed to
issue their own parallel currencies to make government payrolls. After months of
discussion, during which the central bank promised, yet failed, to take control of the
economy, the IMF and Argentine officials began to negotiate a bailout package.
Eventually, the peso was devalued against the U.S. dol1ar, falling to nearly 3 pesos
per dollar in mid-2003.
Some economists have argued in favor of a system of managed floating to give the
government flexibility within a set of targets. Others believe that dollarizing the
Argentine Peso at' a discount would bring back stability. For a country that prized
itself on its cultural similarities to Europe, facing large spending cuts in return for
continued financial assistance from the IMF is a bitter pill to swallow. However, with
an unemployment level of 25 percent and a poverty level of 60 percent by mid-2003,
Argentina may have little choice.
In May 2003; Nestor Kirchner became the default president, after the two-time
former president Carlos Menem, fearing defeat, withdrew from the race. Kirchner
vowed to put Argentineans first while taking a hard line with extremely unpopular
foreign creditors. Kirchner faces some tough economic issues, including finishing a
new accord with the International Monetary Fund, reforming a weakened banking
system and renegotiating a large part of Argentina's $144 billion foreign debt. Many
are concerned that the lack of popular mandate may make it difficult for him to
garner critical political and public support.
Although smaller in size, Ecuador is a picture of diversity. The Andes run through
the country north to south, bringing a spectacular variety of climatic conditions.
Ecuador's people and culture are equally diverse, with nearly as many Indians as
mestizos and nearly as many blacks as whites. The largest cities are sophisticated,
while dozens of rural communities struggle for survival without the basic
necessities. Presiding over all of this is a fragile government run by the sixth
president since 1996, searching for solutions to the country's economic problems large and small.
With a population of around 13 million, Ecuador is the eighth most populous
country in Latin America. It has just a million more inhabitants than Guatemala and
2 million fewer than Chile. Sixty percent of Ecuadorians live in urban areas, all of
which are located in the coastal lowlands and the central highlands. Some 2.7
million live in Ecuador's commercial center, the steamy southern port city of
Guayaquil, and 1.8 million live in the capital city, Quito, high in the Andes.
Most of Ecuador's rural dwellers are indigenous people. It's difficult to break down
the population into ethnic groups, partly because the last official census was in
1990. Some estimates put the mestizo population at 55 percent and the indigenous
at 25 percent, while others place the two groups equally at 40 percent each. About
15 percent of Ecuadorians are white, and around 5 percent are black, although some
figures put the black population at about 10 percent of the total. There are also a
small number of people of Asian descent.
Ecuador has never been a wealthy country, and the political instability of recent
years has exacerbated the massive inequality that has characterized the society
since colonial times. Most of the wealth is in the hands of white elite, who live
sophisticated lives in the large cities, eating in fancy restaurants and flying off to
Miami for shopping trips. Indeed, Quito looks much like any other modern
industrialized city, complete with cinemas, fast-food restaurants, Internet cafes, and
But while the rich enjoy an enviable lifestyle, the vast majority of the country's large
indigenous population lives in extreme poverty. Eight out of ten rural households
live below the poverty line, and four out of 10 are unable to meet basic nutritional
requirements. Running water and sewage systems reach a paltry 40 percent of
households, and only half of Ecuador's teenagers go to school. Although official
unemployment figures show a small drop in the jobless rate in recent years, more
than half the population is underemployed.
.' "'" '
The disparity in wealth distribution and the lack of viable jobs have caused more
people, particularly children, to join the "informal economy." Hundreds of itinerant
peddlers pepper the streets of the country's cities, selling chewing gum, candy,
cigarettes, and flowers, hoping to scrape together enough money for something to
Various international aid programs attempt to alleviate the poverty blighting so
many Ecuadorians, but a lot depends on the country's government. Corruption is
endemic in the political system, which is run largely by the white elite, so progress is
forecast to be slow.
Like many Latin American nations, Ecuador is struggling economically despite
abundant natural resources. Its economy has traditionally been agrarian, and
banana exports drove its economy through the second half of the last century.
Petroleum took over as the country's biggest export in the 1970s and by the early
1980s oil accounted for more than half of Ecuador's export earnings.
The fall in oil prices in the1980s hit Ecuador hard, compounding the damage caused
by floods in 1982 and 1983 and the severe disruption in the country's agricultural
production and exports, particularly bananas and coffee. The devastating
earthquake of 1987 wiped out much of the Ecuador's only oil pipeline, pushing the
economy into full-scale meltdown.
While the country still relies on oil and is the world's biggest exporter of bananas,
other major exports, like shrimp, have dropped in recent years and inflation is on
the rampage. In 1999, Ecuador's inflation was the worst in Latin America, at 60
In March 2000, in what many predict could be one of the key moves to help the
economy in the long run, the dollar was implemented as Ecuador's currency,
replacing the sucre. Many considered the move to full dollarization a structural
reform to end the unstable dual-currency system that had resulted from an earlier
move to semi-dollarization.
When President Jamil Mahuad first broached the idea of dollarization in 1999, it was
extremely unpopular. Indeed, opposition to the idea helped motivate the indigenous people
who triggered the January 2000 coup that cost Mahuad his term in office. They realized that,
as the country's poorest people, they had the most to lose from the dollarization process,
the price of seed, fertilizer, and insecticide would be sure to rise, while their incomes would
Despite the resistance to Mahuad’s plans to change the currency, his successor,
President Gustavo Noboa, followed through on them, and, although it's still too early
to assess the full impact of dollarization, the results so far have been positive.
Inflation and unemployment rates are both improving, although the transition
process has proven a little difficult for the large number of people living below the
poverty line. Unemployment now fluctuates between 10 and
15 percent and half the population is estimated to be underemployed.
Inflation has been tamed, and the civil unrest that led to the January 2000 coup
seems to have died down.tn20Q1, Ecuador was the fastest growing economy in
Latin America, with GDP expanding by 5 percent.
Despite the stabilizing effects first felt after dollarization, a number of concerns
persist. Some pundits have suggested that the impressive results are just a flash in
the pan and that sustainable growth will be much harder to achieve. They point to
the economic meltdown in Argentina as a prime example of what can go wrong in a
dollarized system. Analysts say that for dollarization to work long-term in Ecuador,
the government needs to strengthen public finances, but various plans to do 80
(including increasing the value-added tax and privatizing the electricity companies)
have been slow in progressing. .
There is also a certain amount of unease over the effects of dollarization on the
country's many poor people. The higher cost of basic necessities is causing problems
in rural indigenous communities, where people live an agrarian life and stilt buy and
sell their produce in.Sucres. Development activists say they would like to see more
government money spent on antipoverty programs in the wake of dollarization.
Global businesses operating in these countries will find that the economies remain
fragile. Argentina, once considered a model country for regional economic success, is
being forced to reinvent its financial policies. Ecuador, currently in a stat~ of steady
progress, must hope to elude the problems of Argentina's economic crisis. The longterm effectiveness of dollarization, and the future of these two countries, remains to
Your response to each question must be a minimum of 500 words.
Each case must have an executive summary of the issues discussed in the case.
1. Identify two core factors that caused the Argentine economic crisis. Did
Dollarization help Ecuador in overcoming its economic crisis and in improving its
2. Compare and contrast the two different approaches of Argentina and Ecuador to
their currency crisis.
3. Do you think dollarization is the best response to fix currency problems? Why or
4. What would you do differently in the case of Argentina and Ecuador to prevent
the crisis occurring again?
5. Do you think each country should have its own currency? Provide arguments for
and against this.
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