The news that Argentine President Cristina Kirchner has decided to nationalize the country’s private sector pensions created a earthquake that threatens to have an impact throughout Latin America. This sudden change in the rules of the game has revived fears about legal security in the region and a shutdown of foreign investment. Coming in the middle of a global financial crisis, Kirchner’s decision could create trouble not only for the Argentine economy, but also for the other countries in the subcontinent, according to some experts who spoke with Universia-Knowledge at Wharton about the reasons behind this controversial measure and its potential impact.

According to Gerald McDermott, a management professor at Wharton, in order to understand what is happening, one must look at the Argentine situation, not necessarily from an economic perspective, but mainly from a political one. In his view, everything stems from an attempt by Cristina Kirchner to maintain power. “You have to remember two very important things. On the one hand, just before summer, Kirchner lost the vote on the famous tax that she wanted to apply to agricultural exports. She lost by only one vote; vice president Julio Cobos. This showed that she lacked support even within her own party. The second thing is that, just before the economic crisis broke out, Kirchner was renegotiating her country’s debt. Next year, public debt worth $22 billion falls due, and Argentina needs to get that much money in addition to financing the country’s growth. That’s because her political power has been based on economic growth. And next year, she faces elections.”

Some experts suggest that Kirchner sees private pension plans as a possible way to finance $30.6 billion. That sum is the total value of the portfolio of funds managed by the administrators of the AFJP, the country’s retirement and pension plans, which uses the savings of 9.5 million workers. The public sector for distributing those funds, currently composed of 4.5 million members, will be expanded. If Kirchner manages to move her proposal forward on October 30, it will be submitted to a vote.


Olivia Mitchell, professor of risk and security management at Wharton, and director of the Pension Research Council, distrusts the Argentine president’s move. “This won’t manage to rebuild confidence in the economic future of the country nor re-build Argentina’s pension system,” she says. “In reality, retirees will be much worse off after this nationalization of private accounts because there is no certainty that the new system they are planning will have enough funds to pay the pensions of Argentines in the future.”


Rafael Pampillón, professor of macroeconomics at the Instituto de Empresa, agrees. “Argentine retirees are not going to wind up making money from this measure. The country is going to expropriate at a low price because that’s the way things are now, and pensions will be lower in the future. So I believe that the main victims of this decision are Argentines themselves. The true drama of this measure is not about the commissions that the fund managers will give up, but about future retirees.”


According to official data of the magazine América Economía, the AFJP has accumulated losses of 20% over the past year, and that could put at risk its ability to pay minimum pensions. But fund managers remember that beginning in 1996, private pension plans have generated an average return of more than 7%. Experts are not confident that this sort of figure will ever be seen again if Argentina nationalizes its pension plans. On the contrary, they believe there will be some unfortunate consequences for the country’s economy.


Foreign Investors Lack Confidence


On October 21, the same day the nationalization plan was announced, the Peruvian association of pension fund administrators (AFP) said that Peru’s private pension system was on solid ground when dealing with the international financial crisis. “The members of the AFP can be absolutely certain that neither because of our economic model nor because of any need for stability will the same measures be adapted [in Peru] as those adopted in Argentina,” said Pedro Flecha, president of the AFP. The government of Chile, whose private pension system was imitated by Argentina, also announced that it would defend its current system. “The government can say that the savings of workers are in a safe place,” noted Andrés Velasco, that country’s finance minister.


Barely a day after the controversial Argentine announcement, the Buenos Aires Stock Exchange plummeted because of the news. It wasn’t the only market to do so. This new Tango Effect – that is to say, the contagion from Argentine instability – has been especially meaningful for Spain. The Ibex 35, the country’s main indicator, dropped by 13.48% last week, twice as fast as the average European stock exchange. The reason: The largest companies quoted on the Spanish stock exchange are very exposed to Latin America, and that led to significant drops in those companies’ shares.


In the three market sessions following the announcement by Kirchner, Repsol YPF, the oil company, dropped by 18.07%; Banco Santander by 22.95%; BBVA by 19.72%; Telefónica, the telecom company, fell 12.06%; and the two electricity utilities, Iberdrola and Union Fenosa, fell by 10.17% and 12.06%, respectively.


Mauro Guillén, Director of Wharton’s Joseph H. Lauder Institute for Management & International Studies, believes that the collapse of the Spanish stock exchange is one of the clearest demonstrations that foreign investors lack confidence in this measure, and it is a harbinger of a retreat [from Argentina] by foreign companies. “Apparently, Argentina just doesn’t learn. Once again, they are going to isolate themselves from the world by making a decision that shocks investors and corporations. It is a tragedy repeated every six or seven years. Spanish companies have been reducing their presence there for some time, and this will only accelerate that process,” he says.


The direct result of this lack of confidence is higher country risk, which shot up 44% during the week when Kirchner announced her intentions. This is another unfortunate indicator, says Mitchell, who adds that “The sense of economic uncertainty has sharply increased, making it practically impossible to evaluate risk. If this continues for a long time, it will be economically exhausting.”


According to McDermott, Kirchner’s move “will clearly have a negative impact on the economies of Argentina and the entire region. The first and foremost concern is the weakness of banks because the [Argentine] government and its Central Bank are spending a lot of money to prop up the stock market, the currency and the banks themselves. In addition, Kirchner’s decisions are adding substantially to the sense of uncertainty. In this fearful environment, investors are tending to move out of Argentina more rapidly.”


Pampillón agrees that every country in the region could be shaken by increased distrust. “Decisions such as these lead foreign investors to decide to get out. In addition, this growing lack of confidence comes at an especially critical moment, if you add the global financial crisis and dropping prices for raw materials, which are so important for these economies, Beyond that, there is the decline in remittances [from Argentine workers who live abroad], and problems that these countries are having when it comes to getting the cash they need for their economic development.”


Kirchner’s measure is a mistake, Pampillón adds. “You can carry out populist measures such as these during lean years, but not now when you need foreign financing. In fact, we’ll soon see that from [Venezuelan President Hugo] Chávez to [Ecuadorian President Rafael] Correa, including [Bolivian President] Evo Morales, they will all try to conciliate foreign investors.”


For McDermott, “The question now is if we are going to see a great anti-government demonstration in the streets, as in June [when thousands of people demonstrated against the change in the tax on agricultural exports]. There are some clear examples of this type of protest, such as the famous banging on pots and pans that took place during political protests in 2001. This isn’t happening yet because the AFJP are good targets for criticism.”