President Javier Milei’s government unexpectedly let the peso drop this week, while also taking steps to stop a mass exit from the currency that could spark inflation again. Last week, the government spent about US$100 million each day to support its falling currency before an important provincial election. Now, the Treasury has reduced dollar sales in the spot market, which has led the peso to weaken near the top of its trading range. Economy Minister Luis Caputo said late Thursday that the Treasury had pulled back on indications that the market was returning to normal.
While the Treasury was withdrawing from the market, the central bank was intervening to support the peso by selling overnight repos to absorb some of the cash that investors had been using to purchase dollars. Information shows that the bank has restarted selling dollar futures contracts to support the peso. The policies have mostly been effective so far — local interest rates have dropped from their peak levels and foreign bonds have recovered from Monday’s decline — but officials have less flexibility moving forward. The peso fell 4% on Monday and has kept declining each day this week. It can’t drop much more without exceeding the upper limit set by the government. The Treasury is running out of cash, and the central bank’s dollar futures operations are getting close to their legal limit. Rates are lower than last week, but they remain at 35%.
“The government is running out of tools to influence the market,” said Gabriel Caamaño. Central Bank futures are currently around US$6 billion, according to Caamaño, which is among the highest levels ever recorded and close to a US$9-billion regulatory limit. At the same time, Treasury cash deposits in foreign currency have dropped below US$1.1 billion, which restricts its ability to intervene. The government’s decision to allow the peso to weaken a bit surprised the market. This came after Milei had stated there would be no policy changes following his loss in the local elections in Buenos Aires Province over the weekend. Pedro Martínez, stated in a report to clients that the government is using “distraction tactics.” “They state that they will not alter monetary or exchange rate policy, even as they make significant changes to the system.” Officials took a step back after market liquidity returned to normal following the “attacks” before the election in Buenos Aires Province, Caputo mentioned during a live-stream late on Thursday. Before the vote, investors were reducing their stakes in Argentina, and on Monday, they quickly sold off after Milei’s party faced a significant defeat.
“This week, we haven’t participated in the exchange market at all,” Caputo stated. If the peso is trading lower due to the market seeing more risk or needing more protection, “that’s up to the market to determine.” Liquidity is back, so we don’t have to be present. Caputo did not bring up the use of repos or sales in the dollar futures market. The Central Bank chose not to provide additional comments, and the Economy Ministry did not reply to requests for information. Argentina’s practical approach has stopped the decline in the country’s assets. Sovereign notes that will mature in 2035 increased by nearly three cents over the last three days, recovering some of the losses caused by the electoral setback on Monday. The three-day climb is the highest it’s been since June. “Markets are paying attention to how the foreign exchange system operates and if the authorities will have to step in by October,” said Ivan Stambulsky. “The days following the election were encouraging in this aspect, but the foreign exchange is nearing its limit, and we cannot dismiss the possibility of increased foreign exchange sales in the weeks ahead.”
During the live-stream with Caputo on Thursday night, Central Bank Governor Santiago Bausili stated that “the exchange rate policy will remain unchanged” and that Argentina will maintain the exchange rate bands. Investors are worried that Milei’s party might lose the midterm congressional elections in October, which could weaken his efforts to reform the second-largest economy in South America. To avoid that, the libertarian must stabilize the peso, lower interest rates, and boost growth. However, as people lose trust in the peso, achieving that will be quite challenging. Investors like Paula Gandara, believe that volatility will stay high until the vote in October. Following his party’s defeat in the Buenos Aires weekend election, Milei promised to correct political errors, leading to speculation about a possible Cabinet change. So far, the President has not shown any major changes to his team, and early signs of stronger connections with governors that could improve his position have not appeared yet.
More problems in Congress might also negatively impact the notes. Morgan Stanley dropped its positive outlook on Argentina following the election defeat. Before the Buenos Aires vote, Argentine assets faced pressure as investors reduced their exposure. This was due to corruption allegations involving the inner circle and setbacks in congress, along with a desire to lessen risk ahead of the vote. The Central Bank increased its use of overnight, interest-bearing repos to help support the peso, just two months after ending the seven-day repurchase agreements called LEFIs. Beginning in late August, a new one-day security, labeled as “other” on the Central Bank’s balance sheets, started to show up. The bank sold 1.1 trillion pesos of the new repos on Tuesday, increasing the total to 4.5 trillion pesos. Repo yields dropped to about 35 percent, down from peaks of 45 percent at the beginning of the week. This decline followed a weaker peso, which reduced concerns about a sudden devaluation and relieved some pressure on local rates.
It also sold dollar contracts, increasing the market’s open interest by US$125 million on Wednesday, bringing the total outstanding position to around US$7.8 billion. Historical data shows that the Central Bank accounts for roughly 80 percent of those positions. “The true challenge will arrive at the start of the month,” Caamaño stated. “That will be the time when tensions might rise again, as the electoral chatter will come back and people, who are currently holding too many dollars, will once more have pesos in their hands.” We will find out how much belief supports this new, practical approach.