Segment 2 Of 2     Previous Hearing Segment(1)

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ARGENTINA'S ECONOMIC MELTDOWN: CAUSES AND REMEDIES,

TUESDAY, MARCH 5, 2002
U.S. House of Representatives,
Subcommittee on International Monetary Policy and Trade,
Committee on Financial Services,
Washington, DC.

    The subcommittee met, pursuant to call, at 1:33 p.m., in room 2128, Rayburn House Office Building, Hon. Doug Bereuter, [chairman of the subcommittee], presiding.

    Present: Chairman Bereuter; Representatives Oxley, Shays, Sanders, Frank, and Sherman.

    Chairman BEREUTER. The hearing will come to order.

    Under the normal committee rules, we will permit the Ranking Minority Member and the Chairman 5 minutes, as well as the Chairman of the Full Committee, and others 3 minutes for opening statements.

    I will begin by stating the subject of today's hearing. The Subcommittee on International Monetary Policy and Trade meets today in open session to continue its examination of the financial crisis in Argentina, including the activities of the IMF within this country.

    The subcommittee will hear from a distinguished panel of private sector witnesses. Previously on February 6th, the subcommittee listened to the testimony from the Under Secretary of the Department of the Treasury for International Affairs, Dr. John Taylor, on the subject of Argentina.
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    Before introducing our distinguished witnesses at this second hearing on Argentina, I would like to remark upon the current fiscal situation in Argentina and call to the Members' attention that at your desk you have two updated products from the Congressional Research Service that are again provided, which I find instructive: A chronology of relevant events in Argentina; and a CRS Report on the Argentine Financial Crisis. When looking at these CRS reports, it is important to note that the events are changing in Argentina on an almost daily basis.

    As we discussed at our first hearing in 1991, the Argentine government established a currency board to set the peso's value on a one-to-one peg with the U.S. dollar in order to curb hyperinflation. However, because the value of the U.S. dollar appreciated over the past 10 years, it became increasingly difficult for Argentina to export its products. In fact, by the end of 2001, Argentina defaulted on its total foreign debt of approximately $141 billion which resulted in an economic crisis that spiraled into deadly protests.

    On February 3 of this year, the Argentine government declared that the local peso would free float and all dollar debts would be converted into pesos at a rate of one-to-one. Creditors and banks have suffered as a result of this pesofication of debt. Furthermore, this economic plan also turned all dollar deposits into the local peso at a rate of 1.4 to the dollar. This devaluation of deposits has angered middle class demonstrators because of their loss in savings.

    Since this subcommittee's last hearing, the following main events in Argentina have occurred:

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    On February 11th, the Argentine peso was free floated, as I mentioned. As of March 2nd, the local peso was trading at 2.15 to the U.S. dollar.

    Furthermore, on February 18th, unemployment in Argentina reached a high of 22 percent. In addition, petroleum workers began to protest a 20 percent energy export tax. Other protests continued as a result of the strict bank restrictions on withdrawals.

    On March 1, the lower House of the Argentine Congress passed President Eduardo Duhalde's budget bill for 2002 which included a proposed reduction of spending by over 14 percent. This measure importantly eliminated the monthly minimum of $650 million in Federal grants to the provinces which has been draining the Federal budget. According to the most recent press reports, the upper House of the Argentine Congress has yet to act on President Duhalde's budget for 2002.

    As far as the role of the IMF in Argentina goes, we can remember that they agreed to a 3-year, $7.2 billion arrangement with Argentina in March 2000. Moreover, in January 2001, the IMF augmented its earlier agreement by pledging another $7 billion to Argentina. However, the IMF withheld its $1.24 billion loan installment on December 5 of last year.

    With regard to the recent budget for 2002 which passed the lower House of the Argentine Congress, as I mentioned, the IMF publicly welcomed this austerity measure that reduced the federal deficit and addressed the federal/provincial relationship. The IMF has said that it may send a negotiating team—in fact I am told they arrived today. In fact, they will be directed by a person accepting a newly created position of Director of Special Operations, who will lead an effort to focus on countries facing crisis situations.
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    Now, as for IMF preconditionality reform proposals as they relate to Argentina, I think it will be interesting to see the thoughts of the witnesses on the concept of preconditionality for IMF assistance as it relates to Argentina. This recommendation was endorsed by the majority report of the Meltzer Commission, whose Chairman, Dr. Alan Meltzer, is testifying today. I take particular interest in the Meltzer Commission as I am the original author of the legislative language, which created this 11-person bipartisan Commission through the fiscal year 1999 Omnibus Appropriations Act. This Commission, which completed its report in March of 2000, was charged with studying the future of the IMF, the World Bank, and the regional multilateral development institutions.

    When Under Secretary Taylor testified before the subcommittee last month, he seemed to endorse the concept of preconditionality for IMF assistance as it relates to Argentina. Of course, there is merit in insisting a country have a sound economic structure in place before it receives IMF assistance. Yet, macroeconomic circumstances such as the political and economic repercussions on global stability also need to be taken into account on a case-by-case basis. A dissenting view of the Meltzer Commission, which was signed by Dr. Fred Bergsten, another of our panelists today, makes that point.

    Let me say lastly that, with respect to the IMF, it is important to acknowledge that there has been substantial criticism of the IMF's past performance. I have a strong concern about the advice that the IMF initially gave to Thailand and Korea at the beginning of the Asian financial crisis. The fact is that IMF's demands of Thailand and Korea were counterproductive, in my judgment. It treated these countries like their ''usual fiscal basket cases''and they were not fiscally troubled at the early stages of that crisis. Whether or not that treatment was the demand or recommendations of the U.S. Treasury Department in the Clinton Administration is not clear.
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    At the same time, we in Congress need to candidly admit, I believe, that if we did not have an IMF or an institution somewhat like it, perhaps a reformed one, we would have to create one. But, we also need to recognize that the U.S. Treasury has a very large role in influencing IMF policy and actions—some would say an inordinate amount of influence. And I take into account, of course, that we are the largest shareholder of the IMF.

    I would like to turn, before I introduce the witnesses at the table, to the distinguished Ranking Member of the Subcommittee, the gentleman from Vermont, for comments that he might have.

    Mr. SANDERS. Thank you, very much, Mr. Chairman, and thank you for holding this important hearing, and welcome to all of our guests for being with us today.

    I look forward to the testimony of all of you. My understanding is Dr. Weisbrot has recently returned from Argentina. Is that correct? So we especially look forward to what you have to say about the current situation there.

    I think we all know there is no debate that Argentina is in a major financial crisis. Unemployment is above 20 percent. The poverty rate is above 40 percent. The economy is in its fourth year of recession, and the country is now in the process of defaulting on its $142 billion foreign debt.

    I am confident that there is a lot of blame to be spread around regarding the Argentine financial crisis. For example, corruption in the Argentine government is a major factor that has to be looked at.
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    But to place the blame for the crisis squarely in the laps of the Argentine government is, in my view, shortsighted and inaccurate.

    We also have to take a look at the failed IMF austerity program, which I believe was a major contributor to Argentina's economic demise.

    Let me just quote from a couple of op eds that recently appeared. Interestingly enough, one is from a progressive and one is from a conservative, and I think there are very legitimate, strong concerns about what the IMF has been doing for many years, including Argentina, from both the left and the right.

    Robert Cutner is one of the editors of American Prospect, a progressive magazine. Quote: ''Argentina followed the IMF model more faithfully than almost any other nation. Its economy was opened wide. Its peso was pegged to the dollar. For a few years this sparked an investment boom as foreigners bought most of the country's patrimony, its banks, phone companies, gas, water, electricity, railroads, airlines, airports, postal service, even its subways.

    ''As long as this money came in, there were enough dollars to keep plenty of pesos in circulation. But the dollar/peso peg led to an over-valued currency which killed Argentine exports. And once there was little more to sell off, the dollars ceased coming in, which pulled money out of local circulation.

    ''As Argentina tanked, the IMF's austerity program pushed the economy further into collapse.''
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    And according to a recent op ed in the Wall Street Journal, not noted as a terribly progressive magazine, the IMF, and I quote: ''austerity programs in Argentina contributed to the collapse of tax receipts, sky high interest rates to compensate for currency uncertainty, and investment standstill, deadly riots, and the fall of the government.

    ''The IMF's policy pattern is as clear in Argentina as in previous collapses around the globe. It gives countries bad economic advice, then lends heavily to them, allows them to waste the new funds, and watches as the government's popularity plummets.

    ''When the economic crisis is deep, the IMF blames the government and pulls the plug, knowing that it always gets paid first and in full. In Argentina, as elsewhere, the population and the private sector are left holding the bag. The result is a country more deeply impoverished than it would have been without IMF involvement.''

    Mr. Chairman, since its modest beginning 55 years ago, the IMF has grown to become the most powerful financial institution in the world. Amazingly enough, this secretive organization dominated by a few wealthy countries, has effective control over the economies of at least 50 developing nations.

    This in itself is a problem of enormous concern for those of us who believe in democracy. But there is, I think, not only in developing countries, but throughout the world, a growing sense that the IMF is not doing the job it was established to do, and it has taken on new jobs it is not able to do.

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    I think the bureaucratic expression is ''mission creep.'' The Argentine example is just the latest in a string of IMF failures in Asia, Africa, Russia, and many other parts of the globe.

    I was just in Russia a couple of weeks ago and we met with government officials there. They said, ''Well, you guys in the United States do not listen to your economic advisors. You send them to Russia. We listen to you, and thank you very much for the disaster that our economy is in. Keep them at home,'' is what they said. So I don't know.

    I think many of us, for many years now, have been urging the IMF to stop prescribing one-size-fits-all austerity conditions that inevitably lead to economic stagnation and poverty.

    I think all of us in a world in which so many hundreds of millions of people are living in dire poverty should be keenly sensitive to an institution which time, after time, after time tells some of the poorest countries on earth: Cut back on health care. Cut back on education. Cut back on food subsidies. That is a serious problem.

    So I think there is a lot to be thought about in terms of the IMF role in Argentina and many other countries.

    Mr. Chairman, thank you very much.

    Chairman BEREUTER. Thank you, Mr. Sanders.

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    Now it is my pleasure to recognize the Chairman of the Financial Services Committee, the gentleman from Ohio, Mr. Oxley, for any comments he might like to make.

    Mr. OXLEY. Thank you, Mr. Chairman. Thank you for the opportunity to participate in this hearing. Thank you for your leadership in this, and welcome to our distinguished panel.

    We have seen over the past several months the third largest country in Latin America on the brink of both economic and social collapse. The situation in Argentina is tragic, but it is a good lens through which we can examine changes that may need to be made in the operation of the IMF.

    Following last December's decision by the IMF to stop lending to Argentina, the government defaulted on its foreign debt and a succession of administrations attempted to govern the country. Some stability has returned and Argentina has begun to make the tough fiscal, money, and political decisions to begin the reform process.

    Argentina is a valuable ally of the United States in South America, and I hope that they can get their economic house in order.

    I am glad to see that the peso is now floating on the international market, and that the government has approved a budget that attempts to control spending. In particular, the reform made in the relationship between the provincial and federal government is key to reducing deficits and reigning in spending. However, there are parts of the economic reform package that are of concern. Specifically, the President of Argentina has announced a proposal to levy a tax on all companies that operate privatized businesses.
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    I question whether additional taxes should be levied on companies that are currently struggling in the midst of this crisis. Many of those companies are based in the United States, and additional taxation could force them to abandon projects that they are developing or maintaining in Argentina.

    Additionally, a proposal that contracts in pesos, contracts negotiated in good faith, be paid in dollars, is troubling. By changing the terms of those agreements, Argentina casts doubts on the ability of U.S.-based companies to rely on assertions made by its government in the future.

    I was encouraged by the Under Secretary Taylor's testimony last month that the Department of the Treasury was working to ensure that U.S. interests are being treated on a level playing field with other foreign interests. I trust those efforts are continuing.

    As the largest shareholder in the IMF, the United States has the responsibility to ensure that the resources of that institution are being spent wisely.

    I believe that the IMF must take a hard look at its lending policies and ensure it is not granting loans to countries simply because they are in need of financing.

    The IMF must ensure that the money it distributes is making the greatest possible impact on improving the lives and economies of developing nations.

    Last week, the Secretary of the Treasury outlined before this subcommittee efforts that the Bush Administration is pursuing to ensure that the IMF cultivates growth and productivity in the regions where it operates.
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    I agree with Secretary O'Neill that increased communications with the market, a narrowed focus, and a policy of not bailing out countries that do not pursue sound economic programs are key goals for the future operation of the IMF.

    However, the IMF must also work with the recipient countries to ensure that they know what policies must be addressed prior to funding being cut off or being resumed. By establishing a blueprint of economic reforms for recipient countries to follow, the IMF will reduce the number of failures and encourage sound fiscal policies.

    Finally, Mr. Chairman, the IMF has proposed a plan to encourage an orderly workout when there is a default by a borrower country. While this proposal is in the early stages, I am interested in the opinions of our witnesses as to whether such a proposal is needed and how it could be established.

    I would like to welcome again our witnesses, and I look forward to a very lively and interesting debate. I yield back the balance of my time.

    Chairman BEREUTER. Thank you, Chairman Oxley.

    Other Members are entitled to up to 3 minutes for opening statements. The gentleman from Massachusetts, Mr. Frank, is recognized.

    Mr. FRANK. Thank you, Mr. Chairman.

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    I want to express my hope that the witnesses will talk, either today or at some future point, about one element of this that is problematic.

    Mr. Sanders referred to it: The question of democracy. That is, it does seem to me we are too often in the position of advising countries to do things which no democratic society could easily do. Indeed, we are often telling them to do things that most of us would not vote for.

    We are telling them to impose on their own people-restrictive policies, increases in sometimes a very regressive taxation, cutbacks in various levels of benefits, and I am struck at the absence of understanding of the way democracy can and should function.

    I worry that in various cases—and it may be happening in Argentina. One of the things that troubles me about Argentina, in addition to the economic reality, are the comments I see reported in the press which are from people who have given up on democracy, who blame elections, who denigrate politicians, and that means they are denigrating the electoral process.

    I think one of the defects in international economic policy all during the 20 years I have been watching it has been a failure to appreciate this democratic element. It is too often that people neglect the wisdom of John Maynard Keynes in the political field. Too often, obviously, people are told that they should accept this or that very distasteful, unpleasant, difficult public policy because in the long run they will be better off.

    As you all know, as Keynes pointed out, in the long run we shall all be dead. That has a great deal of political wisdom. It is something that people in the particular situation understand.
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    So I would hope—and I must say, I do not see this sufficiently. As far as Argentina is concerned, I am interested to see what people have to say. It is a difficult situation. But I am struck that throughout the economic analysis that we get, too little is done to integrate our understanding of the democratic process into that.

    That is not simply a theoretical flaw. I think we run the risk in various places and times of undermining democracy. I do not want people to associate democracy with austerity, with that kind of rigor, and as I said, I see some evidence just from what is reported that one of the victims so far in the Argentine crisis is the respect the Argentine people have for the democratic process, for the electoral process.

    I would hope we would regard that as something also worth saving.

    Thank you, Mr. Chairman.

    Chairman BEREUTER. Thank you, Mr. Frank.

    The gentleman from Connecticut, Mr. Shays, is recognized.

    Mr. SHAYS. Thank you. I appreciate deeply that you are holding these hearings, Mr. Chairman. I cannot think of anything—well I can think of a number of things worse, but it is hard to imagine what it would be like to live in Argentina now and to think your life savings have disappeared, to not have a job, to not even know how you can begin to feed your family, with so many middle-class in that situation, a new experience for them.
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    I am also becoming more and more aware of how many countries around the world are dealing with debt service that is far above 50 percent. I think of 14 percent, 11 percent in the United States, and think of how we have found that a challenge. So I just am happy to be here, and grateful you are having this hearing, and I know we have expert witnesses and I thank them for their participation.

    Chairman BEREUTER. Thank you, Mr. Shays. Without objection, all Members' opening statements will be made a part of the record. And to the extent that the witnesses have written statements, they will also be entered into the record in full.

    I am pleased now to introduce the witnesses. They make a very distinguished panel with what we expect to be diverse views on Argentina and the Argentine-IMF relationship.

    First we will receive testimony from Dr. Allan Meltzer. Dr. Meltzer is Professor of Political Economy and Public Policy at Carnegie Mellon University, and a former member of the President's Council of Economic Advisors. He is currently also a consultant to the World Bank.

    Second, Dr. Fred Bergsten, the Director of the Institute for International Economics, will testify. Dr. Bergsten has been the Director of the IIE since its inception in 1981. He was an Assistant Secretary of the Treasury for International Affairs from 1977 to 1981.

    Third, we will hear from Dr. Mike Weisbrot, the Codirector of the Center for Economic and Policy Research in Washington, DC. Dr. Weisbrot, who received his Ph.D. in economics from the University of Michigan, specializes in international economics with a particular emphasis on the role of the IMF. He is also an author of a weekly column on economic and policy issues that is distributed to the newspapers of the Knight-Reiter-Tribune Media Services.
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    Finally, Dr. Steve Hanke, a Professor of Applied Economics at the Johns Hopkins University in Baltimore, will testify. Dr. Hanke has advised many different foreign governments on currency reform and privatization. With respect to Argentina, he served as the advisor to the Minister of Economy at the Republic of Korea in 1995 and 1996. It is also important to note that Dr. Hanke is the President of Toronto Trust Argentina, which is an emerging Market Mutual Fund in Buenos Aires.

    Gentlemen, again thank you for coming. Dr. Meltzer, we will hear from you. I would like to ask the panelists if they could restrict their comments to about 8 minutes, and you may proceed as you wish.

STATEMENT OF DR. ALLAN MELTZER, PROFESSOR OF POLITICAL ECONOMY, CARNEGIE MELLON UNIVERSITY

    Dr. MELTZER. Thank you very much.

    First I would like to say, Mr. Chairman, that I owe you a vote of thanks, and also I guess I bear some scars for your having created, or helping to create, the International Financial Institutions' Advisory Commission that in the usual way has been named after its chairman, me. So I thank you for that.

    Argentina is now suffering from a deep and prolonged social and economic crisis. Its roots are political as well as economic. The political system seems unable to develop a coherent, consistent plan to solve or improve either Argentina's current position or its longer term structural problems.
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    The need for a plan or program to restore growth and output and employment without renewing inflation cannot have escaped the leadership. They have received this message from President Bush, Secretary O'Neill, the IMF, and others, including me, and Adam Lerrick when we were in Argentina talking to many of the people who are now in the government just before the new government formed.

    Without a plan that begins to resolve current liquidity, financial, economic, and human problems, there cannot be a resolution of the crisis. Additional financial assistance from the international financial institutions, led by the IMF, cannot solve Argentina's problems unless Argentina adopts a coherent, consistent plan. This is the democratic solution that Mr. Frank discussed so fully a moment ago.

    Argentina has three fundamental problems that brought it to its current deplorable position, with massive loss of wealth and increase in misery.

    First, its debt could not continue to grow and be serviced by Argentina's economy and exports. Astute observers recognized publicly more than a year ago, and privately as early as 1999 in my experience, that Argentina's foreign currency denominated debt was unsustainable.

    Second, Argentina's budget deficit increased its debt and undermined its monetary policy. The convertibility law tied the peso to the dollar and permitted unrestricted convertibility at a fixed exchange rate. This arrangement could not cope with an unsustainable debt on one side and an over-valued exchange rate on the other. The appreciation of the dollar and the depreciation of the Brazilian real made Argentina an unattractive place for investment and a costly place to buy.
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    For example, when we were there, Argentine apple growers and people with orchards said that the cost difference between their product and Brazil's was something on the order of 30 percent.

    Third, Argentina made many reforms in the early 1990s, but it did not develop a budget policy, or pass a fiscal responsibility law that controlled provincial spending. And it did not remove some of the structural impediments to growth.

    The current Argentine government has not proposed a coherent, consistent plan. Some of the actions that have been taken are piecemeal efforts to solve a particular problem without regard for the larger consequences. For example, the monetary authorities did not have enough dollars to convert peso deposits into dollars, as required by its monetary regime, so the government declared that all dollar deposits had to be converted into peso deposits at 1.4 pesos per dollar. This increased the potential money supply by about 30 percent, raising concerns about inflation. To assure the public that they would not lose from inflation, the government suggested indexing peso deposits to inflation. As inflation increased, the government or the central bank would print more money. This policy would lead to hyperinflation.

    Argentine citizens have had such miserable monetary and economic experience for the past 50 years that they understand better than most the links between the central bank's printing press and inflation. Their response is to run from the peso before the inflation reduces the value of their money. This response further drives down the value of the peso, raising Argentine costs and prices. Unions, anticipating inflation, have asked for a 40 percent increase in wages.
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    The economy is collapsing. Construction activity in January was 44 percent below year-earlier levels. Because bank deposits were frozen, January's supermarket sales were 30 percent lower than the previous month. The unemployment rate is above 20 percent and rising as the economy sinks. The government announced that it does not have enough money to pay the wages of government workers. Meanwhile, it raised the incomes of those in the senior brackets of the civil service and in the government.

    No one can fail to be concerned with and distressed by the fate of the Argentine public. People are fleeing the country. Lifetime savings are threatened, and bankruptcy and joblessness are high and rising. A decade after suffering the chaos that accompanied hyperinflation, people suffer from renewed economic collapse.

    What can the IMF and other international institutions do? What should they do? The IMF has not ignored Argentina. In March 2000, it offered a $7.2 billion loan. In January 2001, when the sustainability of Argentina's debt was very much in doubt, it offered $7 billion more as part of a $20 billion official package. In August 2001, it advanced an additional $5 billion to prevent a banking and currency run. It should be clear to all that more money without policy changes did not work. The IMF announced new negotiations last week.

    Would more money now help Argentina or its people? Until Argentina has a credible, coherent plan, the public has no reason to want to hold pesos. Giving money now would give the Argentine government money to support its exchange rate and its budget. That is another way of saying the holders of Argentine pesos would be able to get dollars on more favorable terms, and the Argentine government could maintain a larger budget deficit and avoid pressures to establish fiscal responsibility. This is not just conjecture. It is a description of what happened to much of the aid Argentina received in the last 2 years.
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    I favor assistance to Argentina once it has adopted a coherent, consistent plan. Such a plan is needed to ensure that money advanced to Argentina is not used to support an exchange rate peg or slide, to sustain budget deficits, or to permit creditors to avoid losses. That is how additional support would be used in the absence of a plan that the government adopts and implements.

    In December 2001, Adam Lerrick and I discussed these issues with members of the Argentine government, and with those who were then in the opposition but are now in government. There were seven problems that have to be addressed. Some are interrelated.

    First, external debt has to be reduced to a sustainable level. The debt is now in default. It has to be renegotiated. It cannot be renegotiated until there is some kind of coherent, consistent plan that allows the creditors to get some judgment about what they are likely to get.

    Second, Argentina needs a credible exchange rate regime to replace the present blocked exchange system of currency controls.

    Third, no exchange rate regime can remain credible or be sustained unless the monetary system produces low inflation or stable prices. The government must make the central bank independent and adopt a rule that prevents the central bank from printing money to finance the budget deficit.

    Fourth, a stable fiscal regime, with budgets close to balance sustains credibility of the monetary system and exchange rate stability. The fiscal system should also encourage efficient use of resources to increase living standards, and the government should adopt the fiscal responsibility law applicable at all levels of government. Many of Argentina's fiscal problems, as many of you have pointed out, result from excessive spending by the provinces financed by the central government.
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    Fifth, adjustment of the Argentine monetary and exchange rate system should avoid asset and liability mismatch. Argentina's current government has wiped out the capital in the banking system and crippled the payment system.

    Sixth, any policy today must convey unpleasant news. It should also convey some good news by reducing the 21 percent value-added tax as much as possible to stimulate private spending and to shift spending from the informal to organized markets.

    Seventh, there is a pressing need for liquidity. Adam Lerrick and I proposed a way to reconcile an increase in liquidity and spending with safety and soundness of the financial system. The government adopted a version of this proposal.

    The Argentine crisis affects not just the IMF, it poses a challenge for the World Bank with 8 to 10 percent of its outstanding loans to Argentina, and the Inter-American Development Bank, with 20 percent of its loans to Argentina. An Argentine default on these debts would severely impact the capital of these institutions. The lesson from this problem should not be to send more money; it should be to reform these financial institutions.

    In summary, I support the IMF's current program. It is a major step forward from the open-handed bailouts of the 1990s. The new policy is exceedingly painful for Argentina because the government has failed to make adjustments and reforms necessary for growth. Financial support is wasted when the economic structure is unsound. I urge the Members of this subcommittee to support the important steps toward reform that Secretary O'Neill and Managing Director Koehler have underway. I urge them to continue with their effort to reward performance and to insist that promises must be kept.
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    Thank you.

    Chairman BEREUTER. Thank you, Dr. Meltzer.

    We will now hear from Dr. C. Fred Bergsten, Director of the Institute for International Economics. You may proceed as you wish with 8 minutes.

STATEMENT OF DR. C. FRED BERGSTEN, DIRECTOR, INSTITUTE FOR INTERNATIONAL ECONOMICS

    Dr. BERGSTEN. Thank you very much, Mr. Chairman.

    I largely agree with the analysis and presentation that Dr. Meltzer has just put forward. So in my remarks I would like to focus on the relationship between what has happened in Argentina and the role of the International Monetary Fund and what implications the Argentine developments have for the functioning of the international monetary system and, likewise, what changes or reforms in the monetary system have meant for the effects of the Argentine situation outside Argentina itself.

    Let me first talk about the interaction between Argentina's travails and the functioning of the International Monetary Fund. I think the IMF is in severe danger of whipsawing itself over Argentina.

    The problems for a very long time was not that Argentina was too—that the IMF was too tough on Argentina, but rather than the IMF was much too soft on Argentina.
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    All during the period of Argentina's boom in the late 1990s, the IMF did not insist that Argentina tighten its fiscal policy and develop the kind of responsible underlying measures that would have permitted its boom to be sustained.

    There was no pressure on fiscal policy during that period. There was toleration of a Currency Board arrangement that was bound to become unsustainable and led to a crisis.

    The IMF, in short, tolerated unsustainable debt and exchange rate situations over an extended period of time. Then, with its two large rescue packages in 2000, and particularly in the summer of 2001, the IMF threw huge financial packages into the support of unsustainable policies.

    In short, the IMF was much too soft. Indeed, when the IMF went to its second rescue package in August of last year, it seemed to be gambling for redemption. When its first package did not save the day, it went for a bigger second package, just like we sometimes says private banks facing bankruptcy try to gamble for redemption. It is almost like the IMF was doing the same thing.

    The IMF then became viewed as too harsh once the situation exploded and the crisis hit. But I want to underline, it was too soft for much too long. And only belatedly did it begin to suggest the kind of policy changes that are needed.

    My fear, however—and this echos something that Mr. Frank said a moment ago—the IMF might now become too harsh. If it sits back too long, if it fails to accept a responsible problem that is the best the Argentines can do within the context of democracy, as Mr. Frank mentioned, then it will become too harsh, will fail to help the Argentines recover from their own circumstance, and will further discredit the IMF.
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    In other words, if the IMF goes from being too soft to too, too harsh, it will be just like the private commercial banks who lend too much when a country is booming, and then back out when the country is hurting and made the situation worse by increasing both sides of the gyration of the seasaw.

    That I think is the problem that faces the IMF now. Dr. Meltzer is of course right. There has got to be a solid program that gives a prospect of recovery. But if the IMF, the U.S., and everybody else insist on that program being too harsh after they have failed to insist that Argentina tighten its belt back when it could have done so without huge cost, they will make the situation worse and it will implode further.

    My second point is that the U.S. Administration, much as I hate to say it, has performed even worse because they have whipsawed themself.

    They came into office indicating that they would not support, quote, ''big bailout rescues of emerging market economies,'' yet they did it. They supported rescues for Argentina, which have clearly turned out to be unsustainable as I and others and Dr. Meltzer per his testimony were saying as long as two years ago.

    They did the same thing in Turkey. They have already whipsawed themselves by saying they would not go for big rescues of unsustainable packages, then going ahead and doing it. They have gotten the worst of all worlds. Their credibility has suffered.

    They too have to get back on track in the same way I suggested that the IMF has.
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    Now having thrown some brickbats, let me note that the good news is that the Argentine situation has generated much less contagion now than we would have expected in recent years.

    And I think the really good news is that fact is because of some basic improvements in the functioning of the international monetary system, the kind of reform that many of us have called for over the years.

    In fact, I would note not only has there been very little negative contagion, there has actually been some positive contagion.

    The Mexicans, for example, will tell you that they have gotten capital inflow as a result of money moving out of Argentina.

    One reason the Mexican peso has been the only currency in the world stronger than the U.S. dollar over the last couple of years is because money moving out of other emerging markets has moved into Mexico.

    As they have performed well, their policies have been strong, they have been linked to our own strong economy, they have gotten positive contagion.

    The reason there has been much less negative contagion is of course partly because the Argentine crisis had been anticipated for a long time. But so was Thailand in 1997. So to a large extent was Mexico in 1994. So that is not the sole explanation.
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    I think the key differences are changes in the functioning of the international monetary system indicating there have been improvements in the architecture.

    First of all, markets are learning to differentiate among different countries. It is not like in 1997 when everybody ran for the exits from all Asian countries when Thailand had had its crisis.

    That differentiation has been helped by the increased transparency of the system, the increased requirements for data submissions, the greater knowledge and sophistication of appraising the individual countries that have come with the attention to the international financial architecture over the last few years, fueled by things like the Meltzer Commission and other efforts to pursue improved performance.

    Second, many of the other emerging markets, especially in Latin America, have strengthened their domestic banking systems. Their reforms are not yet complete by any means, but they have strengthened their system in an extensive way in response to the call for such reforms dating back to at least 1997.

    The creation of the Bazelcore principles in that year really began to put the pressure on individual emerging markets to strengthen financial systems.

    The weakness of those systems was of course a common cause of all the crises in the mid-1990s from Mexico through East Asia. And the strengthening of those systems is one reason we have less contagion today.
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    Third, and I think probably most important, is the nearly universal adoption now of floating exchange rates. Not free floats. Managed floats. And indeed how to manage the floats is now one of the most important reform issues. But in fact practically every developing country has now moved away from the currency pegs of the past, whether it was a currency board, an adjustable peg, whatever it may be, they have moved to floating rates which provide important buffers against crises, particularly buffers against contagion from crises in the neighborhood as in Latin America now, and that helps mightily to avoid contagion.

    So the really good news is the lack of contagion at least so far in the traditional economic sense.

    I share some of Mr. Frank's concerns about political contagion. That depends on how fast Argentina resolves its situation and how effective and responsive the outside world is in supporting them.

    Final point. As the leader, as you mentioned, Mr. Chairman, of the minority of the Meltzer Commission, I cannot fail to note that at least in my judgment the Argentine situation reveals the shortcoming of Dr. Meltzer's majority's recommendations for prequalification for IMF programs.

    You will recall that those prequalifications focused almost solely on domestic financial systems. And indeed as I go back and read what the majority wrote, under its proposals Argentina would have qualified fully for IMF aid when the crisis broke.

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    Indeed, as I suggested in my original comments and criticism at the time, the Meltzer Majority proposal would in a way have underwritten the profligate fiscal policy of Argentina by authorizing IMF credits without any effort to correct it. Because the majority said we do not believe in conditionality. We do not believe in going after countries. If they have got their financial system in order, then go ahead and lend.

    It seems to me what has happened in Argentina clearly indicates the mistake that would have meant. I am therefore pleased that the recommendations of the majority were not accepted. I think the Argentine case suggests the wisdom of that outcome.

    Chairman BEREUTER. Thank you, Mr. Bergsten.

    Next we will hear from Dr. Mark Weisbrot, Codirector, Center for Economic and Policy Research. You may proceed as you wish, Doctor.

STATEMENT OF DR. MARK WEISBROT, CODIRECTOR, CENTER FOR ECONOMIC AND POLICY RESEARCH

    Dr. WEISBROT. Thank you, Mr. Chairman. I am going to go straight to these five points in my prepared remarks, because I hope we can actually look at some of the numbers having to do with what people have been saying about Argentina's fiscal situation over the last few years.

    So the first point is that the IMF must acknowledge that it played a large role in causing the current crisis of Argentina's economy. This is much more than setting the historical record straight. It is necessary to prevent the Fund from causing further damage. For example, Argentina has been in recession for nearly 4 years. During this time, the Fund has supported, with lending and political encouragement, fiscal tightening of the central government budget. This is something that economists in the United States would never recommend for our own economy during a recession, and it has undoubtedly worsened and/or prolonged the downturn in Argentina.
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    The Fund has also contributed enormously to the crisis by arranging tens of billions of dollars of loans to support the convertibility plan, which was clearly not a viable exchange rate regime. The result was an insurmountable debt burden, which ended in default last December. As shown below in the appendixes attached hereto, it is this debt trap, not overspending by the government—and I have to emphasize this—it was the debt trap that caused the crisis.

    Basically, the interest payments of the Argentine government increased consistently without the government increasing its primary spending, beginning with the Fed's decision to raise interest rates in 1994 and then on through the Mexican peso crisis and the Asian financial crisis, and the Russian and the Brazilian devaluation. That is explained in the appendix.

    But we should come back to that, because it is very important to get the causes of this straight and not pretend, as so much of the press and popular discussion does, that this is a crisis caused by the overspending by the Argentine government.

    Second, the IMF, the World Bank, and the Inter-American Development Bank and other official creditors should declare a moratorium on Argentina's debt service payments until the economy has recovered from the recession and achieved solid growth for at least a year. I think this is the very minimum these institutions can do to avoid worsening the crisis. Since the Fund presently functions as the leader of official, and often private, creditors, its decision—and therefore the decision of the U.S. Treasury Department—to declare a moratorium on debt service would help remove much of the uncertainty that now hangs over Argentina's financial future. Furthermore, the Fund could persuade private creditors to observe a similar moratorium.
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    An official moratorium on debt service is extremely important, because this is the biggest cloud that hangs over the Argentine economy. The government has been running a primary budget surplus, and the economy has a trade surplus. This is very important, because it means that there is no ''adjustment'' of the economy, usually referred to as structural adjustment, which is necessary if debt service payments are suspended.

    Further adjustment along the lines historically pursued by the IMF would likely only prolong the recession.

    Third, the IMF and U.S. Treasury should not try to impose austerity conditions on Argentina, and they should not take advantage of the crisis to impose other conditions for opportunistic or ideological reasons.

    By dragging out the negotiations of the government of Argentina insisting on unnecessary austerity, the Fund is adding to the uncertainty that undermines economic recovery. And I spoke with Argentine businessmen who told me that Spanish banks want to open lines of credit to Argentine companies in spite of the default, but they are waiting for the IMF to reach agreement with the government.

    This is just one example of how this creditors' cartel, which is headed by the IMF, can impair economic recovery in a time of crisis.

    And I want to get back to this, too, because this is really relevant to the question raised by Congressman Frank—I hope we can pursue this—of democracy, which is the most serious, or very serious political problem here.
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    During the Asian financial crisis, the Fund imposed more than 140 conditions on Indonesia as part of the loan package. As a result, the Fund's main impact was to get the government to guarantee private loans, rather than to promote economic recovery. More than four years later, Indonesia still has not reached its pre-crisis level of GDP. It would be a tragedy if the IMF led a similar so-called ''bailout'' in Argentina.

    Fourth, the first priority of any economic program must be to revive spending and production and pull the economy out of the depression. I emphasize this because many people have pointed to this, all the long-standing problems, corruption, the deep distrust of politicians, lack of confidence in the banking system as the root causes of the crisis.

    But these problems may exist, but it is not necessary or sufficient to cure them in order to get the economy going. And we can talk more about that if there is time.

    Finally, the most important question, I think, facing us right here is the IMF should state publicly what it is demanding from the Argentine government. The complete lack of transparency in the negotiations between the IMF and the government of Argentina invites abuse and corruption, and thwarts democracy in Argentina.

    This is something, if they cannot put forward what they are demanding, I do not see why economists and journalists and so many people just say, ''Well, the IMF is demanding a sound program, a responsible program.'' Clearly they have gotten it wrong. They got it wrong for the last 9 years in Argentina. They got it wrong in Brazil when they poured tens of billions of dollars into the Brazilian government and saddled them with debt to maintain a fixed exchange rate that was not viable there, and the economy recovered only after the currency collapse.
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    They got it wrong in Russia a couple of years ago.

    So clearly, they are not necessarily the best judge of what is a sustainable plan. If we allow them to determine in secret what the government of Argentina's policy is, we are inviting serious trouble.

    Now just to return to the question of the provincial spending which has been raised—and that is the latest thing that people are pointing to—I think we should understand that the provincial spending did not contribute to Argentina's crisis.

    There was overspending in the provinces, and it did rise very rapidly in the last couple of years, but it was not absorbed by the central government.

    So, for those who were loaning money to the provinces, it is the same as if they were loaning money to California or Illinois in the United States where the Federal Government does not guarantee their debt. Those lenders did not have to loan to them, and we should not allow the Fund or anyone else to just point to the provinces as a problem, or the source of the problem, because the central government of Argentina did not increase its revenue sharing with the provinces while they were increasing their spending.

    So this really was a problem of a debt trap. Argentina had a debt that was barely payable going into 1994, and they were hit by a series of external shocks. And I know Mr. Bergsten says, well, they should have cut more out of the budget. They cut 2 percent. According to the IMF, they cut 2 percent in fiscal 2000. That is the equivalent of $200 billion in the United States being cut from our budget in a deep, deep recession.
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    How much more could they have cut? We could get rid of our $450 billion current account deficit in the United States, if we wanted to, by going through another Great Depression, but that is not how it is going to happen, right? The dollar is eventually going to fall, and that is how it is going to be reduced, probably gradually.

    That could not happen in Argentina because they fixed their currency to the U.S. dollar. So you see this was a major set of mistakes that destroyed the Argentine economy, and it is unfair and counterproductive, I think, to try and blame it on the Argentine government's spending as though there were some kind of fiscal policy that might have saved this economy from the disaster that it is facing today.

    Thank you.

    Chairman BEREUTER. Thank you very much. You finished in only one second over. Good timing.

    Next we will hear, finally, from Dr. Steve Hanke. Dr. Hanke is a Professor at Johns Hopkins University, and President of Toronto Trust Argentina. You may proceed as you wish.

STATEMENT OF DR. STEVE H. HANKE, PROFESSOR, JOHNS HOPKINS UNIVERSITY; PRESIDENT, TORONTO TRUST ARGENTINA

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    Dr. HANKE. Thank you, Mr. Chairman.

    I have prepared some remarks that I would request be put in the record, and I will make just a few comments here particularly motivated by your opening statement as well as some of the statements that your colleagues made.

    It is very difficult to make any sense, really, out of this whole Argentine mess: what happened, how to diagnose it, as well as prescribe what should be done.

    I think most of the commentary is confused and very confusing. I would commend the current issue of The Economist Magazine. They have one of the leaders on Argentina and then a several-page analysis of Latin America. It contains everything but the kitchen sink. If you can make any sense out of it, you can go to the top of the class, I think. And this is just typical of what you have to contend with when you are trying to grapple with the problems.

    One example of this, by the way, Mr. Chairman, you mentioned what I call the overvaluation story. Some of my co-panelists have also alluded to it. Argentina tied the peso to the dollar in 1991. The dollar appreciated, was very strong; the peso became overvalued, the economy became uncompetitive.

    The problem is, the story just does not hold water. It is an interesting story. It has been repeated ad nauseam. But to be uncompetitive, your exports have to be weak and declining.

    Ever since 1991, in each full year, with the exception of 1999, exports have grown in Argentina. And in fact, in the first 11 months of last year exports increased by 3.2 percent. Last year, world trade only went up 9/10ths of 1 percent in the world.
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    So the relative performance of Argentina on exports has been very good. In fact, if the economy would have been growing at the rate exports have been growing, that debt service burden probably would not have overwhelmed them in the end.

    So you can cut the overvaluation story a number of different ways. If you want to get, shall we say, more scientific, we can use the Big MAC Index, and the Big MAC Index said in 1999 that the peso was overvalued by 3 percent. In 2000, it was not overvalued or undervalued. In 2001, it was undervalued by 2 percent.

    But, that did not stop The Economist Magazine from producing 26 major articles in that timeframe in which they claimed that the overvalued peso was making the economy uncompetitive and dragging the economy down in Argentina.

    So, those are the kinds of issues, and we have a long list, that we really have to get through if we are going to analyze Argentina.

    What made Argentina unique, I think, has really been missed. That is, their monetary setup really was unique. The U.S. dollar was legal. The peso was legal. They circulated in a bi-monetary system at a 1-to-1 exchange rate. That was one part of it.

    The other part that made it unique is that the peso holders had property rights in U.S. dollar reserves held in safekeeping by law by the central bank. Those were the two aspects that really made the system unique.

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    This means that the devaluation is not a normal devaluation in Argentina. It was a totally unique devaluation. It was not Brazil. It was not Russia. It was not Southeast Asia. What made Argentina's devaluation atypical was that the peso holders had property rights in those dollars that were backing—100 percent—the pesos that were outstanding.

    And when you did away with the convertibility system, you did away with those property rights to the tune of $17.8 billion. And, Mr. Frank, this is the issue of the rule of law and why you do not have any respect for the politicians in Argentina. They have sticky fingers and a long history of sticky fingers. So when you did away, through the devaluation, you really confiscated $17.8 billion worth of property.

    But of course, then we have gone on with pesofication of the economy. That has also rapped the rule of law on the fingers and created this governance problem and democracy problem.

    To have democracy, Mr. Frank, you have to have the rule of law. And of course, they do not have this in Argentina now. With the pesofication, what do you have?

    Loans were pesofied. This meant the banks lost $23 billion. Deposits were pesofied. This meant that depositors lost $12 billion and banks gained, of course, $12 billion.

    And also in the middle of the night, the central bank sent out armored cars and confiscated, seized, $1.6 billion in federal reserve notes in the banks.

    In addition to that, you have had many contracts that have involved U.S. citizens and U.S. corporations that have been torn up in the process of pesofication.
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    Now as far as the IMF's role, let me just quickly go through that.

    From 1990 to 1994, GDP grew on a per capita basis by an amazing 72.8 percent. This is when they put the convertibility system in and did some of the big privatizations. The IMF had virtually nothing to do with that.

    Post-the Mexican peso crisis in December of 1994, the IMF became very involved, and reforms, in effect, stopped in Argentina.

    In 1999, President Menem wanted to dollarize the economy and fix the currency problem once and for all. The IMF poured cold water on that.

    In 2000, de la Rua came in, and the IMF, in the middle of a slump, encouraged three very large tax increases. And these tax increases put Argentina in a very unusual situation with a large and mounting tax wedge the difference between gross labor costs and net wages. In other words, this is how much labor gets taxed: 42 percent. There is only one country in Europe where the tax wedge is higher—that is France at about 43 percent. This is almost double the tax wedge in the United States.

    Then you wonder why unemployment is so high and the underground economy is so vibrant.

    Then in 2001, as the situation went out of control, the IMF essentially turned a blind eye to the whole thing. The meddling with the convertibility system, the further tax increases in the middle of a recession, and meddling with a monetary system that had the effect of tightening monetary conditions. So you tighten monetary conditions and increase taxes in the middle of a recession.
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    So what shall we do?

    Many people think that the move toward floating has been a good thing and they heap praise on it. I do not think we are going to see the peso floating on a sea of tranquility. We have had a long history of sinking pesos.

    I think, in closing, it is very interesting that, thanks to Congressman Frank, Under Secretary Taylor finally fessed up that the best thing they should have done—and what they should have done in early December—was to dollarize the economy to give it a positive confidence shock.

    I think it is too bad that these things were not articulated by the Administration in a clearer game plan that could have been somewhat helpful in the situation in early December, but in any case, what they should do is dollarize the economy, point number one.

    And point number two, the U.S. Government should respect U.S. laws. If you look at Title 22, various provisions in the U.S. Code, it states that if property is seized or contracts are nullified in a foreign country involving U.S. citizens or U.S. corporations, U.S. foreign aid should not be forthcoming and the President should instruct the executive directors of the IMF, World Bank, and Inter-American Development Bank to vote no for any disbursements from those organizations to the country involved in trampling on the rule of law and property rights.

    Thank you.

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    I know I went over, Mr. Chairman, but I will shorten it up in the Q&A session.

    Chairman BEREUTER. That's all right.

    The three of you went over equally. Actually, we could probably stand back and just let you throw verbal arguments at each other, but I am going to recognize Chairman Oxley for 5 minutes, and the 5-minute rule will proceed in the normal fashion.

    Mr. OXLEY. Thank you, Mr. Chairman. I appreciate that.

    It is tempting to follow that advice and just have a jump-ball here among our distinguished panelists, and we may get to that if I have time.

    Let me ask you, Secretary O'Neill was here last week, Thursday, and testified regarding contagion. He basically pointed out that in his estimation contagion is simply a man-made phenomenon and that he saw little if any contagion with other countries because of the Argentina crisis.

    I am wondering if our panelists agree with that assessment from Secretary O'Neill? Or is it perhaps too early in the game to make that kind of a statement?

    Let's try Dr. Meltzer and then move on down.

    Dr. MELTZER. Well, sir, it has been a very interesting experience, because not only, as Fred Bergsten has said, has Mexico received an inflow of capital, but Peru went to the capital markets and was able to borrow at 9 percent interest for 10 years. It is the first time they have been in the capital markets in 70 years. They did that after the Argentine crisis, just 2 weeks ago.
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    Brazil has been cutting its interest rates. In all the countries in that neighborhood, for example Chile, most of those countries have not had a problem. And the reason for that, I believe, goes to the fundamental part of what contagion is about.

    Contagion was big in Asia because there were many countries that had similar problems, or appeared to have similar problems. It is just like the experience we are having right now.

    People look at Enron and say it has a bad balance sheet. They then go to look at all the other companies that have bad balance sheets.

    When they looked in Latin America, they saw that most of the other countries did not suffer from the Argentine problem, and that is why they left them alone. And, in fact, in many cases they received more capital, or they have been able to borrow in the capital markets. So no contagion.

    Mr. OXLEY. OK. I knew Enron would come in here somehow.

    Dr. Bergsten.

    Dr. BERGSTEN. As I said in my testimony, I agree with Secretary O'Neill on this one. I think there are three basic reasons why there has not been contagion in this case.

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    First, the markets do differentiate better, partly because of greater transparency in the markets, better information in them.

    Second, because the countries in Latin America in particular have strengthened their banking and financial systems so they do not have the same underlying structural difficulties that was the case even 5 or 6 years ago.

    And third, the move to floating exchange rates, which does provide a very important buffer.

    There was one other important reason for the contagion in Asia, and it was certainly manmade. It was the role of the Japanese banks. It is still not widely known that the Japanese banks were the major source of contagion in Asia. When the Thai crisis hit and weakened the already weakening balance sheets of the Japanese banks, they then pulled their loans out of other countries in the region: out of Indonesia, out of Malaysia, out of Taiwan, out of Korea.

    The contagion from the withdrawal of Japanese bank funds went right around the horn of the region and was an important factor in the contagion. Fortunately, we do not have that now, for the reasons I indicated, and I think that is likely to continue. I do not think it is a transitory phenomenon.

    Dr. WEISBROT. Well, you might actually get agreement here. If you put all the economists end to end around the world, they are never supposed to reach a conclusion. But I think on this one there is basic agreement.

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    The only thing I would add about the—and I think O'Neill was right about this, too—is if you look at the contagion from Asia to Russia and then Brazil in the 1998-1999 crisis—well, it actually started in August of 1997—that was really the profound irrationality in the financial markets.

    The part that Fred just described that's different: That is the Japanese banks pulling out their loans. But, investors pulling their money out of Brazil after the Russian devaluation is more of just an irrational phenomenon where they looked around and they said, ''Well, where is the next emerging market that other investors might think is in trouble?'' even if there was no solid economic basis for that.

    So, that kind of thing is really fundamentally irrational. It is part of the functioning of financial markets. It could happen again, but it does not look like it is happening here now.

    Dr. HANKE. I think one reason that we have not realized a lot of contagion from Argentina is their unique currency board like convertibility system. It is an extremely tough system that, in fact, surprise, did not fail.

    They had 100 percent reserves covering the monetary liabilities of their monetary authority at the end of the day when they threw in the towel.

    Usually when we have contagion motivated by an exchange rate crisis, what happens? The central bank loses all of its reserves. It cannot defend the exchange rate anymore. And the thing blows up. This was the Asian case. This was the Russian case. This was Brazil, and so forth.
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    If we want to really eliminate the possibility of contagion being motivated by foreign exchange rate problems, we should dollarize these emerging market economies. We should not be floating. Floating is not the way to go.

    If we look at Argentina, they had a central bank. It was established in 1935. The peso has depreciated against the dollar by a factor of 6 trillion since 1935. They have had one crisis after another with the only decade of exception being the decade of convertibility.

    So, if you think that a floating exchange rate is going to solve your problem, I think you are whistling in the wind, given the Argentine case. You can anticipate all kinds of problems and chaos, and ultimately, I think, official dollarization will see the light of day.

    We know everyone prefers dollars in Argentina, and you have a lot of unofficial dollarization, and will see more of that. I think ultimately when they really hit the wall they will go to official dollarization.

    Mr. OXLEY. Thank you, Mr. Chairman.

    Chairman BEREUTER. Thank you, Mr. Oxley. I say to the Chairman and all Members that since the House is not going to be voting until 6:30, we will not be interrupted. That is the positive side. So we can proceed with the second round of 5-minute questions, if that is the desire. I think it is probably desirable.

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    The downside, of course, for witnesses' information and for the audience, is that we do not have many Members back yet until 6:30.

    The gentleman from Vermont is recognized under the 5-minute rule.

    Mr. SANDERS. Thank you, Mr. Chairman.

    I do not claim to be an expert on Argentina, but I find this discussion to be extremely curious. In Nicaragua today, which is a small Central American country, unemployment, I think at last I heard, was 60 or 70 percent. Nobody really cares anymore. Left-wing government is gone. The New York Times does not care. It doesn't matter. People go hungry. It's OK.

    I suspect that the situation economically in Guatemala, El Salvador, total disaster. Who cares? Doesn't matter. Poor countries.

    Suddenly there is great concern about Argentina. And I detect a bit of arrogance on the part of some people. Some people suggest Argentina is a bad country. They do not respect the rule of law.

    Well, all of us believe in the rule of law. But that is what they do. And yet, billions of dollars have been invested in that country by very, very smart people—by U.S. corporations, by banks, by all these people, in a country that does not respect the rule of law.

    So what interests me, first of all, is why all this interest in Argentina? Are you guys worried about the children in Argentina today who are hungry? Are you worried about the educational system, which is collapsing? Are you worried about the health care system in Argentina? Are you really worried about the people in Argentina? Or maybe, just maybe, is there something else involved in here?
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    I think Dr. Hanke was perhaps most up front about this when he talked about how the IMF should perhaps not fund countries which do not respect the rule of law and are doing terrible things to American corporations.

    So, are we here because we are interested in protecting the investment of American corporations? Or are we concerned about the people of Argentina?

    Now again, I do not claim to be an expert on Argentina. I am aware that there has been massive corruption in that country, as well as other countries around the world. So what? So what? Why do American taxpayers or American citizens stay up nights worrying about that? That is their business.

    But, I detect that all of this interest in Argentina really has to do with something else. Not the people of Argentina, but corporate investments and the need to protect those investments.

    Now in that regard, I note that an article, March 2nd, Knight-Reiter Tribune News Service, quote: ''After more than 18 hours of debate, the lower house in Argentina passed and sent to the senate a budget that slashes spending by 14 percent compared to 2001 levels.''

    Now, my guess is that will mean less health care, less education, less affordable food, and other basic necessities of life.

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    Question to all of you: What is the reason for concern about Argentina? Is it the people of Argentina? Or is it American corporate investments in Argentina and the dangers that they are incurring?

    And second of all, in your economic judgment, if a country in the midst of a major depression cuts spending, unlike what we do when we have a recession, how will that impact on the poorest people in that country?

    Let me start off with Dr. Weisbrot and then go to the others, please.

    Chairman BEREUTER. Try to answer the gentleman's questions, both of them, but we need to be relatively brief.

    Dr. WEISBROT. Sure.

    Chairman BEREUTER. For all of you. I understand.

    Dr. WEISBROT. Obviously, we are concerned about the people of Argentina. I have written recently about Nicaragua and the situation there as well. They are the only country in Latin America whose income per person is lower than it was 40 years ago.

    There are also a lot of failed policies promoted by the IMF and the Bank in that country. These policies had something to do with its decline.

    When I was there, I spoke with a doctor who is running a health clinic in the neighborhood of Matanza, which is about 26 kilometers outside downtown Buenos Aires, and he told us that the malnutrition rate among children there was about 30 percent. The infant mortality rate was about 35 per 1000, which is very high.
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    He said everything was getting worse because hospitals were running out of supplies. It is a very severe crisis. It is affecting the poor, and I think it is horrible that the government is cutting their hospital budgets.

    I have not focused on the human side at this hearing, because I think the economic side is what people here need most to understand, because it is because of the widespread misunderstanding that our government is supporting, and, in fact, the IMF is pressuring, the government of Argentina right now to make those budget cuts.

    I feel that is wrong from an economic point of view, and it is terrible in its impact on the people there.

    Mr. SANDERS. Thank you.

    Dr. Meltzer, in a country in which children are suffering from malnutrition and their economy is collapsing, is it your economic judgment that they should cut back on subsidies for food, health care, and education?

    Dr. MELTZER. I think those are questions that are best left to the government of Argentina.

    Mr. SANDERS. Really?

    Dr. MELTZER. Yes.
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    Mr. SANDERS. But, what we are talking about here is the power of the IMF over that country. Can that country make decisions independently anymore?

    Dr. MELTZER. In fact, that's, I believe, what we have been fighting for, is to give those countries—put them in the position where the IMF does not dictate to them, where the World Bank does not dictate to them, but where they choose their own policies.

    I want to say that in response to your question, I do not share the dichotomy that you have set up. I do not think that there is a conflict between American corporations and local people.

    American corporations in most places are one group among many foreign corporations. There are many, many Spanish corporations, and indeed, many more Spanish dollars invested in Argentina than American dollars invested in Argentina.

    What was the Argentine government's first response? It was to put a tax on the foreign corporations in order to pay for the mistake, in my opinion, that they made in adjusting the banking system. That was a mistake. They blew a hole in the banking system, and then they said, ''Well, we will just make up that money by taxing oil companies.''

    Now, you may think that is a good idea. Let me just say the immediate reaction of the Spanish government was, ''we are going to protect our corporate citizens.'' So they went to Argentina and they negotiated that down, and that left a hole in the banking system.
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    Mr. SANDERS. No, no. I am not saying whether it was a good—it does not sound to me like good economic policy, but the point is——

    Dr. MELTZER. It wasn't good any kind of policy. It was a stupid thing to do.

    Mr. SANDERS. Let's assume that if you were an advisor to the Argentine government you say ''this is a stupid thing to do.'' What does this have to do with the average middle-class taxpayer in the United States that the Argentine government does stupid things?

    Dr. MELTZER. Let me answer it this way. I think that there is a human problem, and I talked about that human problem in my testimony. I think that we have tried hard, and, in fact, even though Fred Bergsten and I disagreed on many things about the so-called Meltzer Commission Report, one of the things we agreed on very much was on the use of grants in place of loans so that we could help people in poor countries, and the President's program has been to push that.

    So, I am not against humanitarian aid. I am for humanitarian aid. But in the case of Argentina, we have provinces where 50 percent of the population in the province works for the government.

    If you go to an Argentine office, you see obvious signs of overmanning. Just lots of people standing around doing nothing. There is room to cut some of those budgets.
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    Their tax rates are very high.

    Mr. SANDERS. If I could——

    Dr. MELTZER. So it is possible to make major fiscal changes without cutting education. That is a democratic decision of the Argentine government.

    Mr. SANDERS. Here is my point, and then I will——

    Chairman BEREUTER. Just a brief comment, Mr. Sanders, and then we will come back to you.

    Mr. SANDERS. Everything you are saying may well be right. So they have a bad government.

    Dr. MELTZER. Yes.

    Mr. SANDERS. What does this have to do with what the IMF does and whether we punish them or not?

    Dr. MELTZER. Well, there are two ways you can go on this, as you and I both understand, Mr. Sanders.

    You can say let's give them the money and help them, and allow them to continue to do the things that they do; or take away the money and get them to do some sensible things which will make it better in the future for both the children and the grandchildren of those people.
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    And people, you and I, can disagree about where the line between those two things are without necessarily disagreeing that both of those cases exist.

    Mr. SANDERS. Thank you.

    Chairman BEREUTER. We can come back to that if you would like, Mr. Sanders.

    I would like to move to Mr. Frank who Mr. Shays is willing to let go ahead of him.

    Mr. FRANK. I appreciate it, Mr. Shays.

    Chairman BEREUTER. The gentleman is recognized.

    Mr. FRANK. I have an ambassadorial appointment I have to meet, and so I apologize, too, because I would have liked to have stayed.

    When we talk about cutting back and everything, one of the things—could I ask, some of you are more expert in Argentina than others, and maybe I am missing something—is Argentina under any significant danger of attack?

    Does anybody know of any physical enemies menacing Argentina?

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    Mr. BERGSTEN. Mr. Frank, Argentina is sometimes characterized as a dagger aimed at the heart of Antarctica.

    Mr. FRANK. Yes, well——

    Mr. BERGSTEN. It has no national security threat whatsoever.

    Mr. FRANK. That reinforces my view that we should amend the First Amendment and ban the use of metaphors in the discussion of foreign policy.

    [Laughter.]

    Dr. MELTZER. Yes. But in fact, they have cut back considerably on their military.

    Mr. FRANK. Have they cut back on the military?

    Dr. MELTZER. Considerably under both the Menem government and——

    Mr. FRANK. But, one of the things that bothers me is when I look historically at the outside advice that is given, rarely are military expenditures among the items that other governments and the international financial institutions tell them to cut back. I think that is an indication of the kind of bias. People are told to cut back on other things.

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    We have many of these poor nations, it seems to me, overarmed, overairplaned, over-a-whole-bunch-of-things, and in the list of items that we are told, I can look at the IMF's list of things in the past and we're hoping to change these, and the military is rarely on the list to be cut back.

    Dr. Hanke, do you want to comment?

    Dr. HANKE. Yes. I was going to remark that President Menem and President Pinochet sorted out the last real potential conflict that they had on the border with Chile and Argentina in 1989.

    Mr. FRANK. Well I——

    Dr. HANKE. But at any rate, this gets back actually to your point. You can almost answer your own question. You raised the issue about democracy in your opening statement, and isn't this democracy at work? This is the whole problem with foreign aid. If you give them money, you know what happens.

    Mr. FRANK. No, Dr. Hanke, I do not follow that at all. Your restatement of my point I do not recognize. I do not understand how the problem——

    Dr. HANKE. Well I——

    Mr. FRANK. Excuse me, but it is particularly my turn to say what I said.
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    I must say, you did seem, to me, disturbed, at least my sense of your reaction was that you were somewhat unhappy with my discussion of democracy——

    Dr. HANKE. I agreed with it.

    Mr. FRANK. As I was with your definition of it, and I will get to that in a second. But, I do not understand how, if you give them foreign aid, you know what is going to happen. That just does not follow.

    In fact, what I am objecting to has been an excessively interventionist position by the international financial institutions and others in which they were told to make changes that I thought were unsustainable, both in terms of raising taxes, and cutting various kinds of spending.

    I was struck, because when you responded you seemed to me to define democracy down to basically observing the sanctity of contracts. Now I am all for that. And given John Locke, obviously contract law has a great providence in democratic theory. But you seem to me to restrict it almost only to that, and particularly you said that, well, no wonder there was all this distaste for democracy in Argentina given the way they devalued, and so forth.

    But, in fact, we went through three presidents before they got to devaluation. I mean the rioting and the troubles, it was not until Duhalde was in, which was two resignations already, or three, before he became president.

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    So, I did want you to elaborate on your view. It seemed to me you were attributing the lack of respect for politicians there largely to the failure to recognize the sanctity of contract, and things like economic inequities and people feeling they did not have enough to eat, or unemployment being too high did not seem to count.

    Dr. HANKE. Well, those issues do count. I think what you have to do to put the—I was not looking at it in a narrow context—if you go back to the Federalist Papers and look at those, for example, or particularly Hamilton's view on the rule of law, it is really broad-gauged. And so I would put my remarks about the rule of law, governance, and democracy in the context of the Federalist Papers, I believe.

    Mr. FRANK. Well, OK, then I would——

    Dr. HANKE. Broaden it out——

    Mr. FRANK. OK, I would say that I think that is not sufficiently broad today. The people who wrote the Federalist Papers and the Constitution were very smart guys for their time, but I think they had an insufficient understanding of the importance in a modern capitalist society of a more positive role for government.

    And I must say, I did kind of detect—let me ask one question, if I could. It is one of the dilemmas I have. Yes, I understand we have got debts that are contracted. They cannot all be paid.

    And there has been a lot of focus on the problem of moral hazard of encouraging people to lend improvidently, and I think that is something we have to deal with. But this seems to me one of those dilemmas, because if we are too harsh here, what is the impact on a flow in the future?
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    How do you deal with the problem of reducing moral hazard without getting to the point where you discourage people from lending in risky situations?

    Let me say, if I could have 30 seconds, Mr. Chairman, I see that analogy domestically. Sometimes my colleagues and I object to people who engage domestically in predatory lending, and lending to people who will be too much in debt.

    Then the next day we are upset because of red-lining. And if you never do any predatory lending, you will probably get involved in red-lining. Or at least if you do not lend to people who are shaky.

    What about that dilemma? How do we deal with the problem of moral hazard without discouraging people in the future in the private sector? I assume we want them to continue to make loans.

    Start with Dr. Meltzer.

    Dr. MELTZER. Yes. That is a subject I have thought about a lot, because we have proposed various kinds of preconditions. So, one of the ways to deal with that problem is to try to get countries to reform.

    We believe that the incentive system, which would occur with preconditions including, of course, one of the preconditions to correct something that Fred said, was that there be fiscal rectitude in a country, or fiscal stability in the country, which Argentina did not have.
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    So it wouldn't——

    Mr. FRANK. Fiscal rectitude. Now we have got from the Federalist Papers to Dickens. You have got to find another word other than fiscal rectitude.

    Dr. MELTZER. Whatever. You use the word. But we will both know what we mean.

    Let me just say that the bulk of the money that comes to countries comes from the capital markets. Something like 15 to 20 times as much as from the international institutions.

    If a country adopts solid policies like Mexico, like Brazil now, like Chile, then they get large amounts of money on much better terms because they are a better country from the standpoint of the lender.

    So, the way we deal with the moral hazard problem is, one, we put the responsibility, the onus, on developing the incentive to do that on the country. We want them to choose the set of policies. That was the whole purpose of precondition, that they would choose the policy.

    We would not get a laundry list from the IMF about things that countries should do, that maybe they would do and maybe they would not do, and most of the time did not do. What we would get was that the minister of finance of the country would go to his parliament and say ''we're going to do this because it is going to be good for our country.''
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    Second, we would get—one of the preconditions was—we are going to have foreign banks in the country. Now we have seen in Brazil, in Argentina, and elsewhere, that that really works quite well.

    Third, we want to do something which says let's get less of the money out of the short-term capital market, which is the way the system worked before, and let's get it into long-term lending and private capital flows. That is, foreign direct investment.

    Those are ways we reduce moral hazard.

    Mr. FRANK. That last point, in particular, is very interesting to me. If you could give us something in writing as to how we could do that.

    The last thing is the volatility, getting it into longer term would be a very good thing.

    Any of the others?

    Dr. MELTZER. I will write to you.

    Dr. BERGSTEN. Yes. I would just like to add, I think the moral hazard problem is vastly overstated. It is one of my least worries. This was one of the debates between us on the Meltzer Commission.

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    There is virtually no empirical evidence that moral hazard has been a source of any of the crises of the recent periods.

    If you want to do something about it, one way is to limit the magnitude of IMF support programs. A concern has been that countries, and particularly lenders, will lend excessively, build up excessive risk, because of the fear of an IMF bailout.

    Therefore, one remedy is to roll back the size of IMF rescues to the normal kind of quota arrangements, rather than the excessively large packages in the recent past.

    A second issue that has now come up is private sector involvement. Mr. Oxley mentioned the IMF proposal for more orderly debt workouts. I happen to support that.

    Not every line in the Kreuger proposal, but I think it is the right way to go. I think it does need to be worked out.

    The main fear about that is that it will limit the flow of private capital, in the future as creditors fear that they might get stuck in a workout position.

    I actually think it will work the other way around: a more orderly, regularized procedure will lead to a steadier and probably more proper level of flow reducing somewhat the huge seesaw, the excessive lending in good days, excessive pullouts on bad days, that I mentioned in my opening statement.

    Chairman BEREUTER. Your time has expired. Well, go ahead, but make it a quick one.
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    Mr. FRANK. Well, I just wanted to listen to what Dr. Hanke said. I have to leave, but I would be glad to hear it in writing.

    Dr. HANKE. Related to your moral hazard point——

    Chairman BEREUTER. Use your mike.

    Mr. FRANK. Microphone.

    Dr. HANKE. Related to your moral hazard point, I think it is important that the U.S. enforce and follow its own laws, and that gets back to the U.S. Code Title 22.

    If foreign governments engage in activities in which contracts are nullified and property is seized, it is fairly obvious to me, if you look at the Code it should be triggered. And I think that would help reduce moral hazard problems.

    Mr. FRANK. I would just add on that, if we got uniform enforcement with the things we have put into the various IFI replenishments about labor rights, and poverty and human rights, maybe I could buy that as a package. But I would not want to see selective enforcement.

    Dr. WEISBROT. Could I respond? It is a really good point, I think, and I think first of all the balance now is tipped very overwhelmingly toward bailing out, in terms of the tradeoff, bailing out reckless international creditors. And that is what happened in the Asian crisis, for example, as the Fund basically coerced the governments of Indonesia and South Korea and the others to absorb the debt of the foreign lenders.
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    I think that is where transparency really comes in. If we could know right now what the IMF is demanding from the Argentine government, for example, we might find out what most of the people that I talk to there believe: that there are some bad things happening involving the guaranteeing of foreign lenders.

    Now in terms of striking a balance, capital controls have been shown to be helpful. Chile, for example, used capital controls very effectively and it did increase the time, the average time of investment.

    Mr. FRANK. It would be the short-term problem.

    Dr. WEISBROT.And finally, we also should have some perspective on what is really being provided to countries when foreign lenders are loaning at 19 and 20 and 25 percent, which has been the average returned in the last year or two. Is there any investment in those countries that is producing a return higher than that?

    In other words, is there a net gain to those countries?

    I would say in many cases there is not. This is just a speculative bubble of some sort, and it is really a drain on those economies.

    Mr. FRANK. But, not forced on them. I mean we do have——

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    Dr. WEISBROT. No, No, I'm just saying that it is not something——

    Mr. FRANK. They make the decisions.

    Dr. WEISBROT. We have to worry about if that kind of lending does not continue at its present rate.

    Chairman BEREUTER. Dr. Bergsten, very briefly. I want to get to Mr. Shays.

    Dr. BERGSTEN. Dr. Weisbrot has twice said that the IMF's demands on Argentina should be made public. I want to pick up Mr. Frank's point about democracy. That is one of the worst ideas I have ever heard, because then any proposal they made would have to be rejected by any Argentine government. No democratic government could accept the dictate of the IMF no matter how reasonable it was.

    So you cannot make it public.

    Chairman BEREUTER. Mr. Sanders.

    Mr. SANDERS. That is rather an amazing statement.

    Chairman BEREUTER. You will have Mr. Sanders' attention here shortly.
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    [Laughter.]

    Chairman BEREUTER. The gentleman from Connecticut, Mr. Shays, is recognized for equal time. You will probably get about 8 or 9 minutes.

    Mr. SHAYS. Well, given that I am going to stay to the end, I do not really care. Thank you.

    I am doing a lot of wrestling, because I was grown up by strict parents who say you make obligations, you abide by them. And I happen to, unlike Mr. Sanders, I do not think you can repeal the law of gravity.

    By that I mean there are just some basic economic principles that come into play. What I would first like to know is, I do not know what the debt service to their entire budget is, the percent of their entire budget is debt service. What is it?

    Dr. WEISBROT. I have that.

    Mr. SHAYS. Mas e menos.

    Dr. WEISBROT. The percent of their current spending is debt service as a——

    Mr. SHAYS. Yes, yes.
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    Dr. WEISBROT. Let's see. I think it was——

    Dr. MELTZER. They pay about an 11 percent average interest rate on about $130 billion worth of debt, and——

    Mr. SHAYS. And you are going to make me figure it out. All I want to know——

    Dr. MELTZER. Well, I am just trying to do it in my head.

    Mr. SHAYS. Why don't you do it in your head and then tell me the answer?

    [Laughter.]

    Dr. WEISBROT. I can't give you an exact number. I mean all—what I can tell you is that——

    Mr. SHAYS. No, I don't even want an exact number.

    Dr. WEISBROT. Yes, yes.

    Mr. SHAYS. This dialogue means nothing if it was 10 percent of their overall budget. If it——
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    Dr. MELTZER. It is about 15 percent, maybe.

    Mr. SHAYS. Fifty?

    Dr. MELTZER. Fifteen, twenty maybe.

    Dr. WEISBROT. Yes, that sounds about right.

    Mr. SHAYS. That's all?

    Dr. MELTZER. Yes, but that is not their problem. The problem, briefly, is it is not the amount of interest payments they have to make, it is those interest payments compared, not to their budget, but to the amount of exports, because the debts are all dollar or euro denominated, and they have to import.

    Their problem was that they exported about 8 percent of their GDP, 9 percent of their GDP, and their debt service was something like——

    Mr. SHAYS. You know, you've got to talk a little bit slower for me, because——

    Dr. MELTZER. They exported 8 to 9 percent of their GDP. That is where they earned the dollars. And they had to pay something like 5 percent of their GDP to service the debt. All right? So that left them very little room for other things.
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    Dr. WEISBROT. It was even more than that. I mean, it got up to 8 or 9—it got up to the full level of export earnings. So, it basically became impossible for them to pay off their debt.

    Dr. MELTZER. Yes. The heart of their problem was not that their debt was so big relative to their economy or relative to their GDP, it was that they did not export a lot, and their exports were going up, but not very rapidly, and they did not have any room to import. Because they had to pay debt service.

    Mr. SHAYS. And would you say that the condition in Argentina is a crisis? Catastrophic? Desperate? How would you define it?

    Dr. MELTZER. Terrible.

    Mr. SHAYS. Terrible doesn't do it for me.

    Dr. MELTZER. Just desperate.

    Dr. WEISBROT. It is a very desperate situation.

    Dr. BERGSTEN. All three of what you just said.

    Mr. SHAYS. Yes, that's kind of what I think.

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    Dr. BERGSTEN. All of the above, yes.

    Dr. WEISBROT. It is a severe depression.

    Mr. SHAYS. I mean, from the stories I am getting, people who have had assets have seen them wiped out, if they are financial. What I am hearing is that they literally go to the bank and are only able to take out $150 a week.

    Dr. MELTZER. That is because of the banking rule. I mean, that is the rule they imposed on themselves.

    Mr. SHAYS. And that, basically, there has just been extraordinary capital flight, and that people who have called Argentina their country for generations and generations are leaving.

    Dr. MELTZER. Yes. So they are losing not only their money, but their hope.

    Mr. SHAYS. They have lost their hope, it appears.

    Dr. MELTZER. Yes.

    Mr. SHAYS. So, and then I get kind of pulled over to where Barney is, because it just seems to me like the regular rules do not apply.

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    Yes, sir?

    Dr. HANKE. I think that is the point. There are no rules of the game. The whole structure of property rights and the rule of law has completely collapsed.

    Now, to show you how catastrophic the situation is, normally, if you have bank runs what happens? People go to the bank and they draw the money they have in the bank out of the bank.

    Well, during the bank runs in Argentina, they were running their safety deposit boxes. And the reason they were running their safety deposit boxes is they did not trust the crooks in the government to keep their fingers out of the safety deposit boxes.

    So, that is the level you are getting at. And I can tell you, if they continue with this lack of rule of law, no respect for property rights, a floating exchange rate, you are not going to have banks in Argentina for 10 or 20 years. They have had a long history of this.

    This is not the first time around for them. Who would put money in an Argentine bank, given what has happened to them in the last 2 or 3 months? There is just no way.

    Dr. BERGSTEN. Could I compound your ambivalence in another way? Because, I too have a lot of sympathy for what Barney said. But here is the problem:

    Argentina does have to get its fiscal house in order. Your parents were right. Because unless they do, they will fall back into hyperinflation.
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    The people who lose the most from hyperinflation are the poorest. It is the poorest people that Bernie cares about, and Barney cares about, who will be the victims if Argentina relapses to the hyperinflation of a decade ago.

    The fiscal problem is an important part of that, and unfortunately, you have to include interest payments. You cannot just say the primary budget is in surplus. Correct, but irrelevant.

    So, they have to do fiscal tightening. The question is then: How do they do fiscal tightening?

    Now, one huge problem in Argentina is they do not have any tax revenues. They cannot collect taxes. There has been a history of that. So they have to do tightening up on the revenue side.

    But on the expenditure side, the question is: Do you worry about the safety nets? Or do you go after other things? Other things like military spending, and you should cut that further. There is absolutely no doubt about it.

    But the basic point, or a basic point is there does have to be fiscal tightening. I pointed out in my statement it should have been done 5, 6, 7 years ago when Argentina was booming. It had this wonderful record we all talk about.

    Mr. SHAYS. I am just going to say, to show my ignorance, which I seem to do at hearings, but I learn from it. I do not even know why it even matters if what we are talking about is their ability to export.
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    Dr. WEISBROT. Could I respond to that? Because I disagree completely. I don't think any country should cut back on spending during a deep depression.

    You know there were people who recommended that during our Great Depression, too, and they turned out to be overruled.

    Mr. SHAYS. I am going to come back around——

    Dr. WEISBROT. I think it's they have a debt problem. That is why I kept emphasizing that at the beginning. Because the IMF kept pouring, piling more and more, arranging more and more loans for them to support the convertibility system as it was falling apart, they ended up with a debt that is completely unpayable. And because interest rates kept rising and they were tightening their budget. They were cutting. As I said, the IMF recognized they cut 2 percent of GDP out of spending in 2000. This is big.

    Mr. SHAYS. OK.

    Dr. WEISBROT. This contracts your economy.

    Mr. SHAYS. My time has run out. I am going to come back for round two. But I am just going to say, the law of gravity works both ways. And if Argentina does not have the capacity, then it ain't gonna get paid.

    And so, round two, I will look forward to round two.
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    Dr. BERGSTEN. Could I just put one fact on the table, because it is very important. The debt-to-GDP ratio in Argentina rose from 23 percent in 1993 to 50 percent last year.

    There was a huge increase in budget deficits and deficit spending over this time. They cut $2 billion out. It was much too late. Right? They should not have done it in the face of a recession. They should have done it earlier.

    They got into a position that was untenable, which had to be cut, or else the hyperinflation risk is there.

    Dr. WEISBROT. See, that's very misleading. That is very misleading——

    Dr. BERGSTEN. All of which was compounded by——

    Dr. WEISBROT. You're saying the debt was increased, but it wasn't because of spending by the government. It was because their interest rates and interest payments exploded. Those kept rising. But the government itself was cutting its spending on goods and services——

    Dr. BERGSTEN. Well, all this——

    Dr. WEISBROT.——And on salaries, and everything else. So they were caught in a debt trap, and the debt was piled on them. What you call being too lenient was actually a curse. It was a terrible thing what the international lenders did to them. They kept piling more debt on them, and that is what happened to them. And the interest rates kept going up——
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    Mr. SHAYS. Mr. Chairman, you are in charge.

    Dr. WEISBROT. Because nobody believed that the currency was going to hold.

    [The gavel is heard.]

    Dr. WEISBROT. But that was not a spending problem.

    Chairman BEREUTER. I want you to go.

    Dr. BERGSTEN. The problem was with Hanke and his currency board, because that added integrally to what you are talking about. Absolutely right.

    [Simultaneous speakers.]

    Chairman BEREUTER. The Chairman has not had any time yet, and I am about to take it. I am going to throw out three pieces of red meat here, one of which is the currency board.

    Several, or two of you at least, mentioned what we have to be concerned about now after too permissive a policy—I will use that term, you did not use it, I have forgotten what you used—on the part of the IMF.

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    Now the problem is that we may be too harsh. The IMF may be too harsh. I would like to ask you if they are to have a coherent, consistent economic plan, what will be the indication that it is too harsh?

    Second question: Dr. Weisbrot specifically, you said something to the effect that the austerity programs do not work in Argentina because of the particular circumstances. But I would ask you this question: Without such a program, won't Argentina continue to run deficits and never escape from the debt burden it currently carries?

    And third: Two or three of you must have something substantial to say about currency boards that Dr. Hanke has discussed. If not, I would be surprised, because I thought there was a major element of controversy between at least some of you.

    So, having used only less than a minute to ask my three questions, I would just like to see who wants to tackle any one of those.

    Dr. Weisbrot, you are first. I mentioned you by name.

    Dr. WEISBROT. If I could take the second one first, because you addressed that to me, you said without austerity won't they continue to run deficits?

    This is in the appendix to my testimony. You can see the actual numbers. No, they will not, if they have a moratorium on interest payments, which I think is the least they can do to a country that has reached this crisis at least partly because the Fund encouraged and arranged this borrowing to support an inviable exchange rate regime.
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    Chairman BEREUTER. Dr. Weisbrot, aren't you concerned at all about the message that sends to other countries?

    Dr. WEISBROT. No, I think this is an important thing. First, it sends a message that these institutions are finally for the first time in decades going to take responsibility for their actions.

    They were wrong. They made a mistake. And I think most of all—OK, Steve won't agree, necessarily—but everyone else will probably agree that this was wrong, everyone here on this panel, everyone else, and so why shouldn't there be a—we're not even asking for a cancellation here. We are just saying roll over it, restructure it, and the Fund has already agreed to postpone $936 million interest debt service payment for a year.

    They need to just say this, and then they can—because what is the alternative? The alternative is to keep cutting the spending of the government during a recession and push it further into depression, and hurt the people who are hurting the most.

    Chairman BEREUTER. Dr. Meltzer.

    Dr. WEISBROT. This is, to me, completely unreasonable and the alternative of a moratorium is very minimal.

    They don't have an overspending problem. They have a debt servicing problem from the past. And this has been true since 1993.
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    Chairman BEREUTER. I will see if Dr. Meltzer agrees, or perhaps he has another——

    Dr. MELTZER. I want to answer your hard question. I will answer the currency board question in a moment.

    You asked how do you know when the austerity is too tough. The answer to that question, my answer to that question, the answer of the majority of the Commission was, you put the problem back into the country.

    You do not have a bunch of rules sent down from the IMF. You say to the country, ''come with your coherent, consistent plan and if it is a good plan, we will support it. But you decide. It is your country and you have to sell, just as you would have to sell here, you have to sell the idea to your constituents that this is the plan that is going to work for your country''; that they have to make some sacrifices now, cut some tax rates, and that would at least—because the tax rates are so high that 40-, 50 percent or more of the transactions take place outside the market economy with no taxes collected.

    Chairman BEREUTER. I guess the government policies were being tested rather demonstrably on the streets.

    Dr. MELTZER. Right, so those were the bad policies. So do it in a political way. It is a democratic country, and let the people decide through their representatives what it is that they can stand to have.
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    That is why the Commission majority, one of the problems, get rid of conditionality; put the burden back within the country. All right? Let them decide.

    Second, on the currency board very briefly, the currency board is a form of fixed exchange rate. Fixed exchange rates work well. Floating exchange rates work well. They all work well if you have good policies. None of them work well if you do not have good policies.

    So my answer is: It was not the currency board that was the source of the problem. It was the combination of the currency board and the policies.

    Now, in Argentina, they also had the appreciation of the dollar and the depreciation of the Brazilian real, which made the currency board difficult to sustain. But, they did also add a policy which made their debt unsustainable and threatened their currency board.

    Chairman BEREUTER. Was the fact that the four economies had become increasingly more integrated a problem so that when Brazil had its change in currency, this had a greater impact on Argentina?

    Dr. MELTZER. Yes, but Argentina only exports about 8 percent of its GDP. So it is not a big integration with the world. It was integrated in the world in another sense in that it depended upon capital flows to build its economy, and those disappeared. That is one of the ways in which the currency board got threatened.

    Chairman BEREUTER. Thank you.
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    Dr. Bergsten, you would like to comment on any of the subjects? And then I will move to Dr. Hanke.

    Dr. BERGSTEN. Yes. I, of course, agree that almost always you do not want to cut budgets in a recession. I yield to very few people in having hammered Japan, and even Europe in recent months and years for doing exactly that and making their situation worse.

    Chairman BEREUTER. So that would apply to the construction program of highways in this country, too, during a recession, right?

    Dr. BERGSTEN. And I certainly agree that the U.S. erred in the 1930s when it cut the budget in the face of the Depression.

    However, in none of those cases did the country face a risk of hyperinflation.

    Argentina is different from all those cases, because with its history, with its psychology, with its lack of a solid financial underpinning—and there I agree with Hanke—they do face a risk of return to hyperinflation.

    Avoiding that requires, first and foremost, a new and sensible and efficient monetary policy. And I think there is some hope that they are headed in that direction. They ought to adopt inflation targeting. They have got a good man now to run the central bank like Brazil did.
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    But, in addition, they have to have a fiscal policy that spends within their means. Now you do not do it overnight. You do it in ways that protect the safety net, not make it worse. But they do have to bring their fiscal policy back into order.

    Let me just say very quickly on the currency boards, we did a major study of it five years ago. It went through every case of currency boards that had existed to that time. What it shows is there are two cases where currency boards do make sense: very small, very open economies who essentially do not have autonomy over their exchange rate or monetary policy anyway. And second, countries who desperately need some kind of external anchor to get rid of hyperinflation. And that was the Argentine case.

    The problem is, it inherently produces an overvaluation in the currency if left in place over time. You must have an exit strategy to get out of it. Argentina did not. And that, I think, was the inherent problem. It was not a case for a long-term currency board not being, to put it mildly, a small, open economy.

    Chairman BEREUTER. Do all of you agree with Dr. Weisbrot's comments earlier that the federal contributions to the provinces did not go up, therefore that was not an increase?

    That is contrary to some op ed pieces that have been written, and factually, I do not know which is correct. Do all of you agree with his assessment that on this revenue sharing program it did not go up? Even though they may have been prolifigate in the way they were spending it in the provinces, it was not something that continued to go up?
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    Is that correct as far as all of you know?

    Dr. MELTZER. I don't know.

    Dr. BERGSTEN. But I'm not sure it's relevant, because the issue as I mentioned is that the debt/GDP ratio, just to take that commonly used measure, went from 23 percent in 1993 to 50 percent a year ago. A huge explosion of the domestic as well as foreign debt.

    That included revenue sharing with the provinces. Cuts had to be made somewhere. I am with Mr. Sanders. I do not want to cut the safety net. I would much rather cut the transfers to the provinces for road spending, and so forth, and so forth.

    So that, I think, is a very important part of the package. You cannot ignore that, whether it went up or down.

    Chairman BEREUTER. I am well beyond my time, too, but if we can take maybe one minute for Dr. Hanke who deserves to speak, and then we will go to Mr. Sanders.

    Dr. HANKE. I agree with Dr. Meltzer about letting the country come up with their own game plan.

    The problem is, I remain quite skeptical about these possibilities with the current government. They have only had one clear idea. That is, to destroy the convertibility system, to pesofy the economy and get the dollar completely out of the picture officially and unofficially——
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    Chairman BEREUTER. ''They'' meaning the IMF?

    Dr. HANKE. No, I am talking about the government. So you have to have these policies homegrown. There is no successful reform or economic prosperity program, Mr. Sanders, that has ever been rammed down somebody's throat. These are homegrown. You can go right across the border. There has never been one that has been imposed from the outside.

    So, it has to come from the inside. My problem is, the current government completely is on a one-track rampage, getting rid of the dollar. Therefore, they have no ideas about how to go forward.

    All their effort has been essentially how to destroy the convertibility system, how to pesofy the economy, and they are left holding an empty bag. They have no idea of what to do, and they are not going to come up with any coherent game plan.

    Chairman BEREUTER. We are going to go to Mr. Sanders now, and we will do an 8-minute round for the two of us, or anybody else that arrives.

    Mr. SANDERS. What I find interesting about this discussion is I keep thinking the issue is not currency conversation or peso/dollar peg, it is a lot deeper than that.

    There have been some statements that Dr. Bergsten and Dr. Hanke have made that disturbed me a lot.
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    Dr. Bergsten said, basically, if I got it right, if the people knew the truth in Argentina about the IMF agreement with the government, essentially they would be panicked. There would be an uprising. Is that what you said?

    Dr. BERGSTEN. No, no. You totally misunderstand me.

    I said that any program that the IMF or an external force published would have to be rejected by the Argentine government——

    Dr. MELTZER. In advance.

    Dr. BERGSTEN.——In advance, whether it was the perfect——

    Mr. SANDERS. Why?

    Dr. BERGSTEN. If it was a program——

    Mr. SANDERS. Why?

    Dr. BERGSTEN. Because, it would be imposed by the foreigners. If you——

    Mr. SANDERS. Well, first of all——
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    Dr. BERGSTEN. ——Designed the program——

    Mr. SANDERS. First of all—hold on. Hold on.

    Dr. BERGSTEN.——They would reject your program.

    Mr. SANDERS. I am asking the questions. Two points.

    If that is the case, if you are saying that the average person in Argentina did not want a program imposed by foreigners, then you have got a problem in the first place. Why are foreigners imposing a program on the people? If they do not want to be—that is the first thing.

    But, second of all, implicit, the program that the IMF usually imposes works disastrously for the average people. All right? So the truth is, people in Argentina are saying, ''Let me see. We're being dominated by big money interests from abroad, and their prescription for us will raise unemployment, lower wages, cut health care and education. Hmmm.''

    You know what, if I were one of those people, I would say: ''Yeah, I don't want that program either.''

    Now the conclusion is, therefore, we can continue to do this thing in secret so that the people do not know it, or maybe we say this type of negotiation is not good and we should not be doing it.
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    That is exactly what the issue is.

    Dr. MELTZER. But, that is not what is happening.

    Mr. SANDERS. Let me finish.

    Dr. MELTZER. That is not what is happening.

    Mr. SANDERS. Hold on one second. Let me ask Dr. Hanke, who is very concerned about contract law and making sure the governments respect the agreements that they sign, and I think that is fair enough. That is fair enough.

    But, American corporate interests have invested billions in Indonesia, and Suharto's corrupt, illegal, undemocratic regime. Now, am I correct in understanding—so we get the record clear, and I want to be blunt on this; I do not want to be rude—you basically represent, as President of which bank?

    Dr. HANKE. Toronto Trust Argentina.

    Mr. SANDERS. You represent, correct me if I am wrong, people who invest in Argentina? Is that correct?

    Dr. HANKE. No. That is an Argentine Mutual Fund.

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    Mr. SANDERS. OK.

    Dr. HANKE. Now back to your question about is anyone——

    Mr. SANDERS. Who do you represent in that capacity?

    Dr. HANKE. Just a minute.

    Mr. SANDERS. No. I'm asking you a question. Wait a minute, you. Who do you represent?

    Dr. HANKE. Argentine citizens. Foreigners cannot invest. It is an Argentine Mutual Fund. All our employees are Argentines. All the investors are Argentines.

    Mr. SANDERS. OK. Thank you.

    Dr. HANKE. Now that gets back to your question, though, about who is concerned about the people. I lose a lot of sleep, I have lost a lot of sleep worrying about people, OK, with a small ''p''. Our clients are all Argentines. All are families of people who work for me. We have maintained our group. No one has been let loose. We do not want to let anyone loose. They are good people and have been with us for a long time.

    So, I do worry about people on that scale, Congressman, but on the larger scale, I worry about the well-being of Argentines when you have a situation where in dollar terms, the GDP per capita has been cut more than 50 percent in Argentina.
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    They have gone from the highest GDP in Latin America to something that will come in lower than Chile. And I, probably unlike you, think that as the tide goes up, all the boats come up. This is consistent with the work of David Dollar over at the World Bank.

    The poor benefit when prosperity is booming.

    Mr. SANDERS. OK, but the issue here is: Are we really discussing how the United States and the IMF can improve the standard of living of people in Argentina and other developing countries? Or are we primarily concerned about how we protect the investments of the wealthy and large multi-national corporations?

    Now, Dr. Hanke, a moment ago you talked about the rule of law and respect for the rule of law. That is a fair point. I certainly agree with that.

    I would point out that the United States today protects the interests of companies that invest in China. Does China respect the rule of law? Billions of dollars were invested in the Suharto dictatorship. Pinochet of Chile, who was recently indicted as a war criminal, is a violator of very fundamental human rights.

    The United States Government supported American companies that were investing in there. We invested in apartheid South Africa. Saudi Arabia, we have very close business ties with Saudi Arabia. Are those countries which respect the rule of law for their own people?

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    Dr. Hanke?

    Dr. HANKE. Well, the question is, without making too broad a generalization, I think the standard should be uniform, and that is what the U.S. Code requires in Title 22 that I was referring to.

    Mr. SANDERS. I understand.

    Dr. HANKE. So, that is all I have to say.

    Mr. SANDERS. But, do those countries that I mentioned, does China respect the rule of law? Does Saudi Arabia respect the rule of law?

    Dr. HANKE. According to all the studies that have been done, the ranking is rather low in those places and that is why economic growth has generally been lower in countries that have a lower respect for the rule of law and property rights.

    Mr. SANDERS. Well actually, China's rate of growth has been pretty good.

    Dr. HANKE. China has been an outlier in those studies. But generally, and they are statistically robust, the stronger the rule of law, the stronger private property rights, the more rapid the rate of growth, the higher the level of prosperity.

    Mr. SANDERS. But the United States Government has supported many, many countries who do not respect the rule of law. I happen to have real problems with that. I don't want to say I have problems with that, but the recent Administrations apparently do not.
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    Dr. HANKE. Back to your point, though, about the IMF, getting back so we are on the same wavelength here for a moment, I indicated that in the big boom years of 1990 through 1994 in Argentina, the IMF had virtually nothing to do. They had nothing to do with setting up the currency board, economic policy, and so forth.

    The Argentines did it. They had a boom. After the Mexican devaluation in December of 1994, the IMF got in there big time with a lot of policy advice and money and screwed the thing up. And it has been a bloody disaster ever since.

    Recently, if the IMF has not given the lead, it has turned a blind eye. So either way you look at it, all these policy errors have either come from Washington, DC, or Washington, DC. has looked the other way when it has been convenient and let them go ahead blundering away with bad policy.

    Mr. SANDERS. So your conclusion is perhaps that we should leave them to run their own government, and if people want to invest in it that is fine.

    Dr. HANKE. That's right. That's why I say I think we're on the same wavelength on this particular issue.

    Dr. MELTZER. May I make a very brief statement?

    Mr. SANDERS. Sure.

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    Dr. MELTZER. I think the IMF is in the process of transition to a system. They are not sending a lot of messages, and they are not sending a lot of conditions down to Argentina. They are sending a message which says come with a plan that is coherent.

    The people you should be aiming at, if I may say so, are the World Bank. They are the ones that are down there to do structural reforms. They are the ones that are supposed to be concerned about poverty alleviation. They have a miserable record.

    I mean, Congress, the U.S. Congress when it passes the next IDA appropriation, should ask for a performance audit by an independent agency of how the development banks do. Because they have many, many programs and their success rate is awful.

    Dr. WEISBROT. Can I say something, too, on this because I really think that if the IMF really wants to let Argentina decide, then they should state publicly what they are asking of the government, and not just say a sustainable plan.

    I am kind of shocked sometimes how many people are willing to accept from them, to accept when it is reported in the press that the IMF is holding out for a sustainable plan. Well, what is a sustainable plan?

    They did not have a sustainable plan the last few years that the IMF supported them. The IMF has clearly supported many plans that were not sustainable and ended in disaster.

    So, why should we just have a blind trust? We question Members of Congress. We question our President. Why should the IMF be taken completely at its word?
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    I do not accept Fred's idea that the people of Argentina are so blindly nationalistic and irrational that they will reject any proposal from the IMF. If the IMF proposed a moratorium on debt payments for the next 4 years. And in fact they did, right? They proposed——

    Mr. SANDERS. Dr. Bergsten, can you respond to that, please?

    Dr. WEISBROT.——A moratorium on the first——

    Mr. SANDERS. Let him respond to that.

    Dr. WEISBROT.——Billion dollars in those loans. The people——

    Mr. SANDERS. Dr. Weisbrot, let him respond to that, please.

    Dr. BERGSTEN. Sure. I don't mean to single out Argentina. The United States, including its Congress, would reject any dictate to its economic policy from abroad.

    Mr. SANDERS. So? Fine.

    Dr. BERGSTEN. Therefore, if you are serious about trying to get a better program in Argentina, get a constructive role for the IMF, the last thing you want is for the IMF to publicly say what it is it wants from Argentina.
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    Mr. SANDERS. You are saying what I said you said. Then it should be kept secret, hidden from the people because the people would reject it?

    Dr. BERGSTEN. No, no, no. I didn't say——

    Mr. SANDERS. Until it is adopted.

    Dr. BERGSTEN. No, no. It shouldn't be kept secret.

    Mr. SANDERS. I'm sorry?

    Dr. MELTZER. Until it's adopted.

    Dr. BERGSTEN. No, no, no. It shouldn't be kept secret until it's adopted either. The IMF should not just publish it and say here is what you must do. That is obviously the opposite of domestic ownership, which we all want.

    However, the IMF now publishes on its website all the letters of intent. They leak to the public in every country they negotiate with when it is being negotiated.

    There is no secret. It is well known to people.

    Dr. WEISBROT. We do not know what they are demanding right now. That is the big problem.
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    Dr. BERGSTEN. They are not demanding any specifics right now.

    Dr. WEISBROT. Oh, come on. How much you want to bet that budget cut had something to do with what they were pressuring the government to do, that 14 percent they cut out of their budget?

    Chairman BEREUTER. A little interchange is good, but we also have a recorder here who is probably struggling. We have a disagreement right there, Mr. Sanders, you may have noticed, between——

    Dr. MELTZER. More than one.

    Chairman BEREUTER. Do you want to resolve it?

    Mr. SANDERS. I don't think we can resolve it. Let me finish.

    Dr. HANKE. Mr. Chairman, on that point, you see the Administration, neither the Administration nor the IMF has laid out what the general—not the detail of the game plan, but what the general coherent game plan might be. So there has been, I would say, very little direction from Washington, DC. in general.

    Now that might be fine, because as I indicated earlier, if you try these top-down approaches you are not going to be able to force something down somebody's throat.

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    That said, the IMF has been involved. Dr. Kreuger did indicate that it was not feasible to dollarize the economy, for example, on the 11th of January, she said this when they were still going through the process trying to figure out what they were going to do.

    Dr. BERGSTEN. And she's right.

    Dr. HANKE. She is completely wrong, and I have written about this on several occasions in The Financial Times. But at any rate, that is not my point, Fred.

    My point is that she did intervene. She made a public statement about something that is very sensitive in Argentina. And that is, what kind of currency regime they are going to have going forward.

    So maybe that was not some official big blueprint that was laid out in a comprehensive way. It was something that was in the headlines of all the papers in Buenos Aires and had a huge impact on the direction things were taking, and the dynamics down there.

    So the idea that the IMF is not intervening, is not saying anything, is just nonsense. It is not true.

    Dr. WEISBROT. They are just hiding the things that they do not want people to know about. They are announcing the things——

    Dr. HANKE. They selectively take their shots when they want to. And they have an enormous influence, because I can tell you even in the last Administration when Larry Summers was at Treasury in February of 1999, President Menem wanted to dollarize the economy, had proposed it.
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    Well, it was a little bit ambiguous, but if you read what Summers said, it was technically correct and carefully stated. The headlines the next day in Buenos Aires? ''Summers Against Dollarization.'' And that almost deep-sixed the thing completely right there. Just a series of headlines.

    So, these things are all quite important, and I think we have to be very careful.

    Dr. MELTZER. It is my understanding that the IMF is giving no direction to the Argentine government. It is asking the Argentine government to come with a coherent, consistent plan.

    When I was in Buenos Aires and talked to people who are now in the government, I presented them with a plan very much like what I have in the paper that I prepared for this subcommittee. But we told them, over and over again, ''this is our plan. You have to develop your plan. Hhere are the problems you have to solve. It is up to you to come up with solutions that are satisfactory within your democratic arrangements.''

    That is what the IMF—that is the position, as I understand it, that the IMF has taken. They have taken the position of saying that certain things would not be acceptable to them.

    For example, a dual exchange rate. A dual exchange rate is a source of corruption. It would be a very bad policy for Argentina.
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    Now, they did not say you cannot have a dual exchange rate; they said we cannot support a dual exchange rate.

    Dr. WEISBROT. Which means they would not get the loan if they didn't get——

    Dr. MELTZER. That seems to me to be a perfectly sensible thing to do. Just as any lender has a right to say ''we think that your policy is bad and we are not going to lend you money. But we are not going to tell you you cannot do it.''

    The IMF is taking the position, that kind of position. That seems to me to be a far step forward from where they were 5 years ago, or 3 years ago, where they came in with a blueprint for the country, which often did not work, and that had many, many conditions on it that had nothing to do with the crisis.

    Dr. WEISBROT. I agree with Allan that this is a step forward. I mean, it is not like the list of 140 conditions that they gave to Indonesia. But there's still—and that is fine. That is progress.

    But, it is still a major problem that they are making demands on this government that are secret and may well hurt the economy very much.

    Now, if I could just address the one economic issue I think of importance that we missed, which Fred raised, on the hyperinflation. That was his argument that, even though we would never cut our budget in a depression, that Argentina should.
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    This is a serious argument. I take that very seriously because hyperinflation is a real danger. But the question is: Do they really need to slash their budget in a depression in order to avoid hyperinflation?

    That is a question—that is why I think this discussion should be out in the open and it should not be done secretly and pressured secretly, because that is a tough question. I don't think they have to. And I think if you look at the last two situations like this of devaluations in Brazil and Russia, in both of those cases the Fund said very clearly ''you cannot let the currency fall in the first place. You will get hyperinflation.''

    That was their only reason for supporting these fixed exchange rates to the abyss. And, in fact, they turned out to be wrong. In both of those cases, inflation was very mild and manageable.

    Now, I am not saying that is guaranteed here. But one of the problems is, one of the biggest threats of hyperinflation comes if people do not want to hold the peso. And the more the IMF drags out this process, the more likely that risk increases.

    Chairman BEREUTER. I would like to thank you, Mr. Sanders.

    I would like to finish with three questions that I think might be easy to answer, although there may be disagreement among you.

    First of all, Dr. Meltzer, I think you made reference to a liquidity proposal. I do not know if you have that available to us, but if you do I would appreciate knowing more about it. It does not have to be stated at this point, but I would like to see that, if that is possible.
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    Dr. MELTZER. I would be glad to.

    Chairman BEREUTER. Thank you.

    Dr. MELTZER. I have it here, and I will leave it with you at the end of the hearing.

    Chairman BEREUTER. Thank you very much.

    Dr. Bergsten, I will start with you on this one, and perhaps others of you have an opinion. I would think Dr. Hanke would.

    The U.S. and Argentina have a Bilateral Investment Agreement. In your opinion, was this agreement violated when the Argentine government declared that contracts that had been negotiated to be paid in dollars are now to be paid in pesos?

    Dr. BERGSTEN. I actually do not have a strong opinion on that.

    Chairman BEREUTER. OK.

    Dr. BERGSTEN. I have asked my staff, who know about the issue, to research it. We are doing that. If I could send you a note on it in a couple of days, I would like to.
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    Chairman BEREUTER. All right.

    Dr. BERGSTEN. I think it is a very serious question, but I am not sure legally what the implication is.

    Chairman BEREUTER. Dr. Hanke, my guess is you do.

    Dr. HANKE. I think that they have violated, yes.

    Chairman BEREUTER. Other opinions on that question, if you have them formed at this point?

    Dr. Meltzer.

    Dr. MELTZER. It is a sovereign right.

    Chairman BEREUTER. It is a sovereign right to change them, therefore it is not a violation of contract.

    Dr. MELTZER. Everyone who lends in those circumstances—it is a violation of the contract, but everyone who enters into those contracts understands that they are entering into it with a sovereign and a sovereign has the power to change the contract after the fact.

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    Dr. WEISBROT. I agree with that also. I mean it is a change of currency regime. There is nothing they could do.

    Chairman BEREUTER. It is not good for future investment climates, at least.

    Dr. MELTZER. Indeed, it isn't.

    Chairman BEREUTER. The Washington Post op-ed today noted that a consensus is emerging that the current government after two months in office cannot put together and execute the necessary reforms.

    Is that too pessimistic? Or do you have an opinion you want to share, any of you?

    Dr. WEISBROT. Yes, I think that is overwhelmingly too pessimistic. Again, the government is—I want to emphasize this—they are not facing the structural problem that other countries have often faced. They are not overspending except for interest payments. That is the only overspending by the government.

    That is not always the case in crisis situations. They also do not have a balance of payments problem, which is another problem that would be much harder to reverse and would take much longer.

    So they really only need—I mean, the main thing they need now is to not have to pay these interest payments on the debt until their economy recovers. So that is very different from many of the other crises that you can point to.
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    Obviously the Asian crisis had different causes, but this is not as much a systemic problem as it is being made out to be. And if I can offer just a slightly——

    Chairman BEREUTER. But they do reference the current government. And of course——

    Dr. WEISBROT. What——

    Chairman BEREUTER. The question is whether or not the current government can do this.

    Dr. WEISBROT. Well, they could, but again they would need——

    Chairman BEREUTER. And all——

    Dr. WEISBROT. They would need some kind of relief from their debt service payments to do it.

    Chairman BEREUTER. Ultimately of course——

    Dr. WEISBROT. And that's exactly what the Fund does not want to provide.

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    Chairman BEREUTER. Ultimately, of course, some government will have a plan that is acceptable. It might take a long time.

    Dr. BERGSTEN. I might just say, I share the view that it is too pessimistic to write off the current government. They have done some good things like the deal with the provinces. We will see if it holds. But that is a step in the right direction.

    Hanke had his horror list of things they have done, but they faced an untenable situation. They came into the midst of a crisis. They had no money to pay all these debts. How could they not violate contracts? So they had to make some changes.

    I think it is too soon to say whether they will be able to pull out of it, but I certainly would not write them off at this point.

    Chairman BEREUTER. Our staff is going to have a very interesting and difficult time trying to develop a consensus on this. At least we have not had a dull panel. We've had lots of interaction and lots of disputes.

    Dr. MELTZER. May I say to that last question, I am very pessimistic. I am pessimistic not because I think the situation is untenable or unresolvable, but it isn't certainly going to be easy to resolve.

    I am pessimistic because most of the moves that have been made by the current government have, many of them have been in the wrong direction. That is, there is a strong tendency, having met with these people and talked to them, there is a strong tendency to want to blame foreigners and to try to extract the solution from the foreigners.
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    That was the purpose of the tax on oil companies. That was the purpose for the new tax. They came back from Washington. They didn't get the $20 billion they wanted. So they immediately put a tax on foreign corporations.

    I mean, that is their view of how to operate. I think with that mindset, it is going to be very difficult for them to come with a package that is going to work.

    It is not entirely difficult, nor is it easy to come with such a package, but it is not going to be easy if you start with a mindset that says we are going to try to get the foreigners to pay. And the main question that we get from Argentine radio, television, newspapers, is: Why doesn't the IMF just give us the money?

    That mindset has to change.

    Chairman BEREUTER. I guess that is what we did the last two times, meaning the IMF.

    Dr. MELTZER. Thank goodness we are making some progress with the IMF.

    Dr. WEISBROT. I think it is reasonable, because the oil exporters do get a windfall from the devaluation. I don't see anything unreasonable about taxing that.

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    Chairman BEREUTER. Dr. Hanke, you are going to have the last word on this series of questions.

    Dr. HANKE. I remain quite pessimistic about the possibilities of the Duhalde government coming up with something, because what they have to do—it has nothing to do with, I think, these things Mark has been talking about, macro economics and everything. You need a massive confidence shock in a system.

    And, Fred, yes there was something they could have done in the middle of the crisis. They could have done what Ecuador did in early 2000, when they dollarized the economy, gave it a huge confidence shock.

    They were in the same kind of mess exactly in Ecuador as Argentina. What do you have today? Ecuador is the fastest growing economy in Latin America. The unemployment rate has come down from about 15 percent to 9 percent. 30-day deposit rates have come down from 60 percent to about 3.5 percent.

    A complete turnaround in the thing.

    So, you have got to come up with something that gives a big confidence shock to the system, and this will be virtually impossible for a government that has ignored the rule of law, destroyed property rights, torn up contracts until there's no tomorrow.

    I see virtually no hope that they can pull any rabbit out of the hat at this point in the game, given their initial behavior.
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    Chairman BEREUTER. Thank you. This panel has been very patient and is very much appreciated. We have let a lot of discussion go on among you, and I think that is appropriate given the sharply different opinions on a few subjects.

    Mr. Sherman has just arrived from California, no doubt, and I would say we will put a statement of yours in the record, and if you have a question or two for the record you would like to make in a minute or two, why, you will have the last word.

    Mr. SHERMAN. Why, thank you, Mr. Chairman.

    My heart goes out to the Argentine people, but I would like to address my questions to how this affects the United States. Let's say Argentina simply renounced all its debt to all agencies of the United States Government and any agency in which we have an interest.

    How much does the U.S. Government lose? Does anybody have an answer?

    Dr. BERGSTEN. I don't know the amounts.

    Mr. SHERMAN. Can it be $10 billion? $50 billion? Does anybody have a guess?

    Dr. BERGSTEN. They would be a tiny share of any——

    Dr. WEISBROT. It is nothing that big.
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    Dr. BERGSTEN. It is a tiny share of any denominator you care to put in there. Eximbank undoubtedly has some outstanding credits.

    Mr. SHERMAN. Let me——

    Dr. BERGSTEN. The international loans——

    Mr. SHERMAN. I have a limited amount of time.

    Dr. BERGSTEN. The international loans from international agencies are about $40 billion, and the U.S. share is about a quarter of that.

    Mr. SHERMAN. So it would be over $10 billion, then?

    Dr. BERGSTEN. Somewhere in that range.

    Mr. SHERMAN. And what shocks me, and what I hope that this will be a case study of, is why so many agencies are so anxious to loan money to foreign governments that are obviously bad credit risks, but do not want to loan to small businesses, at least in my district, if not in Nebraska, as well. And the way that the too-big-to-fail bailout system, you know, when a bank loses money on a loan to a small business in my district, we don't have hearings here as to how to bail them out.

    And the tendency of our Government to insulate banks from moral hazard when they ship tens of billions of dollars overseas leads to some very bad lending decisions. And perhaps the Argentine people have a right to be angry that we loaned—that our financial institutions, or first world financial institutions, made loans to them that were far beyond their ability to repay.
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    Dr. MELTZER. I think we have made a big improvement. I think the Commission that I headed pushed in the direction that you are talking about. I think we have made substantial progress, because for the first time now we have seen Ecuador, Pakistan, Ukraine, and Argentina where the lenders take a loss.

    I think one of the big, big improvements that has come in the last year has been that lenders who lend to sovereign countries now understand a lot more about risk than they did before because the IMF has not been there to bail them out, as they have over the last 25 years.

    I think that is a great step forward that is going ultimately to make a much improved international capital market.

    Dr. BERGSTEN. Yes, I agree with that. Note that there are huge losses that private lenders and investors are now taking in Argentina. So it is not a bailout to put it mildly.

    Mr. SHERMAN. Thank you, Mr. Chairman.

    Dr. MELTZER. I mean, they are going to get 20 or 30 cents on the dollar.

    Dr. WEISBROT. I agree with that, as well. But I do think that there is still a lot of negotiation taking place, and we do not know how much of those bad loans they are going to force the Argentine government to absorb.
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    Chairman BEREUTER. Thank you very much, gentlemen. I very much appreciate it. I have not had a chance to talk to all of you ahead of time, but I will come down there and meet Dr. Meltzer, who I have not met yet.

    The hearing is adjourned.

    [Whereupon, at 3:55 p.m., the hearing was adjourned.]