The roll back of the PAIS Tax from 17.5% to 7.5% announced by the government is set to begin on Monday. Given that one of its stated goals is to lower prices, the Milei administration seems to prioritize less inflation, and is thus postponing the end of the exchange restrictions known as the “cepo.” 

This is causing strong “uncertainty” as the market is closely monitoring negative net reserves, warning that the situation could worsen if the end of the restrictions continues to be postponed.

“The new import scheme predicts that the dynamics in the official market will become unfavorable for reserve accumulation, although only from October onwards,” PPI brokerage firm stated. 

“The reduction of the PAÍS tax could put even more pressure on reserves and deteriorate fiscal balance. It is clear that the government’s priority is to deflate rather than to quickly get out of the exchange controls.”

The firm FMyA, on the other hand, warned that there was a lot of “uncertainty” regarding what will happen with the “cepo.” Net reserves could worsen to negative U$S8 billion by the end of 2024, and the situation could be worse next year. The market is unanimous in its opinion that the exchange restrictions will not end in 2024.

“We think that this would be the most desirable scenario, since we believe that the cost in terms of inflation and activity would be lower than what [government officials] imagine”, FmyA stated.

The phrase is repeated over and over again. The most recent report by consulting firm 1816, points out that “the government has decided once again that the priority is to reduce inflation as quickly as possible.” According to some private measurements — as well as Economy Minister Luis Caputo — August inflation will be close to what was registered in July (4%), “even at the cost of reserves falling throughout September due to a higher demand of spot market importers.”

Dollar: the risks of postponing the end of the “cepo”

The government’s economic plan continues to focus on sustaining fiscal surplus, maintaining a 2% “crawling peg,” and achieving a 4% inflation rate in September. On the other hand, the Milei administration posits that the recession has reached its lowest point and expects activity to recover by the end of the year. Despite this, salaries and pensions are still far from reaching the accumulated inflation since the beginning of the Milei era.

“Despite the remarkable improvement in the first five months of the year, the program’s weakness is the external front, given that the exchange rate appreciated again and the combination of a ‘blend’ dollar with an increase in import payments and no capital inflows put pressure on net international reserves, which are in negative territory again, a trend that will worsen in the coming months”, Cohen consulting firm pointed out.

According to this analysis, the government needs financing to maintain this strategy. In order to achieve this, they would need to liberalize the exchange market. “Not doing so would bring more medium term costs, which would increase uncertainty and hit local assets”, they explained.

“The government is debating whether to continue prioritizing the inflation battle or freeing the exchange market,” Cohen analysts added. “[The latter] would undoubtedly have short-term effects, but would give greater sustainability to the economic policy, which would enjoy the benefits of deregulation and fiscal balance.”

Originally published in Ámbito