Patagonia problem: currency and commodities

Pravin Chandrasekaran | Updated on February 19, 2014 Published on February 19, 2014


Argentina’s higher export taxes creates a lack of incentive for commodity producers to sell into external markets

Around this time of the year (seasonally commodity harvest is round the corner), there are three sets of people watching the events in Argentina unfold with a lot of interest. I am referring to commodity and currency traders, scholars in Boston and Washington, and the people of Argentina themselves. My views are based on my understanding of the first set of people, as I have little current insight into the cerebral activity of the other two.

Argentina produces a large amount of agricultural commodities every year and consumes only a fraction of what it produces. As an example, it produces around 25 million tonnes of corn (mt) and exports 17 mt every year, making it both a large price taker and price maker in the international markets. The nation generates around 33 per cent of its export revenues from the sale of agricultural commodities.

Two things of note have happened over the past few decades. First, the quantity of commodities that Argentina produces has gone up manifold. Second, the long-term equilibrium price of commodities has also gone up during the same time frame. A naive observer may thus infer that Argentina should have been a great beneficiary of this multiplicative effect. On the contrary, Argentina’s government has seldom benefited from higher commodity prices.

So, what’s going on? In a zeal to realise higher revenues when commodity prices are higher, the Argentine government ends up proposing higher export taxes or fails to reduce these taxes. This policy, unfortunately, creates a lack of incentive for commodity producers to sell into external markets, and take advantage of the higher prices they could otherwise realise.

Thus, two things happen: The government loses an opportunity to realise higher tax revenue, and producers miss the opportunity to sell commodities at high prices (lose-lose). The next inevitable effect follows like this: A stemmed commodity supply coming out of Argentina further increases commodity prices and inability to generate commensurate revenue given price increases pushes the Argentine currency value or PESO/USD southward. Argentina has very fertile lands and attracts one of the best rents for use of this land in the world.

Instead of toying with the taxes every year, government revenue policy should probably be directed towards pegging the tax rate to commodities prices to arrive at an optimal tax rate, which would benefit both the government and the producers. As Argentina already benefits from extremely liquid commodity cash markets, it is able to adjust quickly to international futures prices, which is a boon. The commodities traded out of Argentina are usually basis only contracts with futures prices fixed at a later date. If tax rates were a function of this fixing price, two issues would be addressed. First, the uncertainty of tax rate would go away as would the uncertainty around its related timing. This solution should properly incentivize producers to sell at their discretion, reaping the margins afforded by advantageous pricing and benefit the government towards having a better and steadier inflow of tax revenues.

In a generalised scenario, export elasticity of a commodity is proportional to the currency rates; thus, a weakening Argentina Peso should benefit exports and vice versa. In the case of Argentina, this has not necessarily been the case, hence the solution I propose to the Patagonia problem.

All we need is a political will and a mathematical solution. Let the markets take care of the rest!

(The writer is based in New York and is the founder and Managing Director of Opalcrest.)

Published on February 19, 2014
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