Rough Seas, Rising Energy, and Argentina’s Abandoned Peg.

We were on our way back to Ireland. But we have been delayed. It’s wintertime in the North Atlantic. The sea is rough and the crossing — 18 hours on the ferry — would probably make us very sick. A change of plan was necessary. We’ll wait until tomorrow, when the waves are expected to calm down.

For now, we are comfortably lodged in an old farmhouse. Built in the 18^th century, it has been renovated, but it retains much of its charm. Here, for example, is the fireplace:

Note also that the mantle on our fireplace here is oak beam. It’s far enough above the flames that it doesn’t catch fire itself, but this construction probably wouldn’t be allowed in most places in the US.

The open fire is delightful. We are sitting in front of it now…working on our laptop computer. But it’s not very practical. If you sit close enough, you can warm yourself. But most of the heat goes up the chimney.

Your editor is a connoisseur of fireplaces. Wherever he goes, he takes note of how they are constructed…whether they are handsome or ugly…and how much heat they provide.

Most fireplaces in the US are too small…and typically, too deep. The fire is tucked away…and then masked by screens to keep the occasional ember from landing on the carpet.

For heating purposes, a wood stove is much better. It’s more efficient. The stove can be brought out into the room, and if it has a large glass door in front, you can still get much of the feeling of an open fire.

The great transition

‘What’s your Plan B?’ we asked a friend yesterday. He had permanently sealed off his fireplace to keep the cold air from coming down the chimney.

‘When the electricity fails, how are you going to heat?’ we followed up.

In the great transition ahead, from traditional, market-based fossil fuels to new, ‘green’ energy, heavily subsidised by the government, we take it for granted that the power is going to go out. Probably at the worst possible time, when people most need it. A Plan B may be useful.

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A wood stove is a simple, inexpensive precaution, especially in the kitchen. There, you can keep at least one room warm. And don’t forget to keep on hand a good stack of dry firewood.

Enough gratuitous comment on fireplace design! Let’s return to connecting the dots by looking more closely at where we are likely headed — Argentina. Yes, we study the pampas…and hope to learn something. And what we’ve learned so far: you need a Plan B.

Argentina may be the most ‘European’ country in the world — in the sense that it has gotten very few immigrants from Africa or Asia. But the European family tree has many branches.

‘If you want a high interest rate, lend to people who drink wine. If you want to get paid back, lend to the beer drinkers.’

This was the advice of bankers in the Old World. Their experience told them that the beer drinkers — in Britain, Germany, and Denmark, for example — were better credits than those in the wine regions. The Germans paid their bills. The Italians, well, sometimes.

The Argentines drink wine. And in this, as in many other things, they resemble their Sicilian cousins.

Typically, a Plan B for foreign creditors means lending in dollars, not pesos. This makes it impossible for the wine drinkers to inflate away their foreign debt. They don’t control the dollar. They can’t print more of them.

But the Argentines have a Plan B too. They just don’t pay. Nine times since independence from Spain, Argentina refused (or has been unable) to pay its government loans.

As for local transactions, Argentine households and businesses need a Plan B, Plan C, and Plan D too. Welfare payments, salaries, unemployment benefits, and pensions — even though they are ‘adjusted for inflation’, their real values go down. And consumer prices go up so fast clerks have a hard time keeping up with them.

Beyond Plan Z

During the 1980s, inflation averaged about 300% per year. It was clocked at a record of 5,000% in 1989. By then, the gauchos were running out of alphabet.

‘When the money goes, everything goes’ is a Diary dictum. And when the money went in Argentina, it led to a military takeover, a domestic ‘dirty war’ that left some 30,000 ‘disappeared’ people, and a war with the UK over the Malvinas (aka the Falkland) islands.

It was a war that neither country needed, but that served politicians on both shores well enough. Jorge Luis Borges, Argentina’s most famous writer, said it was like ‘two bald men fighting over a comb’.

It was then that a new president, Carlos Menem, decided it was time to break the cycle of debt, deficit, chaos, money printing, and inflation. The nation was fed up. Exhausted. It was time for a new plan.

That’s when the ‘peg’ appeared. No more cheating. No more nonsense. Henceforth and for all eternity, an Argentine peso would be redeemable for a US dollar. One to one. No questions asked.

But when we met Mr Menem in the late ‘90s, we had a question. In the few years in which the ‘peg’ was in place, the Argentines had already done what they did best — borrow and spend. And now, it had spent too much. And with more and more money to pay back, Argentina needed more and more dollars. Lenders wanted higher and higher interest rates to protect themselves from the risk of default.

Argentina was caught in a very familiar ‘inflate-or-die’ trap. Either it broke the peg, stiffed its creditors, and printed more currency to keep the party going…or it kept the peso-dollar peg, reckoned with its debts in an honest way, and swallowed the resulting investment losses, defaults, and period of recession and austerity. Oh, and the ruling party would almost certainly lose the next election, too.

Inflate or die? Which way would it go? We asked the energetic man, with lifts in his shoes and dye in his hair, in front of us.

‘Sooo…will you be able to maintain the “peg”?’, we wanted to know.

‘Of course,’ came the ready answer.

‘We realise that the peg is critical…crucial…to our economic success. We will never abandon it.’

The next time we visited, in the early 2000s, the peso was trading at 3 to 1. The peg had been discarded.

And today, the black market exchange rate is 210 pesos to one US dollar.

But wait. This comes from a friend in Salta, Argentina:

‘Bill, our #1 Plan B was always to keep our money in dollars. But now that you Americans are acting like Argentines and inflating the dollar, how are we going to protect ourselves?’

Next week…what do Americans drink? Beer or wine?

Regards,

Bill Bonner,
For The Daily Reckoning Australia

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