Argentina must choose between its peso, a common currency and dollar

Earlier in 2023 the presidents of Brazil and Argentina discussed the creation of a South American currency for the Mercosur common market, one of the largest economic blocs in the world.

A common currency could boost regional growth by making trade between participating countries more efficient. But with elections due in Argentina and a pro-dollarisation candidate leading in the polls, Argentina is at the crossroads. It may choose to adopt the dollar as its currency.

A joint currency has many obvious benefits. It reduces the need for businesses to hedge against currency risk, making it easier for them to plan and invest in new projects. With a common currency, participating countries can share the burden of adjusting monetary policy in response to economic shocks. Like the euro, a joint currency for South America could also become a future global reserve currency.

While joint currencies have shortcomings (such as the inability to employ competitive devaluation), most issues can be resolved with the political will to do so. The EU has already shown this to be the case.

The European Central Bank has used targeted quantitative easing to lower the spread on yields between Italian and German bonds, while budget rules have been suspended when necessary to ensure political support for the euro in underperforming eurozone countries.

This requisite political will seemed to have materialised in South America in the form of Brazil’s President Luiz Inácio Lula da Silva and his Argentinian counterpart, Alberto Fernandez.

The two leaders publicly floated the idea of a joint South American currency at their first official meeting earlier in 2023. The currency could be called the “sur” (meaning south), the adoption of which would create the world’s second-largest currency union after the eurozone.

The two presidents acknowledged that such a scheme may begin simply by switching to trade in domestic currencies as both countries, along with Bolivia, recently announced they will start doing with China.

The leaders also acknowledged that the formation of a joint currency for South America could take decades to come to fruition, as was the case with the adoption of the euro.

But as such an initiative would require a high degree of political coordination between countries with different rates of inflation and economic growth, Argentina’s election results will have a big effect on whether a project like that ever gets off the ground. The leading candidate for the presidency in the latest polls, Javier Milei, has said that if elected he would hold a referendum on dollarising the Argentinian economy, which would take the country in a totally different direction.

Dollarisation may sound appealing to Argentinians grappling with persistently high inflation, but it is no easy task. The government would have to borrow billions of dollars to replace the pesos in circulation, increasing the country’s indebtedness.

Argentina may not be able to borrow enough dollars at current exchange rates, and so the peso could devalue even further in the process, with ordinary citizens losing significant amounts during the transition.

Even without dollarisation it could be argued that a joint currency for South America is not needed as the dollar is already well suited to the purpose of cross-border settlements. A strong dollar has certainly given South American exporters a competitive advantage in trade with the US. But a strong dollar also has negative effects on South American economies as weaker domestic currencies make imports more expensive, which produces higher levels of inflation and increases debt servicing costs.

These negative effects have worsened Argentina’s inflation problems, which is why the country is looking at various solutions, such as currency localisation, the development of a joint currency with Brazil, or full dollarisation. But dollarisation would not only increase Argentina’s debt levels. The country would be giving up control over its own monetary policy. This means competitive devaluation would be possible only through lower wages, which could impoverish Argentinians further. So the development of a joint South American currency may be a better approach.

If a common currency for South America were to be implemented and eventually adopted as a new global reserve currency it could produce multiple economic benefits for the whole region that go well beyond the obvious trade efficiencies offered by a common unit of exchange. Due to the higher demand for the reserve currency it would be stronger than existing domestic currencies, which could enhance the purchasing power of consumers in participating nations, lower domestic inflation, lower debt servicing costs, and lead to higher rates of fixed gross capital deployment.

While critics point out that various economic reforms would be required to make a joint South American currency feasible, this is actually an appealing aspect of the proposal.

The economic reforms required to make a joint currency work, such as better integrated cross-border capital and labour markets combined with prudent fiscal and monetary policies, would all be economically beneficial reforms in themselves, regardless of whether a joint currency is adopted.

In addition to economic factors, there are strong political motivations for a new joint South American currency. Today’s major global reserve currencies are controlled by the imperial powers of world history, such as Britain, Europe’s former colonial powers, the US and Japan. That global financial power should be so strongly correlated with historical imperialism is understandably offensive to many contemporary sensibilities, especially in former colonies, further motivating the development of new alternatives.

If continental free trade areas such as the African Continental Free Trade Area (AfCFTA) in Africa and Mercosur in South America can develop their own currencies, this could make these continents less financially fragile while simultaneously fostering increased regional trade and economic growth. It could help many of the world’s poorest nations in reducing poverty and achieving their sustainable development goals.

Argentina and Brazil are two of the largest economies in South America, and would play a key role in the implementation of a common currency for their continent.

While requiring plenty of political and economic co-ordination, such an initiative could have many benefits, but much will depend on the outcome of Argentina’s election, scheduled for early October.

The country faces a dilemma in deciding whether to muddle through with the peso, implement the tough economic reforms necessary to develop a joint currency with its neighbours, or fully adopt the dollar.

THAT GLOBAL FINANCIAL POWER SHOULD BE SO STRONGLY CORRELATED WITH HISTORICAL IMPERIALISM IS … OFFENSIVE