Last week’s agreement between Argentina and the International Monetary Fund (IMF) to restructure a record high 2018 loan brought the country and the world back from the brink of defaulting, which could have threatened the international financial system’s stability. As with any negotiated agreement, it was not ideal. But both sides clearly understood the dangers of falling into the abyss of the unknown: What would happen if an agreement was not reached? Most important, the IMF did not insist, as it usually does, on austerity. The agreement instead provides Argentina with room to continue its economic recovery.

What 

makes this agreement so important is it may set a precedent for dealing with debt restructuring and financial crises that could arise in the pandemic’s aftermath. Debt levels have risen around the world. High-income countries like the United States can manage them, but many developing countries and emerging markets will be stressed to the limits. The Argentine agreement gives them hope that they can turn to the IMF without the Fund imposing detrimental austerity and other counterproductive conditionalities. Let’s hope that’s the case.

The government of Argentine President Alberto Fernández faces an enormous debt burden as well as other constraints inherited from the 2018 IMF agreement made by the prior government. It is also dealing with the scourge of COVID-19. But the country managed a near 10 percent growth rate last year, when 

economists had predicted a much more tepid recovery. With a growing economy, Argentina managed to reduce its primary budget deficit by 3.5 percent of GDP in 2021. Entering IMF negotiations, Argentina simply wanted the ability to continue its recovery—without the harmful conditionalities that have so often been included in past IMF programs.

Most economists recognize the importance of governments to provide fiscal support for economies that are slowing today in the midst of the pandemic and its economic and health impacts. That’s what both the Trump and Biden administrations have done in the United States. That’s all that Argentina had been asking for itself, within the confines of its own resources. It had managed to achieve a trade balance. Argentina wasn’t asking for a new inflow of funds; the government just needed to avoid conditions that would stifle economic recovery or harm poor and working people.

The irony here is that the IMF’s primary mission is to provide hard currency loans for countries that are facing balance of payment problems. But giant debt payments to the IMF have become the main risk to Argentina’s balance of payments.

A bit of history explains how Argentina got into this predicament. Its 2018 IMF agreement required the government to tighten its budget by 4.4 percent of GDP from 2018 to 2020 to “restore market confidence.” It had the opposite effect, and the economy shrank. The IMF doubled down and opted for even more fiscal and monetary tightening. The IMF had projected positive growth of 0.4 percent for 2018 and 1.5 percent for 2019 under its program; instead, there was recession, with GDP growth at -2.6 percent for 2018 and -2 percent for 2019. Poverty increased by 50 percent.

When the pandemic hit, the situation got much worse, with GDP falling by 9.9 percent in 2020. An IMF internal evaluation released in December 2021 expressed unprecedented criticism of its 2018 loan agreement and conditions. The report noted that “the program ended up with a procyclical 

policy stance, arguably worsening capital flight rather than boosting confidence,” and their colleagues should have foreseen, based on previous IMF research, that budget tightening of this size could be “self-defeating.”

The billions of dollars that the IMF lent, without imposing capital controls, enabled the wealthy and well-connected to take their money out of Argentina at a more favorable exchange rate—leaving the country with nothing to show for the $44 billion, except an enormous hole in its balance sheet.

In February 2020, the IMF concluded that Argentina’s debt was unsustainable. This helped the new government successfully negotiate a sovereign debt restructuring with  private creditors in 2020. This restructuring was unprecedented in some important ways. It allowed for economic recovery, with employment increasing by around 1.7 million jobs. According to the government figures, investment also increased by 35 percent.

 Some of the same economic debates occurred in the months before last week’s agreement between Argentina and the IMF. Argentina’s government, with its well-trained economists, insisted that austerity is contractionary, something that should seem obvious to anyone who has taken an elementary course in macroeconomics. But in the upside-down world we live in, there’s a school of thought that argues that contractionary policies can be expansionary; it was this viewpoint that dominated when creating the 2018 loan. It didn’t work there: No surprise. It’s virtually never worked. The reasoning (if we can dignify it with that word) is that commitment to austerity will restore confidence, confidence will lead to inflows  investment, and these inflows will more than make up 

for reductions in government spending. What happened in Argentina is what usually happens: Economic downturn eroded confidence; investment fell; and banks were hurt, cutting back lending in a downward vicious cycle.

The dangers of this happening in Argentina, had austerity been imposed, would be especially great. Given Argentina’s circumstances—and the likelihood of rising international interest rates—there was likely to be little in terms of capital flows or foreign investment. The idea that cutting government spending would magically restore confidence, leading to an influx of money and compensating for the loss of fiscal support, is sheer fantasy.

Advocates of austerity have criticized the current government for not bringing down the inflation rate faster. Inflation was another adverse legacy the Fernández government inherited from former Argentine President Mauricio Macri. Although inflation is now a bit less than before the Fernández government took office, there has been little progress in bringing it down. But if one weighs the costs and benefits of doing more, the government has come down on the right side. Usually, there are three concerns about inflation: First, it will become runaway or hyperinflation; this is not happening. Secondly, it will destroy economic growth. But as we have noted, growth has been strong in 2021, overcoming COVID-19’s aftermath. And finally, inflation can increase poverty among those whose incomes do not keep up with price increases. The government has increased anti-poverty programs, such as cash transfers, and taken other measures to address this problem. The increase in employment by around 1.7 million jobs due to the 2021 recovery has pulled many people out of poverty.

The relevant question is thus the counterfactual. What would have happened if the government put reducing inflation, rather than growth and poverty reduction, at the center of its agenda. Almost certainly, growth and employment would have been much lower and poverty much higher. None of the critics of Argentina’s policies have put forth a credible economic agenda, given the mess the government inherited and the realities of COVID-19, by which there would have been a greater reduction in inflation without untoward effects on poverty and growth. Macri’s government showed that one could do much worse: Get high inflation even with negative growth and massive increases in poverty.