Argentina hikes rates to 40% to staunch run on peso

Argentina's central bank hiked its main policy interest rate for the third time this week as it fought off a run against its currency.

On Friday, the monetary authority hiked its seven-day repurchase rate by 625 basis points to 40.00% for a cumulative hike of 1,275 basis points over the past week in a bid to try and stabilise the peso (ARS).

In a statement announcing the move, the central bank said the decision was taken after the peso had weakened versus other emerging market currencies the day before.

Policymakers also set a ceiling on the amount of hard currency that lenders would be allowed to keep on their books at the end of each day, reiterating that they stood ready to intervene in foreign exchange markets using all the tools at their disposal.

Over the past five days they had already employed $4.3bn in support of ARS, according to analysts at Bank of America-Merrill Lynch.

Analysts at BoA-ML and Pantheon Macroeconomics both expected authorities in Buenos Aires would succeed.

Weighing on the peso, and emerging markets more generally, was the recent jump in longer-term US Treasury yields and expectations for further tightening, with certain countries such as Turkey also in the spotlight.

Reacting to the central bank's announcement, as of 1536 BST the US dollar was down by 2.26% versus the Argentinian peso at 21.8699 after hitting an intraday low of 21.2381.

Yet the US dollar remained far above its 52-week lows of 15.2943.

In the past, investors in EM have at times been known to rapidly withdraw investments, redirecting flows towards higher yielding and safer US dollar assets, although in recent times such markets had enjoyed a certain reprieve given the gradual nature of the US interest rate cycle this time around.

Indeed, the economic literature is littered with examples of currency crisis in EMs coinciding with turns in the US interest rate cycle.

Such a tendency was especially acute in the case of Argentina, whose savers had suffered from the impact of multiple currency devaluations throughout the country's history.

Recent troubles in its northern neighbour - and one of its largest trading partners - Brazil were likely not helping matters much either.

Furthermore, and perhaps most important, while it was hoped that the sharp hike in official interest rates would help contain speculative pressures against the peso (a recurring theme in the country's economic history), it would bring significant pressure to bear on the economy, perhaps even bringing it to its knees for a time, said Andres Abadia at Pantheon Macroeconomics.

Indeed, according to Abadia, Buenos Aires was also facing heightened domestic political risks as a result.

Nevertheless, Argentinian authorities had also reacted by tightening their government spending targets for 2018, which in the opinion of Abadia "should help to tame pressueres on the peso".

Even so, he added: " On the face of it, this action underscores the apparent willingness of the central bank to support the currency and suppress inflation expectations, even if the price to pay is to bring the economy to its knees. But it is not clear that policymakers will stick to their convictions as the pain mounts."