“Dominance” in the realms of monetary and fiscal policy can be interpreted in at least two distinct ways.
The first interpretation, introduced by Milton Friedman in 1968, posits that when monetary and fiscal policies are at odds—one being expansionary and the other contractionary—the outcomes of monetary policy typically take precedence.
The second interpretation, articulated by Thomas Sargent and Neill Wallace in their 1981 work “Unpleasant Monetarist Arithmetic,” suggests that despite claims of independence, monetary authorities are often compelled by political forces to back fiscal policy through debt monetization when the situation becomes dire.
With this understanding of dominance, we can attempt to dissect the complexities of the Argentine economy under President Javier Milei’s leadership over the past two years—or perhaps we’ll discover the need for an additional theoretical lens.
In this brief essay, I suggest we explore a practical approach to understanding Argentina’s situation—one that acknowledges the existing realities while clinging to core principles. To facilitate this discussion, let’s delve into the concept of policy dominance.
It is, without a doubt, a fact that Milei’s administration achieved a primary surplus in the national budget for 2025. We can debate its sustainability and size, or even argue about the accounting methods for accrued but unpaid interest on short-term treasury notes (LECAPs). Thus, while a primary surplus of approximately 1.4% of GDP exists, the overall budget might not be surplus but rather reflect a deficit of 1.3% of GDP.
Nevertheless, inflation has been hovering around 30% annually for the past six months.
According to Friedman’s concept of dominance, one must conclude that monetary policy remains expansionary, despite the government’s assurances that it is no longer engaging in inflationary financing.
Conversely, one might argue that the current elevated inflation levels, especially when compared to the regional average of 7.2% in 2025, can be attributed to the unpleasant monetarist arithmetic of Sargent and Wallace, suggesting that the Argentine Central Bank has, after all, been coerced into supporting the government by monetizing part of its debt.
In short, the monetary base expanded by 43% and M2 by 27% over the past year. More than 60% of the central bank’s assets consist of loans and bonds issued to the central government (which, let’s be honest, is straightforward debt monetization). Additionally, over 46% of the central bank’s liabilities are non-monetary; thus, beyond what the government is printing, the central bank is also borrowing.
The crux of the matter is that the Argentine government is inflating the money supply (both in terms of the monetary base and credit instruments) and using these resources primarily to acquire foreign reserves.
The rationale behind applying Friedman’s dominance concept to this scenario is that an increase in the money supply is intended to satisfy an increase in money demand within the economy. However, the persistent inflation exceeding 30% annually has already debunked this assertion. It should now be evident that such demand is nonexistent, and neither simple monetarist theories nor rational expectations can adequately explain the Argentine government’s actions.
Another interpretation, within the frameworks we are examining, is that the government is fully aware that its fiscal policies are inadequate to stabilize monetary expectations. After experiencing annualized inflation rates above 200%, the populace may perceive 30% inflation as a relief. In the meantime, the government is biding its time to legislate structural and microeconomic reforms that could genuinely lower business costs and revitalize economic growth in Argentina.
This leads me to propose a third theoretical framework for understanding the current circumstances in Argentina, which casts the Milei administration as practical rather than simply pragmatic.
This framework, more formally known as “The Fiscal Theory of the Price Level,” has been principally championed by John Cochrane, recently discussed in his booklet titled “Inflation.”
I’ll admit, I prefer a less formal exposition of the argument, which I found echoed in Jacques Rueff’s theory of rights as initially proposed in his 1945 work “The Social Order.”
To risk oversimplification, Rueff’s thesis suggests that within the budgetary process, a government can issue claims on real wealth that its tax capacity cannot fulfill. If that were the entirety of the narrative, economic agents would adjust their expectations to reflect the actual purchasing power of the government’s claims and would only accept them at a discount. However, the government possesses a crucial advantage: it can compel the central bank to accept those claims at face value rather than at a market discount. Consequently, some government claims circulate at face value while others are traded at a discount, depending on how accessible the central bank’s discount window is to particular economic agents.
Incidentally, Alex Chafuen and I have previously utilized Rueff’s insights to elucidate Milei’s policies, which you can examine here. This essay serves as another application of that framework to new data.
As government claims near maturity, the ongoing reality is that economic agents’ expectations regarding payment, whether in anticipated purchasing power or merely in nominal values, begin to actualize.
Mr. Milei commenced his administration with a vow not to default on the national debt. Formally, he is upholding that promise. However, the substantial debt inherited from prior administrations and the constraints on budget cuts imply that some degree of debt monetization remains unavoidable, even with a primary surplus in place. Many economic agents in Argentina can perceive this and thus discount the value of the government’s obligations. This manifests as a low demand for pesos and pesos-denominated debt, which in turn elucidates the persistence of current inflation.
Meanwhile, if the latest economic activity figures are accurate, the economy is on a growth trajectory, suggesting an increasing confidence in the reforms, and there exists a possibility that Argentina may eventually overcome its debt burden.
This interpretation reflects my best understanding of the situation. As someone who genuinely wishes the best for Argentina, I hold out hope that it proves to be accurate.
[1] For those hungry for data, I recommend checking the outstanding “currency monitor” tab in the Reform Watch, produced by Universidad Francisco Marroquín in Guatemala.
