Economic Trends -Latin America-
The fourth issue of Trends reviews
the financial and economic
developments that occurred in the
major Latin American economies
during 2009. Also, given that first
quarter of 2010 GDP data is not
yet available, it makes assertions
about the most probable outcomes
and formulates assertions for
the future. In the case of Colombia
there are detailed forecasts for
the next six years.
The GDP graph shows how Mexico was the regional economy
most affected by the crisis with a contraction of 6.5%
in real terms. At the end of 2009, Mexico had endured
five consecutive quarters of negative growth. On the
other hand, Brazil and Colombia had three quarters of
negative growth and Argentina two. However, it is highly
possible that first quarter of 2010 data shows Mexico
emerging from the recession thereby making it the last
large Latin American economy to do so. Thus, in the first
quarter of 2010 the four economies will show positive
real GDP growth leaving behind a painful and challenging
2008-2009 crisis.
For these four economies 2010 will surely be better
than 2009. However, Argentina and Brazil face renewed
inflationary pressures that may hinder the economic
recovery while Colombia and Mexico seem to have suffered
the most during the crisis. Thus, the argument made in
2008 that these countries were somehow isolated from
the effects of the international crisis has been discredited
as well as the contention that they had somehow decoupled
from the U.S. economy.
In 2010, despite a sizable increase in external debt,
the countries that seem better poised to take advantage
of the global recovery without increased inflation are
Colombia and Mexico given the severity of the recession
in the case of Mexico and the monetary adjustment endured
by Colombia. In both countries inflation so far is not
a major issue and while growth may not reach the levels
observed in 2007 in the case of Colombia, Mexico could
easily surpass it. Furthermore, with a prudent mix of
fiscal and monetary policy, 2011 could be even better
for both countries.
Argentina
There have been many unconventional moves
with respect to Central Bank management
including the destitution of its manager and
the use of reserves to partially finance a
government shortfall. Economic policy in
Argentina has also suffered by a lack of
confidence from financial markets as bond
yields have increased thereby delaying the
execution of debt swaps that could allow the
country to improve its debt profile and
international standing. At the same time,
the 2011 upcoming elections make it less
likely that government expenditures will
slow down in 2010 as the incumbent administration
seeks to perpetuate itself. Thus, although
Argentina avoided a significant recession
in 2009 the economic policy challenges
for 2010 loom even bigger.
However, given the scope of the
European debt crisis it is important
to underline that Brazil's external
debt has fallen from being equivalent
to 19.2% of GDP in 2005 to only 12.5%
of GDP in 2009. Thus, the country has
ample room to maneuver on this respect
and rating agencies may be looking
favorably at this development.
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Economic growth will be higher in 2010 and
the government will do everything to make
sure this happens given the upcoming elections.
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There is no doubt that inflation will increase
with respect to 2009, probably approaching the
2005 level of 12.3% and with the risk that
could come close to 30%
-
Given the recovery it is possible that the
unemployment rate stays around the 8% level.
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At this point is yet uncertain whether
Argentina will be able to return to
the international capital markets by
executing a debt swap and placing a bond.
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Argentina's economic management is
unorthodox and therefore introduces problems
in terms of current and future stability and credibility.
Brazil
At the same time imports and exports contracted
at similar rates implying that there was not
a significant adjustment in the current account
balance. However, there was a large contraction
of -9.9% in investment during the year. These
facts make Brazil a good candidate for a stable
and sustained recovery.
Given that the inflation target for the
year is 4.5% plus or minus 2 percentage
points the central bank may be forced
to increase interest rates further.
However, it is unlikely that inflation
becomes a major destabilizing factor
that could hinder the recovery.
Nonetheless, it is quite possible that
inflation for 2010 will be at the top
of the range of the central bank's target
of 6.5%. Despite possible additional interest
rate increases it is expected that economic
growth for 2010 will be around 5% which is
above the average for the decade.
The debt crisis in Greece may paradoxically
help Brazil. As investors take a more cautious
approach towards emerging markets inflationary
pressures may be somewhat relieved since
aggregate demand may increase less. In any case,
the country is likely to remain one the most
attractive emerging economies in the world.
However, given the scope of the European
debt crisis it is important to underline
that Brazil's external debt has fallen
from being equivalent to 19.2% of GDP
in 2005 to only 12.5% of GDP in 2009.
Thus, the country has ample room to
maneuver on this respect and rating
agencies may be looking favorably
at this development.
Overall it can be said that Brazil has managed
the crisis effectively without a significant
fall in GDP during 2009 while consumption,
household and government, increased at relatively
acceptable rates. While some inflationary pressures
are evident the commitment to a stable level of
prices and lower government expenditures will
ensure that the inflation rate stays under control. Thus:
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GDP will likely grow at a real rate of 5%.
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Inflation will probably be at the top of the 6.5% target and could even be higher.
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The unemployment rate will fluctuate between 7% and 8%.
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The main risks for Brazil at this point are inflation
and being so attractive that large capital flows
(long and short term) may be destabilizing.
Colombia
In the fourth quarter of 2009 GDP grew
by 2.4% with respect to the same quarter
of 2008. The strength of this recovery
is similar to Argentina’s (2.6%) but
smaller than Brazil's (4.2%).
The case of Colombia is somewhat
different than the other three countries,
where inflation has already picked up,
as the annual inflation rate remains one
of the lowest levels in history in April.
Indeed, monetary policy was very tight in
2008 before the crisis fully developed as
inflation in 2007 and 2008 had been above
the Central Bank’s target.
Thus, the international recession combined
with tight monetary policy brought inflation
down to the lowest level in history. The
undesirable consequence of this policy was
that economic growth was perhaps curtailed
more than it was necessary and unemployment
higher. However, the good outcome is that the
country does not have to immediately increase
rates as in the case of Brazil but could enjoy
a dose monetary stimulation. In fact, in 2010
Colombia's Central Bank has adopted a more
active role by relaxing monetary policy
and there is even speculation about a possible
interest rate decrease.
As was discussed on the previous issue of
Trends as the participation rate increased
the unemployment rate was meant to be higher.
Indeed, as had been predicted with a participation
rate above 62% the rate should remain at a level
of close to 14% which was effectively reached
in January. However, in March the participation
rate was slightly reduced pushing the unemployment
rate down so that the average for the quarter is
below 14%. This will remain a problem this year
and in the future unless policies to favor employment
are adopted. It should be stressed again that due
to extreme income inequality and a lack of a proper
social safety net in Colombia, unemployment
there is particularly harmful.
Part of the problem is that over the past decade
only capital friendly policies have been adopted
at the expense of the labor force. And unemployment
is not only bad for the individual and family suffering
its consequences but also for consumption, social stability
and mobility and for the economy as a whole. Indeed, unless
consumption increases in 2010 economic growth is likely
to remain depressed.
External debt will only increase in 2010
as the fiscal deficit expands due to a fall
in revenues because of the recession and
expenditures increases because of the lingering
effects of fiscal stimulation during 2009.
Colombia is currently seeking to improve its
credit rating and obtain the elusive investment
grade but these developments do not help.
At the same time, with the international debt
crisis looming, rating agencies will be less
sympathetic to consider rating improvements.
For Colombia, 2010 presents great opportunities
to consolidate a strong economic recovery
but also some serious challenges and risks.
The situation can be described in the following terms:
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In 2010 Colombia has the opportunity to consolidate
a solid economic recovery by adopting a more restrictive
fiscal stance and a softer monetary policy given that
the risk of increased inflation is low.
-
GDP growth in 2010 is forecasted to be above the 2009
level (0.4%) but lower than the average for the decade (4.1%).
-
Now that the risk of a financial crisis has passed,
the government should concentrate in reducing the
fiscal deficit and improving public debt indicators
in order to bring them back to the levels observed
at the end of 2008.
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The major risk for Colombia at this point is that
the economy remains relatively depressed as consumption
stays subdued due to the high unemployment rate.
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Without a main policy change, the country is likely
to experience chronic unemployment of above 12%.
The new government should launch a major effort
to address this problem.
-
As long as unemployment remains at this high level,
income distribution is bound to keep deteriorating
making Colombia a serious candidate to have the worst
income distribution in the world with all of its ailments.
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Given the reduction in inflationary pressures interest
rates are likely to remain low favoring the recovery
and increased investment.
-
As the economy recovers, imports will increase relatively
faster than exports bringing about a deterioration of
the trade balance.
-
The other major risk for 2010 is political as a new
president takes over. However, the market seems
to already have discounted this factor and appears
comfortable with either of the leading candidates.
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Although volatility is now lower, implying a decrease
in risk, the new president may change this if he is
unable to articulate a clear and sound economic policy
agenda for the next four years.
Macroeconomic Model -Colombia-
The compact macroeconomic model (CMM)
has been updated with the latest information
available in order to produce quarterly forecasts
until 2015. This is a multiple equation stochastic
model that was run at the 99% confidence
level with 50,000 iterations.
In the last issue of Trends GDP growth had been
forecasted to be 2.1% for the fourth quarter
of 2009 and 0.2% for the whole year. The
actual numbers were 2.4% and
0.4% respectively which somehow validate the
effectiveness of the model. For the first quarter
of 2010 the model now forecasts a growth rate of
3.9% with respect to the same quarter of the
previous year while for the entire year has an
expected annual growth rate of GDP of 3.5%.
On the first quarter of 2010 issue of Trends
the expected annual growth rate of GDP for
2010 had been calculated at 1.2% for the year.
Now growth is expected to be higher due to
improved investment and household consumption.
At that time, the CMM was also forecasting a
mild recession in 2011 while it now predicts
growth for that year to be at 4.2% and a
recession in 2014.
The different versions of the model seem
to suggest that there may be a recession
between 2010 and 2015 unless policy measures
can improve consumption growth and reduce
investment volatility. Whether unemployment
can be reduced will make an important
difference for growth stability.
On the other hand, the forecast made in the
Q1 2010 issue of this newsletter expected
the growth rate of investment for the fourth
quarter of 2009 to be -1.6% and -6.0% for
the entire year. The actual numbers were
3.0% and -5.2 respectively.
In order to fight against the recession
the government was forced to adopt a more
active fiscal policy by increasing expenditures.
However, given budget rigidities it is difficult
to promptly increase government expenditures
and what usually happens is that they will
peak well beyond the end of the recession
as seems to be the case right now.
The growth rate of government expenditures for the
fourth quarter of 2009 had been forecasted to be
5.5% in the Q1 10 issue while the growth rate for
the whole year had been estimated to be 2.8%.
The actual numbers came in at 5.3% and 2.9% respectively.
Given the large increases in the fiscal deficits
of 2009 and 2010 the government does not have a
lot of room to increase expenditures further.
Also, central government foreign debt had the
largest increase in history during 2009 while
domestic debt had the second largest increase
in history. Thus, probably the new government
will have to address this problem by cutting
expenditures, increasing taxes or both.
Considering these technical details,
net export growth had been forecasted to
be -14.3% for the fourth quarter of 2009
and -13.9% for the whole year. The actual
numbers came at -0.5% and -10.5% respectively.
The actual GDP number for 2009 was $281.4
trillions of 2000 pesos which is well within
the range forecasted at the 5% error level.
This confirms that, at least in the short run,
the model performs rather well.
Household consumption, which is the most
important determinant of GDP, will grow
at a rate between 4.9% and 1.2% during 2010.
It is therefore expected to be between $186.6
and $193.5 trillions of 2000 pesos. After 2010,
consumption growth will remain relatively soft
until 2013 and then contract in 2014 and 2015.
However, it is important to underline that given
the width of the confidence intervals GDP and
household consumption may never contract so that
the forecasted 2014 recession may indeed never
materialize. For now, the country seems to be headed
for three consecutive years of acceptable economic
growth with an average of 3.9% and start a gradual
slow down in 2013. The historical data and the CMM
model seem to suggest that growth rates much above
4% are unsustainable in the long run in Colombia.
Government expenditures are expected to grow throughout
the forecast period. This is the most stable variable and,
unless there are a major policy changes, no substantial
deviations from its trend behavior are expected.
During 2010 and part of 2011 interest rates should
increase as the economy recovers. Interest rates
right now are at an all time low and there is little
room for them to decrease anymore unless the economy
fails to recover. The model is forecasting that the
average 360 day CD rate in 2010 will be between a
maximum of 7% and a minimum of 3.6%, in 2011 between
10.7% and 7.1% and between 2012 and 2015 between
8.5% and 4.6%.
The graphical depiction of the confidence intervals
at the 99% level is useful to see the possible amount
of fluctuation of each variable.
Mexico
Also while the U.S. had four consecutive
quarters of negative real growth, Mexico
had five as of the end of 2009, making
the recession there not only deep but also long.
Nonetheless, in the first quarter of 2010 Mexico
will be the last country to pull out of the
recession after being the first to go into it.
In 2010 Mexico will probably show a strong recovery
with GDP growing above 4%. Mexicans will be grateful
to have left the most serious economic crisis in at
least three decades. While it is true that in 1995
GDP contracted by 6.2% and there was a major financial
crisis, GDP growth for the previous year was 4.5% and
5.1% for the subsequent year. Thus, this crisis seems
more distressing than the one observed between 1994
and 1995.
Inflation for the year will most likely
be close to 5% well within the targets
established by Mexico's Central Bank. With
a low inflation rate and no major inflationary
pressures on the horizon, a strong recovery
is certainly going to take place. Furthermore,
the latest evidence of robust growth in the
U.S. will only help the Mexican economy.
If Mexico ever looked bad because of the
U.S. recession now it looks good due to
the recovery.
The large increase in the unemployment
rate observed in 2009 will surely be
one of the main economic policy challenges
during 2010. Although the recovery seems
well cemented the large increase unemployment
could hinder household consumption thereby
affecting the recovery.
However, this is not a good moment to be
increasing debt levels. Indeed, with
the development of the European debt
crisis interest rates for Sovereign
debt are likely to keep increasing.
Nonetheless Mexico in 2010 will be
much better off:
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GDP will grow above 4% during 2010.
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The most important risk for the
Mexican economy is that the unemployment
rate remains relatively high affecting
consumption and the potential of the recovery.
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The added debt burden represents an additional
fiscal pressure to already stressed public finances.
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Inflation does not seem to be a risk at this
point and will probably remain under control.
