Thursday, November 13, 2008

Latin America has withstood the Western financial crisis with relatively modest impact

One would have expected the Latin American economies to come crashing down as a fall-out of the historical crisis in USA and Europe. In the past, Latin America used to sneeze when USA caught a cold. Not any longer. Not a single bank or financial instituition went bust in the region while USA and Europe faced collapse of companies and banks with turnover of more than that of the GDP of many of the Latin American countries. None of the Latin American countries have gone to IMF for rescue, even as some East Europen countries have done so. While Iceland, situated far from the epicenter (USA) of the financial earthquake collapsed and had to seek rescue from Russia, none of the Latin American countries, which are in the proximity of the earthquake zone have suffered serious damage. There has been no panic summit meetings or rescue packages or nationalization of banks in Latin America.

In 2009, the US economy is projected to contract 0.7 % and the Euro economy by 0.5%. The advanced economies will suffer recession in 2009. But in Latin America, the growth story is going to continue, but at a lesser pace.

Welcome to the New Latin America! The region has withstood the external shock and surprised the stereotypes.

According to the October report of ECLAC (UN Economic Commission for Latin America and Caribbean),

¨ The economic slowdown and financial crisis in the United States will have a relatively modest impact on the Latin America and the Caribbean region in 2008, except for its exports. Compared to previous shocks in the United States economy and the world at large, Latin America and the Caribbean(LAC) is much less vulnerable than in the past, with a current account surplus, sounder public finances, a lower level and better profiles of public and external debt, and larger international financial reserves. Considering the severity of the global shocks, LAC economies are, on average, weathering the crisis significantly better than in the past.
The LAC region is relatively well placed to withstand a slowdown in the United States and the resulting direct and indirect effects on its exports. The region also enjoys strong fiscal and debt positions that may discourage drastic shifts in financial flows. Latin America is better prepared because of the progress it has made in macroeconomic management.¨

What does the IMF say?

This is even more important because of the love-hate relationship between the instituition and many of the region´s left-leaning governments and intellectuals. According to the October report of IMF, ¨the LAC region is expected to deal with the current global shocks better than in previous crises. This reflects the progress many countries in the region have made in improving their macroeconomic fundamentals over the past decade. The substantial buildup of international reserves, stronger fiscal positions, more credible monetary policy frameworks and improved structure of public debt have made Latin America more robust to external shocks.
The region is better placed than in the past to absorb the sharp slowdown foreseen in global growth. The high level of reserves coupled with strong banking systems, lower public debt levels, reduced public sector financing requirements and generally flexible exchange rates provide Latin America with more room to deal with adverse global developments than in the past. One major plus, so far at least, has been the stability of money and bond markets in Latin America despite the turmoil in financial markets in the advanced economies. Moreover, reserve levels are high, and flexible exchange rates provide room to maneuver in a number of countries. Latest available financial soundness indicators continue to point to the overall robustness of banks across the region.
LAC region’s resilience to shocks has increased in recent years. Public debt levels and financing requirements have been reduced, and external current accounts have been strengthened. Moreover, the credibility of macro policy frameworks in many countries has been strengthened, while flexible exchange rates have provided an important shock absorber for several countries. Financial sectors too are more robust, with higher levels of capitalization and profitability.¨

Financial Times of 4 November has an article with a title ¨ Latin America sidesteps the worst of the crisis,¨ which says ¨the region´s banks have weathered the current global financial storms in relative comfort. The domestic funding markets have for the most part continued to function, in spite of the dislocation in industrialized markets. In general, Latin America´s banks are proving very resilient. Learning from the past crises, the central banks have curbed bank borrowing in dollars and insisted that the banks are well capitalized.¨

Changes in the market and mindset

The governments and the companies of the region have learnt lessons from the past crises and are exercising more discipline and are better prepared to face external shocks. ECLAC praises the notable improvements in macroeconomic and financial policies; reduced dependency on external capital inflows; major reduction of currency and rollover risks in the governments´ debt portfolios; deepening of local currency debt markets; substantial increase in foreign exchange reserves; flexible exchange rates as part of more robust and credible monetary policy frameworks; and a shift to external current account surpluses or significantly lower deficits.

The Latin American firms have become, on average, substantially more insulated from currency risk. Over the past ten years, many firms have sharply cut their balance sheet exposure to a sudden devaluation by reducing the share of debt contracted in foreign currency. The average share of foreign-currency-denominated liabilities in Latin America dropped from 35 percent in 1998 to 17 percent in 2007. Also, many firms have built up considerable foreign exchange buffers, by hedging a higher share of their dollar liabilities with export revenues and assets denominated in foreign currency.

The way the Latin American economies have withstood the storm from the north is an indication of the new paradigm of stability and growth of the region. It is farewell to the boom and bust cycle of the past.


Despite the crisis, region’s economic growth is projected to be 4.6% in 2008 and around 3.6% in 2009. Argentina´s GDP will show a growth of 6.5% in 2008 and 3.6% in 2009. Brazil´s growth in 2008 is projected to be 5.2% in 2008 and 3.5% in 2009 while Mexico will have lower growth of 2.1% in 2008 and 1.8% in 2009. The growth of the region is sustained by a strong domestic demand.

The crisis, has of course, ended the boom of the last six years when the region was growing around 5% a year compared to the average of about 3½ percent in the period 1970-2000. In the last six years, per capita growth was over 3% in a row. Unemployment fell from 11% to 7.7%. The current account was in surplus. This period saw the best sustained performance since the 1970s, because of the adoption of strong policy frameworks and favorable global economic conditions. The region’s current account balance is expected to move to deficit in 2008 and 2009, but it will remain quite low.

Now let us see how the triple curses ( inflation, external debt and exchange rate) which had tormented the Latin American economies in the past, are behaving now.


Inflation for the region as a whole is projected to reach 8.5 percent in 2008, the highest rate in five years, resulting from strong domestic demand and rising world food and energy prices. But it is expected to decline to 6.6 percent in 2009, helped by softening international commodity prices, tighter monetary policies, and slowing demand growth. It will, however, remain at double-digit levels in some countries such as Bolivia, Paraguay, Venezuela, and Argentina.
It may be noted that Inflation is no longer a curse in the region. It has been decisively tamed and has been kept in single digit in this decade.

External debt

External debt, which was another curse, has also become manageable. IMF has no more clients in the region. Brazil and Argentina paid off their entire debts to IMF in 2006, ahead of due dates. External debt as a proportion of GDP has halved from 42.2 percent in 2002 to 20.2 % in 2007. The average share of foreign-currency-denominated liabilities in Latin America dropped from 35 percent in 1998 to 17 percent in 2007. In the top six countries of the region, firms have built up considerable foreign exchange buffers, by hedging a higher share of their dollar liabilities with export revenues and assets denominated in foreign currency

Exchange Rate

The major currencies of the region had been appreciating since 2002 when the dollar started falling. This trend has reversed after the current crisis and the central banks have intervened in the markets to arrest depreciation. But the currencies and exchange rates are by and large stable and predictable, unlike in the past.

Foreign Trade

Latin American exports are projected to grow by 2.8% this year while the imports are expected to increase by 11.8%. In 2007 exports had increased to 752 billion dollars from 670 billion in 2006. Imports went up to 677 billion dollars from 573 billion in 2006. The South American countries had accumulated large trade surpluses. However the fall in commodity prices and demand this year will reduce the trade surplus. Many governments of the region have started putting some brakes on imports to protect local industries and jobs.

Downside risks

Of course, Latin America cannot escape the inevitable pain arising from the global financial crisis and economic slowdown. They will be affected by the decline in demand and price for their commodity exports and the reduced access to credit. Most analysts expect agricultural commodity prices to peak in 2008 and flatten or decrease slightly in the following years, although on average they will remain higher than during the decade prior to the boom. A prolonged slowdown in the United States will not only threaten the economies of Latin America and Caribbean economies directly through lower import demand and a decline in remittances, but also indirectly through its impact on Asian economies and trade.

Mexico and Central America will face greater impact of the crisis and the recession in the US market since they are more dependent upon USA for their exports and remittances by their expatriates.

Diversification of Latin American exports

One of the reasons why the region has been affected less from the contagion from the west is the decline in the share of USA and EU in Latin American trade. The share of USA in the exports of Latin America and the Caribbean has fallen from 60% to just 42% between 2000 and 2007. Even the Mexican exports to the United States has reduced from nearly 90% of the total in 2000 to 78% in 2007. According to Latin Business Chronicle, Latin America´s exports to USA grew by 4.2% while their exports to China grew by 49.4%. The European Union too is losing ground as a trading partner for the region. Imports from the European Union as a share of total Latin American and Caribbean imports declined from 20% in 1990 to approximately 14% in 2006. In the same period exports to the European Union declined from 25% to 13%. Intra regional exports accounted for 18 % of the total exports of LAC while the exports to EU were just 13%.

The Latin American countries have been consciously diversifying their export markets and reducing their dependence on traditional markets, as seen from the following trade statistics of 2007. For example, 55% of Argentina´s exports went to Latin America and Asia while USA and European Union together accounted for only 27%. Latin America and Asia accounted for 43% of Brazil´s exports while USA and EU took 39%. Chile´s exports in 2007 to Asia Pacific were 36 % while their exports to USA and EU combined were just 37%. Colombia exported more to the rest of Latin America (36%) than to USA ( 31%).

The reduction in dependence on USA and Europe is happening not only in trade but also in investment. Historically, the United States has been the most important source of FDI in Latin America. In the 1990s, Spain came to be a big player acquiring Latin American banks, utilities, telecom companies and manufacturing units. The Spanish were the first movers during the wave of privatizations in the eighties and ninties. In the present decade, the share of intraregional FDI in total FDI inflows in Latin America has doubled (from 5% to 10%) due to the emergence of a number of companies of Latin American origin, the so-called trans-Latins.

Asian attraction

While the shares of USA and Europe are coming down, Asia is increasing its share of Latin American trade. According to ECLAC the dynamic Asian region, led by China, will help offset some of the decline in export demand in the developed countries. Since 2001 more Latin American and Caribbean imports have originated in the Asia-Pacific region rather than in the European Union, and the share of Asia-Pacific imports is rising steadily. If the current trend continues, by 2010, as much as 30% of Latin American and Caribbean imports could come from the Asia-Pacific region.

Nearly 36% of Chile’s exports go to Asia- Pacific region; the figure for Dominica is 31%; for Cuba, 29%; Peru, 24%; Costa Rica, 24%; Brazil, 18%; Bahamas, 17%; Argentina, 16%; Uruguay, 12%; and Bolivia, 12%.

The Latin Americans do not expect increase in their exports in 2009 to the developed markets because of the recession which is setting in the advanced economies. Their hope is on the emerging markets which are going to grow by 5 %, much of which is going to come from Asia.

The Latin Americans are not only facing a declining share of USA and Europe in their trade and investment but are also disillusioned by the western mindset. Many of the Latin American countries in the region who were subjected to neo-liberal policies of the Washington Consensus are now seeing the hypocrisy of the west which is doing exactly the opposite of what they preached by rescuing the market through government intervention. The Latin Americans are frustrated with the protectionist trend in USA and Europe even while the latter are clamouring for the opening of the Latin American markets for their exports and investment. More than these, they are disenchanted by the current dominant mood of doom and gloom, fear and paranoia in the west. They contrast this with the cheerful Indians and Chinese who are brimming with optimism and confidence. They are inspired by the Asian story of growth. They are encouraged by the large and growing markets of India and China which offer increasing opportunities in the short and long term for their exports and business. The Chileans and Argentines dream of putting one glass of their wine in the hands of each of the 500 million middle class people in India and China !

All the reports on Latin America by ECLAC, IMF and global consultancies always have a chapter on China and India and highlight the growing importance of these two giants for Latin America. The latest report of ECLAC advises the Latin American and Caribbean region’s authorities
- to redouble their efforts to identify and capitalize on new opportunities to enhance their countries’ potential complementarities with the Asia-Pacific region.
- To take full advantage of Asia’s trade and investment dynamic, Latin America and the Caribbean must, as a matter of urgency, reorient and realign its relations with the Asia-Pacific region in order to sustain its commodity exports while producing more value added and more technologically complex manufactures for that market.
- With imminent risks bearing down on the world economy and the emergence of a new geography of the world economy increasingly centered around Asia-Pacific, Latin American and Caribbean authorities should redouble their efforts to identify and capitalize upon the potential complementarities between the region and Asia-Pacific.
- Latin America and the Caribbean should take advantage of its current favourable position to lay the foundations for sustained trade and investment relations by creating biregional business alliances, enhancing cooperation in innovation and human capital in order to diversify trade, add greater value and knowledge to exports, and help create more stable conditions for growth.

Opportunity for India

There is a saying in Latin America ¨A Rio reveuelta, ganancia de pescador¨ – means when the river is turbulent, the fisherman will gain. Simply put, every crisis is an opportunity. And the Indian businessmen should take advantage of the current situation of Latin America which is looking towards Asia more seriously than ever.

While talking about the new China- India phenomenon, the Latin Americans tend to have a bias towards India. Surely they are dazzled, like everyone else, by the spectacular growth of China. But they are able to relate themselves, their problems and their situation more with India, which has shown by its example that growth and transformation is possible in a democratic system despite so many challenges arising from such a vast diversity and political spectrum.

Latin America and the Caribbean is a net exporter of fuels, metals and agricultural products and a major producer and exporter of commodities on a global scale. In 2006, the region produced 44% of the world’s soybeans and 13% of global maize output. Its share in the production of zinc, aluminium and copper is also sizeable, at 28%, 22% and 19%, respectively, of the world total. India needs to import edible oils, pulses, petroleum and minerals and metals to sustain its new growth trend and to cope with the ever-increasing consumption. Latin America is a region which can satisfy some of the requirements of India. Already India has started importing copper, soy oil, and crude petroleum from Latin America and these will increase in the coming years.

This is a good time for the Indian companies to acquire assets ( agricultural land, mines, oil fields, forestry, manufacturing units) and expand their business in the region, since at this time the risk-shy companies from US and Europe are reducing their exposure and are relatively less active here.

India exported 5 billion dollars worth of goods to Latin America in 2007. It can be doubled in the next three years, given the large and growing market of 530 million people in the region.

While India´s trade with the region was 11 billion dollars in 2007, the Chinese trade was 103 billion dollars. The Chinese had increased it from 12.6 billion dollars in 2000.

Indian IT companies have established software development centres, BPOs and KPOs in the region employing 8000 young Latin Americans, as part of their new business model of providing 12 hours of service from Latin America (same time zone as USA) and 12 hours from India. The Indian companies have also started picking up local business from Latin American companies including a 150 million dollar contract by TCS from Banco Pichincha of Ecuador.

In the past, Indian companies had a ¨barrier mindset¨, considering distance and language as barriers for business with Latin America. Now the Indian IT companies consider these two factors as advantages and make use of them merrily. Distance is not a barrier either for the Chileans who export fruits to India.
The ex-Chilean Ambassador Jorge Haine used to say, the distant Chile exports more (2.2 bilion dollars) to India than the neighbouring Bangladesh (257 million dollars).

Welcome to the new paradigm of business with Latin America!