Most countries in Latin America are much less vulnerable to an eventual capital flow reversal than they were at any time in recent history.
BY GUILLERMO PERRY
Latin America is heading towards a fourth consecutive year of high growth. The region's annual average in the last three years has been around 5.0 percent, higher than in any three-year period in the last twenty years, and we expect a modest slowdown to around 4.5 percent in 2007.
High growth has been a consequence both of a supporting external environment and sound domestic policies. Exceptionally high commodity prices, strong international liquidity and consistent global growth have been the main external factors behind the present period of high growth. We expect continued high commodity prices, supported by high demand growth from Asia, and easy credit, and in spite of the tightening of short term interest rates by the [U.S. Federal Reserve Bank] and the European Central Bank, long term rates and spreads continue at historically lows. The expected US slowdown, however, will have some effect on LAC growth rates, as it is the main trade partner for most countries in the region (with the excepetion of the Southern Cone countries).
Most Latin American and Caribbean countries have taken good advantage of the supporting external environment. During the difficult years following the Russian crises, in which capital inflows severely retrenched from Latin America, most countries undertook major macroeconomic adjustments (exchange rate depreciations and sharp reductions in fiscal and Current Account deficits) so they were well prepared to take advantage of the upward winds in the international economy since 2003.
Competitive exchange rates and productivity gains due to the structural reforms of the nineties, combined with high external demand and terms of trade gains to produce a spectacular increase in export values and volumes, which led a strong recovery maintaining current account surpluses (an unussual combination for Latin American standards). Investment rates, that had compressed during 1999/02, have recovered sharply to levels similar or higher than before the Russian crises , and so have investor and consumer confidence indicators in most countries. Thus, growth is now lead by vibrant domestic demand in most countries, while they still maintain Current Account surpluses or small deficits.
REDUCED DEBT RATIOS
Most countries have also shown significant reductions in public debt/GDP levels and major improvements in debt composition: a significant shift to domestic currencies and longer maturities in external debt. Indeed, gross financial inflows have been mostly used to accumulate international reserves and pay back short term and costlier standing debt. Net capital inflows have been kept at levels below those of the early nineties, given both lower financial needs and government and corporate prudence in accumulating open currency exposures. Thus, most countries are much less vulnerable to an eventual capital flow reversal than they were at any time in recent history. Still, an important fraction of tax revenue booms has been spent in increased current expenditures in many countries, highlighting persistent difficulties to implement sound countercyclical fiscal policies.
Perspectives do differ, of course, by country. Venezuela and Argentina are expected to grow above 6 percent in 2007, though less than in past years. Chile, Colombia, Dominican Republic, Panama and Peru are expected to grow above 5 percent and most others around above 3.5 percent. Brazil and Mexico growth rates will will probably be around 3.5 percent.
In the longer term, growth rates will depend on how countries take advantage of the present boom to reduce vulnerabilities and advance in structural reforms. Most countries continue to progress in these areas, though at a slower pace than would be desired. Major exceptions are, however, Argentina, Venezuela and Bolivia, where present policies may be planting the seeds of future difficulties.
Guillermo Perry, the chief economist for Latin America and the Caribbean at The World Bank, is a former finance and energy minister in Colombia. He wrote this overview for Latin Business Chronicle.
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