Latin America had the highest growth rates in several decades between 2003 and 2012, despite the effects of the 2009 global crisis. The boom of those years sparked unbridled optimism both in and outside the region. The Inter-American Development Bank (IADB) and several investment banks spoke of “the decade of Latin America,” as if we had finally taken off. And an unprecedented volume of portfolio and foreign direct investment flowed into our region.But the recent slowdown has revealed what a number of analysts insisted on during that era: the boom was fundamentally driven by exogenous factors, first and foremost of which was the commodity prices super cycle that produced continuous increases in our terms of trade (except in 2009). Additional factors were abundant international liquidity and the recession in the United States and Europe. These three factors led to a boom in capital inflows, as many firms and investors looking for additional places to invest turned to the region, attracted by its strong growth and rising commodity prices.
Now that the commodity prices cycle has come to an end and capital inflows are starting to weaken, we have returned to modest growth rates, very close to our long-term historical average (3%). What can we expect going forward?
The analysis of recent facts uncovers a new generalized positive factor (greater resilience to external crises), a continued generalized negative factor (low total productivity growth), and considerable variation on both counts from one country to the next.
The effect of the 2009 global financial crisis on Latin America was quite modest when compared with previous episodes involving milder shocks in the international financial system. Previous shocks—the hike in interest rates in the United States (1982), the Russian crisis (1998), and the Long Term Capital crisis—typically led to a sharp reversal in capital flows (a ‘sudden stop’), deep recessions, and banking currency and fiscal crises in many countries in the region. The recent greater resilience was due to several factors. First, the region learned to regulate and supervise the banking system relatively effectively after many costly financial crises. And the bankers themselves learned to take fewer risks. Second, the region learned the importance of maintaining a buffer of external liquidity and took advantage of the boom to accumulate international reserves, reduce external short-term debt and keep surpluses or small deficits in the current account. Third, several countries (especially Brazil, Colombia, Chile, Mexico, and Peru) had adopted flexible exchange regimes that enabled them to deploy countercyclical monetary policies. And, finally, a few (notably Peru and Chile) were also able to apply strong countercyclical fiscal policies. A turning point seems to have been reached in these areas, and it is possible that Latin America will no longer be a region affected by frequent crisis.
The generalized negative factor (low productivity growth) can be attributed to the fact that the region has made modest progress on microeconomic issues. The quality of education continues to be low everywhere, innovation by firms is slow, and there are no efficient policies in place to spur innovation, with some exceptions such as Brazilian agriculture. Several countries have low quality transportation infrastructure (notably Brazil, Colombia and Peru). It is still hard to do business in a number of countries, especially in Brazil. And in most countries (except Chile, Uruguay, and Costa Rica), the governance and institutional framework (rule of law, quality of regulation, government effectiveness) continues to be weak and there were major setbacks in Venezuela and Argentina.
The foregoing explains much of the widening regional cleavage that is emerging. Venezuela and Argentina ended an exceptional boom without international reserves, resorting to strict capital controls to halt the flight of domestic and foreign capital and incurring a currency crisis. Moreover, both countries have been experiencing significant inflationary pressures. Brazil has the lowest investment rate and the highest interest rates in the region, due to macro- and microeconomic problems alike, as a consequence of a bloated and inefficient state and an obsession with over-regulating the economy. Only Chile and Peru, and Ecuador and Colombia to a lesser extent, have maintained a very strong macroeconomic position and, at the same time, made some progress in microeconomic reforms. Mexico has some very significant microeconomic reforms under way, which along with its good macroeconomic position, may enable it to return to a path of sustainable high growth. Thus, it is easy to predict that there will be major differences within regional growth rates.
*Guillermo Perry was a former World Bank Chief Economist of Latin America and the Caribbean, a Minister of Finance in Colombia, and a member of the original Advisory Committee of the Latin American Development Forum series. He also authored two titles in the Series