At the end of the super election year it is worthwhile to look at the economic prognoses of the region and the individual countries. Where can economic growth be expected? Which political and economic decisions will support or hinder such growth? What can be expected of the new governments? This article will provide a general overview and answer these questions.
LATAM Prognosis for 2019
In 2017 and 2018, Latin America only had small growth rates due to the economic crisis in Brazil and mismanagement in the rest of the region. In contrast, 2019 will bring a clear recovery. However, in comparison to the global average, the growth rate in LATAM remains comparably low. Latin America wide a growth of 1,8% can be expected with Brazil leading the way with 3,0%, followed by Mexico with 2,2%. While a modestly positive growth can be expected om Colombia, growth rates in Chile and Peru will decelerate. Argentina is likely to remain in recession until 2020. Because of the elections in Brazil and Mexico as well as the IWF-Program for Argentina, this article will focus on these countries.
Overall, three trends can be viewed in the region:
- Increased domestic consumption
- Increased inflation pressure
- Necessary fiscal adaptations
Due to the globally rather stagnating growth, growth rates in Latin America mostly result from increased domestic consumption. Particularly in Brazil, new investments are to be expected after the end of this great recession and the election of Jair Bolsonaro as the next president. In the other countries, modest commodity prices and improved labor markets increase consumption levels.
Although the inflation rates in Latin America are not worrisome (except for Venezuela), they are currently rising, thus reflecting the growing energy prices as well as currency struggles. Respective reactions of the central banks (rising interest rates) can be expected. However, in Argentina and Mexico the opposite is the case.
Almost all Latin American countries suffer from high budget deficits. Therefore, fiscal adaptations have to be carried out including the reduction of the public sector and/or increasing the tax volume. Argentina gives in to the IMF conditions. Brazil`s government will be judged on how competently it can implement the direly needed pension, labor, and tax reforms. In Mexico, it remains to be seen how the new president AMLO will finance his social agenda without raising taxes. With view to fiscal policies, Latin America might face radical changes in 2019.
While the Andean region profits from a slight economic growth. Argentina is likely to remain in recession. This can be traced to the fiscal conditions imposed by the IMF which will cause reductions in public spending. While these cuts are necessary to reinstate the trust of the market they are implemented under great protest from the Argentinian citizens. Their resentment of the measures could be reflected in the presidential elections whose results in turn could endanger the success of the IMF austerity measures.
In 2016 and 2017, Argentina was macroeconomically stable because foreign investors financed its budget deficit. At the same time, however, its external balances increased and so did the inflation rate and the excess liquidity of the central bank. In combination with internationally stricter finance conditions and internal political mismanagement this led to a freefall of the Peso and high inflation rates. Consequently, in May 2018, Argentina had to ask the IMF for help. The austerity program is planned for two 3 year intervals with a financial assistance of roughly $60 Billion and it rests on two pillars. Pillar one requires Argentina to reduce its deficit from currently 2.6% of the GDP to a surplus of 1% by 2020 though budget cuts and raised taxes. While the Macri government is likely to achieve the “black zero” by 2019, it is questionable whether the new government will continue to comply with the IMF conditions. The second pillars is a fiscal “straight jacket” aimed at fighting inflation and keeping the Peso viable as a currency.
Due to the strict austerity measures, Argentina is likely to have a negative growth of 5% combined for 2019 and 2020. This is likely to result in sinking but yet high inflation rates, sinking real wages and reduced social benefits which could cause apolitical backlash in 2019. However, a political change would severely impact the economic stability of the currently weak Argentina.
After the election of the neo-liberal Jair Bolsonaro as the next Brazilian president, the value of the Brazilian Real (BRL) rose rapidly, thus reflecting the market`s hope for the economic competency of the incoming government. On the one hand, this can be related to the designated finance minister and former investment banker Paulo Guedes. On the other hand, it is due to Bolsonaros willingness to implement the long overdue pension reform as well as budget cuts.
Between 2014 and 2016, Brazil suffered the biggest recession of its history. The following years consisted of a very slow and below-par recovery process with only 1% growth in 2017 and 1,5% in 2018. Multiple corruption scandals as well as the truck strike further impeded its economic upturn. However, the recession did lead to some advantages such as lowered inflation rates since 2016 and significant improvements of external costs. Consequently, a moderate growth without the risk of overheating can be expected for the years to come. Externally, Brazil`s development depends on its relation to China and China`s development itself. In order to become more independent, Bolsonaro plans to focus on trade relations with the USA, Europe and its Latin neighbors. Higher commodity prices and a stronger Real could even push growth rates to 3,5%.
Because of the many announced social programs under the new AMLO government, Mexico is likely to have increased budget costs in 2019. With view to its macro-stability, AMLO`s political approach may be counterproductive, as signaled by the cancelation of the Mexico City airport. However, this depends on how AMLO handles the interests of international investors and private companies. His promise to examine existing public contracts with private companies could be viewed as a confidence-building measure in terms of fighting corruption. Finalizing the NAFTA-successor UMSCA could also lead to new investments. In general, due to the named aspects, a negative growth of 05-1% of the GDP can be expected for 2019 which would leave the budget deficit at 3,5% of the GDP.
The trade agreement UMSCA bring more clarity to Mexico`s international trade relations. It includes new sectors that have not been part of the NAFTA such as electronic and digital commerce, it includes rules on intellectual property, it delivers labor rights and addresses environmental questions and introduces regulations for financial services. Moreover, it creates legal certainty and conflict resolution mechanisms for anti-dumping issues. Most importantly though, it addresses changes in the auto sector. From now on, 75% of a car needs to be produced domestically to receive the Preferential Treatment Tariff, while 40-45% of the car needs to be produced with a minimum wage of $16. Due to several side agreements with the USA and Canada, the new regulations will have no negative effect on Mexico. In contrast, Mexico might profit from the trade war between the US and China because it supplies the same branches in the US as does China.
The expected increased public spending stems from infrastructure projects (highways, trains, refineries) and social welfare programs (higher pensions, youth programs). Furthermore, VAT and income tax should be reduced. These expenses should be consolidates with a planned budget cut of 2% of the GDP. In order to achieve this, public servants will receive less money, redundant jobs will be cut, the federal procurement process will be centralized and discretionary transfers to the states and municipalities will be reduced.
Andean Region (Chile, Colombia, Peru)
The combination of cheap commodities and small interest rates is likely to increase domestic consumption in the Andean region. While this will result in increased growth in Colombia, Chile and Peru – after a strong economic year on 2018 – are expecting a decelerated growth in 2019. In Chile, prices remain high despite a weak Peso and in Colombia, inflation is rising due to the weak currency as well. While Chile`s central bank has already increased interest rates ( approximately to 4,5% until 2020), respective measures are needed in Colombia and Peru as well in order to meet the inflation goals.
In 2019, Chile can expect an economic growth of 4,0% which can be accredited to the general trust in its economy, high domestic consumption rates, an improved labor market and reduced household debts. With 2%, core inflation is relatively low while an upward trend is already visible. Unfortunately, the market expansion has not yet resulted in more jobs and wage developments remain lower than expected. Politically, president Piñera plans a tax reform as well as increased employee contributions to the pension scheme. Since his coalition has no majority in either one of the congress chambers, the realization of his plans remains questionable.
In 2019, Colombia can expect an increased but below-potential growth of 3,2%. Because of the increasing oil price and the solved uncertainty regarding the government, higher private consumption, a faster implementation of investment projects as well as more export are likely to result in 2019. President Duque`s planned fiscal reform will be the litmus test of his government which – given his minority in congress – will be a challenge. Due to the government`s fiscal commitments towards peace, infrastructure and social programs no significant savings can be realized in order to reduce the budget. Consequently, the government has to create new revenue sources such as raised taxes, privatizations and incentivizing foreign investors. Since Duque plans to reduce the capital gains tax from 37% to 30% by 2022, it remains to be seen how realistic his tax revenue goals are. Overall, Colombia`s development depends strongly on the oil price without there being any specific plans as to how to increase the oil production volume. At the same time, migration waves from Venezuela further impede Colombia`s social spending budget.
While in 2017 and 2018 Peru suffered from numerous shocks (corruption, natural disaster, impeachment of the previous president) 2019 will be the year of recovery with an expected growth of 3,6-3,8%. This moderate, below-potential growth is due to the regional elections in October which make the implementation of structural reforms in 2019 rather unlikely. Because of the improved labor market conditions increased private consumption and investments can be expected. Moreover, Peru`s has proven its fiscal discipline regarding the reduction of its deficit from 3% in 2019 to 1,9-1,7% until 2020 which can be attributed to increased excise taxes. Further positive development in Peru hinges on the unity of government and opposition. Since president Vizcarra currently only has a minority in congress, it remains to be seen which of hos government`s plans can be implemented.
Risk Factors for Growth in LATAM
The positive prognosis for Latin America`s economic growth in 2019 are mostly based on long overdue reforms. Consequently, this risks of growth consist of the following three factors:
- Internal policy failures (Brazil & Mexico)
- External policy failures (IMF in Argentina)
- Global developments (China)
The success of LATAM`S economic drivers Brazil and Mexico depends on their new government`s capabilities to consolidate their budgets and establish macroeconomic stability. Therefore, internal policy failures are the biggest risk for Latin America`s economy in 2019. Public spending in Mexico needs to be financed through savings or new taxes. Otherwise, the fiscal discipline of the country is undermined which would result in negative ratings on the international financial market.
Just as dangerous is the risk of external policy failures. If the IMF fails to stabilize Argentina through its debt restructuring and austerity programs it is likely that a new, populist government will depart from the necessary measures.
Last but not least, global developments can endanger LATAM`s economic growth. If China`s growth decelerates, this could result in falling commodity prices which in turn is one of the most important sources of income in most Latin American countries.