For LatAm, QE3 Impact on Financial Risk Is Key

The Fed’s QE3 will have varying effects by country in LatAm; however, there are a few broad strokes that color the region. QE3 comes at a moment when growth is weak across the board and policy action is widely needed. What QE3 signifies for LatAm, in this context, is not only related to the added liquidity, but to the firm resolution of the U.S. Fed to provide support until the economy starts a sustainable recovery. The impact of such a commitment on the perception of risk in international financial markets is what will drive spillover effects in LatAm, and probably other EMs as well.

If QE3 manages to sustain activity in the U.S., boost the housing market and help sustain economic growth, Mexico will see the greatest benefit in LatAm. As Banxico’s Governor Agustin Carstens has publicly stated, stimulus from the Fed that benefits economic activity in the U.S. is supportive of Mexican economic activity.

This is not the case for Brazil, for instance, where Finance Minister Guido Mantega has been vocal about the damaging effects that he expects further monetary stimulus will have on the value of EM currencies. Ties to the U.S. are less vital for Brazil  than for Mexico, so the effects of increased capital flows from lower global risk aversion outweigh those from higher U.S. demand on the downside, via currency appreciation and reduced competitiveness.

Countries like Chile are also cognizant of downsides to further QE in the global economy, although policy makers have been more cautious in their discourse and actions. Peru, for its part, was explicit about its concerns about the effect of QE3 on PEN, and Colombia has increased its intervention program via both central bank and finance ministry to control excessive currency appreciation.

QE3 is only one component of many we identified in our recent LatAm Outlook that will affect the region in the next quarters and, as things stand, the actual effect it will have in LatAm is still difficult to dissect. Risk aversion related to distress in the EZ and concerns about the fiscal cliff in the U.S. and the continued rebalancing of Chinese growth continue to shape a rocky and uncertain economic landscape.