During our recent Spring Meetings, we launched the IMF’s Regional Economic Outlook for the Western Hemisphere. The report focuses on the outlook for Latin America and the Caribbean (LAC) in the face of the downturn now projected for the U.S. economy and the continuing risks that affect the global outlook. I thought it would be useful to share the key messages of the Regional Economic Outlook (REO).
As has been emphasized, the external environment has abruptly changed, led by mutually reinforcing housing and financial sector shocks in the United States, that are spilling over into the global economy. Although the 2008 growth outlook has been marked down to 0.5 percent for the United States, where the housing and financial stresses have been the most acute, the impact so far on emerging and developing countries has been much less pronounced.
Thus, although we now project growth in the LAC region to slow to 4.4 percent in 2008, this will still remain above historical trend; there are, however, downside risks. In this context, a key issue examined in the REO is the resilience of the region to external shocks, especially the strength of its policy frameworks. In particular, no substantial exposure is reported to the distressed credit products that have been in the eye of the storm in global financial markets, testimony in part to improved regulatory frameworks. The region is also protected by its stronger fiscal and external positions although, as successive REOs have documented, structural improvements have been much less than apparent, and there continues to be pro-cyclicality in public spending. In any case, with sovereign financing needs much reduced, spreads on sovereign debt have risen by much less than could have been expected from historical experience.
Against this background, our REO weighs the risks and explores the policy options facing governments in the region. Among external risks, two stand out. First, the risk that financial shocks curtail capital flows to the region. In this context, spreads on Latin American corporate bonds have already risen sharply and the room for corporate financing from equity and bond markets has narrowed—although Latin America has been perhaps less affected in this regard than some other emerging markets. Second, there is the risk that commodity prices may fall more sharply than the modest decline that is in the baseline projection, especially given the experience from previous global slowdowns, and this would be of consequence to the many countries in the region that have benefited from the commodity price boom.
Among domestic risks, two stand out. First, inflation has been rising in a number of countries, reflecting both strong domestic demand and external food price shocks. Second, macro-financial developments have been pro-cyclical in the region, as reflected in very rapid private credit growth and fiscal spending.
Let me now turn briefly to some policy implications that arise from this assessment of risks, and point to priority areas where governments could strengthen policy frameworks to be better protective of their substantial recent economic gains.
Recent inflationary pressures constitute an important test of the autonomy of central banks in curbing the second round effects of food prices on inflation, and reining in very rapid recent credit growth. Their efforts need to be supported with flexibility in other aspects of the macroeconomic policy mix, especially exchange rate and fiscal policies.
Many countries, especially those dependent on commodities, need greater conservatism in public spending growth to build countercyclical capacity. In the near term, the priority is to protect recent fiscal gains from the deterioration of global economic conditions while better targeting infrastructure and social spending.
The last point is very important for the region. The evidence suggests that structural investment and productivity trends have not yet turned sufficiently upwards, and the region needs to harness a larger share of available global savings and investment. In this context, the successive credit upgrades of many countries in the region will surely help. To sum up, we envisage a definite slowdown in regional growth this year and next, with a clear risk that this may be sharper than now forecast. But our assessment is that with policy makers focused on safeguarding the gains of recent years, Latin America can remain much more resilient to the current global slowdown than in the past.
For those of you who may be interested, here are the questions I received from the press and the unedited answers I gave to those questions.
QUESTIONER: I have a question on the issue of food prices and policies that countries take about that. As you know, Argentina has export restrictions on some food items, and that is something from what I have heard in the last few days the IMF does not like. I do not know if in the case of Argentina but in general. What is your recommendation for Argentina on that policy?
MR. SINGH: Well, I think you have raised a very important global issue, and I think the food price situation is not simply an issue affecting Argentina, it is affecting many countries in the region. For example, we see in many countries that although inflation rates have edged up, they are still under control in Latin America in many countries. Food price inflation in many countries is much above overall inflation, so we see that.
I think this is a very complex period for the region because they are facing three challenges. The first challenge comes from the global financial shocks. These mean policymakers need to safeguard external gains and maintain strong external positions. The second challenge comes from the global economic slowdown, the markdown in the projection for the United States. The third challenge comes from inflation. Now, these are complex challenges, and they are contradictory challenges. Countries are trying to balance the weight they give in their individual circumstance to the inflationary pressure, to an economic slowdown, and to the danger of a spill over of financial stresses. We are seeing in the region and elsewhere in the world, different responses to these three challenges depending on individual country circumstances. I am not going to go into individual food price measures that we are seeing in some countries, but would just note that these should be seen as part of a broader effort to deal with three complex and sometimes contradictory challenges.
QUESTIONER: Mr. Singh, the World Economic Outlook Report states that the first line of defense for those countries most affected by the slowdown is monetary policy, so in the case of Mexico it seems to be one of the most impacted by the U.S. slowdown. Even though the country did okay in the first quarter, I am wondering if there is any additional recommendations in terms of monetary policy to the country to help ease the impact of the slowdown.
Secondly, President Calderon presented this week his energy reform proposal. I am wondering to what extent does the IMF think that this proposal actually helps achieve the goal of improving production and getting new investment in Mexico.
MR. SINGH: I was just discussing Mexico with my colleagues a few days ago, as we were trying to put together our assessment of what the global environment means for Mexico. Our initial assessment was that this time Mexico should be less affected than on previous occasions from the U.S. slowdown. Indeed, I then saw similar points being made in a very interesting speech given by Governor Ortiz, last week. Governor Ortiz makes two very important points. First, the financial contagion so far to Mexico as we can see it has been limited. We know that Mexican banks have very little exposure to the kind of subprime assets I spoke about earlier, and we also see that domestic demand and credit demand remain strong in Mexico. Secondly, on the real side, Governor Ortiz notes that Mexico may be less affected this time than in earlier US downturns. He notes in particular that so far U.S. industrial activity has not been the main driver of the U.S. slowdown; it has been the housing sector. Then within Mexico we are seeing that the fiscal situation has allowed for some stimulus, mainly from the spending from the higher oil revenues. So I do think that the slowdown in Mexico this time could be less correlated than on previous occasions with that of the US.
Now, you talk also of the oil reform. I would like to note that we strongly agree with the statements made by the government, made by the President, that energy reform is critical for Mexico for reasons that we already know. My understanding is that although a bill has gone to Congress, this is a complex undertaking involving a number of bills and laws, not all of which are currently in the Congress. So we need to analyze the current bill carefully to reach a full assessment, but certainly we applaud that an oil reform has been sent to Congress by the President.
QUESTIONER: Do you recommend more supervision, more regulation of the financial market to the region and to Brazil?
MR. SINGH: That is the most important question of the day that we all face. I think a number of us are weighing the lessons from the recent financial developments. A lot of efforts are under way in the Fund, by the FSF, by our shareholders, public debate, and in the media to analyze what should be done in response to the global shocks. I think we need to wait and see what crystallizes into actual regulation or legislation. It is too early to say how this will all end up, but I think there can be no doubt that there will be a tightening of regulation, not just in the advanced economies but also I would say in our countries in Latin America. However, exactly how that debate crystallizes into specific changes in regulation and law we need to wait and see.
MS. LOTZE: Since we are on Brazil, I have a question here on the Media Briefing Center on Brazilian GDP. It is on the economic outlook: Most of your estimates for GDP were revised down, but for Brazil it was revised up. What factors were behind this revision or what motivated this perspective?
MR. SINGH: Well, I think this is part of our main story in the regional outlook, that perhaps this time it can be different for Latin America. We are careful to say in the regional outlook that there are downside risks, we are careful to say that there are questions in aspects of macro policies, but overall the region is more resilient, so far. And Brazil epitomizes this. Brazil retains strong growth momentum, and that is why our growth projections remain fairly strong. For example, through February the 12-month industrial production increase was close to 10 percent, while retail sales also remain very strong, increasing in February by over 10 percent.
The main point about Brazil I want to make is this, growth and demand have been supported over the past two years not just by consumption, but by investment and by foreign direct investment, supported by technological upgrading and by capital goods imports. The reason I focus on this is that there is an important story under way: Brazil is augmenting and enhancing its capital stock through investment, including foreign investment, which , in turn means that it is bringing in technological best practices. We are confident now that after many years there is at last an improvement in Brazil’s potential rate of growth. This is a lesson for the rest of the region. Overall, investment and productivity trends in the region have not been spectacular in recent years. The key to improving this, and to raising living standards and growth in the region as a whole, is to raise investment and make it more efficient. Brazil’s experience here is very good for the region as a whole.
MR. FAJGENBAUM: I am Jose Fajgenbaum, also a Deputy Director in the department. If I may add to what Mr. Singh has said on Brazil is that the evidence of what he just said in terms of investment, et cetera, is the strong growth of the second half of last year, and it is still going on, and this strong growth we did not know when we projected previously the projection for this year’s growth. So once we got the information of the outcome of the third and fourth quarter of 2007, obviously there was a very strong increase in the rate of growth during those quarters, and that had to be reflected in the growth of 2008.
QUESTIONER: You have just talked about the infrastructure sector and the need to push up the investment on that side even in savings. In Mexico there is a huge program just going on. What could be the effect of this program if corporate taxes to financing is crunching especially because three of the main participants, the construction participants in this concessions program monetary structure are beginning to lose access in the financial markets? The debt on the private sector is very huge. What could you say?
MR. ROBINSON: Let me make a few brief comments on that. First of all, we do think that the government’s program to boost, strengthen infrastructure over the next five years in Mexico is a very important program. Certainly Mexico’s infrastructural indicators are not so strong in certain areas. There is a lot of room for improvement. This is a critical area for strengthening the growth prospects in Mexico because, as you know, one of the big challenges facing Mexico has been that its growth really has fallen, I would say, below what a country of its potential can achieve, and so over the next few years a key objective of the government is to move the growth rate up to five or more percent, and this is an important part of it. I think the basic points I would like to make about the infrastructural program and the private-public participation in it is that it is very important that this is done in a way which is financially sound and does not bring additional substantial contingent liabilities, i.e. risks for the government on to the government’s balance sheet. I think the authorities are very aware of that. They are looking at those issues very closely, and indeed it is an issue that we have been discussing with them on a fairly continuous basis. So in short I think we strongly support the infrastructural program, and it will be important that it is implemented in a way which does not add to risks for the government. Thank you.
QUESTIONER: Could you comment on measures that governments are taking to tame inflation and what should they do to tackle the situation that you just expressed?
MR. SINGH: Well, as I said so far, we see in many countries in the region that although inflation has edged up, overall inflation remains, well, not that far from target ranges. In countries where inflation has moved up beyond target, central banks have generally announced steps to bring it back down, and have announced their sense of the time frame in which they expect this to happen. That is exactly how inflation targeting needs to work. Perhaps the single most important thing to be careful of, in this situation where there are shocks from external sources such as food prices, is to avoid these shocks getting entrenched for example by entering wage negotiations. Monetary authorities are watchful, rightly, to prevent second-round effects The way these second-round effects generally are the most potent and the most dangerous is when they affect wage negotiations.
QUESTIONER: You mentioned earlier that you feel confident about the regulatory system in the region by what you see of no losses in the banking sector, but at the same time you expressed concern about credit growth in countries all over the region. Could you expand on that and explain why you are concerned about credit growth, if it is something specific about some countries or something in general, is it something with the banking sector of the types of loans that have been made?
MR. SINGH: Well, if you look into the historical experience of many countries around the world and you see credit growth in the region of 20, 25 percent, 30, 35 percent. Historical experience is that when you have these kind of rapid credit increases, you see a deterioration of credit quality. Although I would not say that Latin America is experiencing a classic credit boom, there is a need for caution. t although we are not seeing a classic credit boom in Latin America, we are seeing very rapid rates of increase.
Now, the two reasons why our concerns are somewhat moderated — and this is explained in our current and previous regional outlook reports –are the following in Latin America. First, increases are taking place over a very low base. When countries’ financial intermediation is rising, as in Latin America, there will at some historical point be a discontinuity; it could be that what we are seeing now is a jump in Latin America’s intermediation to a higher plane closer to what we have seen in other emerging markets, say in Asia.
The second reason we are somewhat moderated in our concern is that in this period there has been a concerted effort to upgrade regulation and supervision. For example, in many countries the regulations preclude investment in the kind of derivative and other financial asset-backed products that are currently the problem in the global markets. So, yes, we are concerned because most booms do not end well by their inherent nature. However, we are not sure we are really seeing a boom in Latin America, and there are mitigating factors in terms of a possible historical discontinuity and the fact that there have been parallel improvements in regulation and supervision.
QUESTIONER: Argentina is trying to restructure its debt with the Paris Club, and it is determined to do so without any involvement from the IMF. I was wondering if this is acceptable to the IMF, to be sidelined in this negotiation, it is against normal Paris Club rules and praxis. Also I would like to know if you are satisfied that the Argentinean authorities are trying to resolve the question about inflation statistics and what do you think they should do in that regard?
MR. SINGH: Well, I get the first question very often, and I give the same answer each time, and the answer is very clear. Argentina’s debt to the Paris Club is a matter between Argentina and the Paris Club, and we are not part of that negotiation. The Paris Club has rules, and if those rules are invoked in a manner that required the Fund to be of assistance, we are anxious to be and play a constructive role, but the issue is between Argentina and the Paris Club.
On the issue of inflation, I do not want to get into specifics at this point, I think all over the region, as I have said before, inflation is an issue globally. Everywhere we see governments and central banks concerned to bring inflation down. I think the desire of Argentina to bring its inflation rate down is certainly strong. There can be no doubt about that. So we are working with countries in the region to see what could be the best policy mix. In Argentina what was said at our Executive Board meeting some time ago was that in complex situations, all available macroeconomic policy tools need to be brought to bear. That was the assessment of the Executive Board at the last consultation, and I do think that that remains the case now.
QUESTIONER: You mentioned at the beginning that public authorities should help central banks to curb inflation by not spending so much. In Brazil the public spending has been high for a couple of years, higher than the general growth of the economy. I would like to have your assessments on that and also to ask you if you think that the central bank in Brazil is being too cautious because it is poised to raise interest rates in Brazil again, and the inflation is not even above the targets. It is controlled now. Thank you.
MR. SINGH: Well, on your second point first, I think Brazil’s central bank really has done an excellent job in bringing inflation down. Inflation is close to the midpoint of its target range, it is close to 4 1/2, and I would be the last one who would want to second guess the future actions of inflation targeting central banks. So we have full confidence that Brazil will keep inflation firmly anchored within its target range. I do not really want to second guess what action they might take next toward it.
You know, on the issue of fiscal spending in Brazil, and Jose may have more to add, I would make two points. The first is that Brazil has shown the credibility of its primary surplus targets. These have been broadly maintained, and these have anchored the confidence that we see from markets in Brazil. So I think Brazil’s ability to persist with and even overperform the primary surplus targets has been a hallmark of this fiscal policy.
Number two, we expect spending, infrastructure spending to rise in Brazil. There can be no doubt about that. Infrastructure spending in Brazil has been low, and it needs to rise. I think there is unanimity on that point. The only issue is, how can we secure that rise so that it is well targeted and it does not undermine the primary surplus framework that Brazil has set for itself. So far, that balance has been managed very well by Brazil.
QUESTIONER: I have a question on Ecuador. Ecuador, an oil producer, is the region’s country that recorded the worst output growth last year, and with 1.9 percent, which is worse even than Haiti. This is after only two years of being among the best performers in Latin America with about 6.8 in 2005. Is the Ecuadorian slowdown anyhow related to the leftist policies of President Correa?
MR. SINGH: Well, I am going to answer that question without falling into the trap you have just set for me. The point is that in Ecuador we have had three phenomena at work. We have had declining oil output, and I will come back to that point. We have also seen that nonoil output has been weak, but also we have to recognize that agriculture and output has been affected by recent floods. So there have been natural causes, too. Now, having said that, we do think that growth in Ecuador should recover somewhat in 2008. I think our forecast, if I am not mistaken, is somewhere just under or close to 3 percent, so there will be some recovery in Ecuador this year, and that will principally reflect oil production stabilizing, it will reflect some extra spending by PetroEcuador, and as effects of the floods wane over time, but having said that, the issue for Ecuador, for other natural resource exporters and producers in the region and others is that investment matters and productivity matters, and this is a lesson from other emerging markets, especially in Asia.
Therefore, it is a fact, as we have documented, that both investment and productivity need to rise, and this is particularly important for natural resource producers, the oil producers because the nature of the task both in its capital intensity and in its technological intensity is a very big task. So there is a need for investment to rise. Here I would say that we are seeing some encouraging signs that Ecuador is forming contracts towards this end with some foreign oil companies. There is some news that they are moving forward in this area. So we are reasonably optimistic that growth might rise, but beyond that, the major issue is overall investment needs to rise in Ecuador and the region.
QUESTIONER: I am just wondering, I would just like to go back to the food inflation issue for a moment and ask you about Haiti and ask you if you have any recommendations for the Haitian government in the short and long term throughout this year, given the food riots we have seen over the last couple of days there.
MS. ATKINSON: Thanks very much. Obviously we are very concerned, as everybody is, that the situation in Haiti should improve, and we think that there is a strong commitment on the part of the international community to try to help. In the last few days there have been discussions in Haiti amongst key ambassadors and donors, including the IMF representative in Port au Prince.. As you know, the situation in terms of the security has stabilized in the last couple of days, and the President has spoken publicly of the government’s commitment to take steps. The authorities have also already announced some measures that we believe will be helpful; chiefly, that they will boost the amount of money going in targeted programs to help the poor to deal with this food problem and also channel some assistance to farmers to help promote a supply response. We do think those measures are very important. We expect also that there may be a need for additional emergency assistance for food.
MR. SINGH: Let me just add to what Caroline said just to say that we are heavily committed to Haiti. We see Haiti undergoing a tremendous transformation. We see that a lot of progress has been made in the last few years in macro stability. We have a program with Haiti which we believe that program is going well and is well suited to Haiti’s difficult circumstances. We are open to adapt it if the situation arises. We are working with the World Bank and others to see what increased focus we can bring in the short term to ensuring food security, but we are very committed to Haiti and maintain a permanent dialogue with the government at this point.