How the global crisis is affecting Latin America and the Caribbean, and which governments are responding well

April 1, 2009

     By Duncan Green     

Here are the main findings of a new paper of mine on the impact of the global economic downturn on Latin America and the Caribbean. It’s part of Oxfam’s series of studies of the development impact of the global crisis (for an overview click here). Top line message, how governments are responding to the crisis is to a large part determined by how well they managed the preceding boom.

Growth: By March 2009, growth projections for 2009 were still heading downwards, to 0.3% (World Bank), 0.5% (Cepal) or 1.1% (IMF) (a fall in per capita terms in all three projections), compared to figures of 5.7% in 2007 and 4.6% in 2008. The UN Commission for Latin America and the Caribbean (Cepal)’s Executive Secretary, Alicia Bárcena, likens the economy to flying a plane in which one by one, the motors are stopping. Alarming metaphor……

Trade: over 90% of the region’s GDP and population reside in net commodity exporting countries, so the slump in commodity prices has had a marked impact. Regional exports fell by 17.5% between December 2007 and December 2008. Mexico, Central America and the Caribbean were harder hit due to their extreme level of dependence on the US economy (eg for manufactured exports and tourism)

Remittances offer a crucial safety net to poor or near-poor families in many Latin American communities (see chart). As a % of GDP, Central America and the Caribbean are by far the most vulnerable. In Honduras remittances amount to 26% of GDP. The recession in the US and Europe has meant a sharp deceleration in remittance flows, especially moving into 2009.  Mexico’s remittances (the largest in value, though not as a % of GDP) fell by 12% in January 2009 compared to the previous year. Jamaica’s remittances fell by 14% in November and December 2008, just as the price of bauxite, its other big earner, halved.

Employment: although any numbers at this point are highly speculative, Cepal foresees two main impacts on employment, both reversing previous trends (Unemployment fell from 11% in 2003 to 7.5% in 2008). Firstly, rising formal sector unemployment; secondly a shift towards the informal sector as a de facto safety net/source of jobs in a downturn. Brazil lost 700,000 jobs in December and January.

Government Responses to the Crisis

The larger economies in particular enter the crisis better able to cope than during previous economic shocks. In the words of one World Bank official, the region is ‘a better-built boat facing a nastier storm.’ The grounds for limited optimism include:

  • A major reduction in debt, especially denominated in foreign currencies (which reduces the dangers posed by depreciation)
  • Some commodity-exporting countries (Chile, Peru, Mexico, Brazil) have built up ‘rainy day’ stabilization funds during the commodity boom years. Brazil’s $207bn of reserves, for example, are enough to cover 14 months of imports.
  • Governments have reduced their deficits, or run surpluses

However, Latin America is paying for its failure to deal with some of its other long term economic weak spots, notably its failure to put in place good systems to raise domestic taxes. Moroever, some commodity importers, particularly in Central America, were already running large current account deficits before the crisis, led by Nicaragua with a substantial 16% deficit in 2007.

Virtually all governments in the region have responded to the crisis by cutting interest rates, but as elsewhere, mere monetary measures of this kind have not been sufficient to rekindle demand and other measures, such as fiscal stimuli, are being introduced.

Chile has been by some distance best placed to run counter-cyclical policies. In January, André Velasco, Chile’s finance minister, announced that Government spending would rise in 2009 by 10.7%. Much of the money will go on houses for the poor and road maintenance. The Government can afford this because not only is public debt minimal (4% of GDP in December), but the government has also piled up $20.3 billion (about 12% of GDP) in a sovereign wealth fund which it can now spend.

Most governments have introduced some kind of countercyclical policies to cushion the impact on poor people and maintain social spending levels. (Nicaragua is an exception, opting to cut the budgets for health and education by 12 and 7% respectively.) It is much easier to expand prior social protection networks than to set up new ones from scratch, so El Salvador for example, has doubled to $300 the monthly payments in its Bolsa Familia-style cash transfer programme. In Chile, the government has agreed a one-off ‘reactivation bond’ for 400,000 poor families. Where social protection systems are more rudimentary, or where trade unions have argued more strongly for jobs, spending has been directed more towards infrastructure and bailouts for ailing companies.

The longer term political implications of the crisis are hard to discern. Prior to the crisis, the region appeared to be coming to the end of a centre-left cycle, but that may now be reversed. The election of Barack Obama is likely to provide a boost to the centre left (political contagion?). Certainly, few now dispute the need for effective state regulation of the economy, which may in turn lead to greater efforts to increase Latin America’s dismal record on raising domestic revenues – its record on direct taxation is the worst in the world.

In the next 18 months there will be 14 electoral processes in the region. Most of them will be keenly contested and their results could change the political landscape in the region. For “pro-change” governments looking for continuity, their management of the crisis will be a crucial test. During the last few months most of the current governments in the region (especially in the South) have improved their approval rating. However, as the crisis deepens, voters may well start to blame incumbent governments, and the expected shift to the right may resume.

Finally, the outlook is particularly uncertain for Mexico, with its combination of extreme dependence on the US economy, and apparently inexorable rise of narco-related violence, and for Venezuela, the most oil-dependent of Latin America’s economies.

P.S. This update on Nicaragua just came in from colleagues at Oxfam Intermon – Oxfam’s Spanish affiliate:

– The 2009 budget had forecasted a $177 million increase in tax revenues
compared to 2008 and consequently on expenditure. However, in two months we
have seen an actual decrease.
– Even if we take an optimistic flat scenario (with a recovery at the end of
the year to maintain the 2008 tax revenues), tax revenues would be $177
million less than forecasted (at least), that means 11% of budgeted
– Government officials had already planned a 3.9% cut, which is clearly
– Unless Nicaragua receives external support, the Government may need to
triple or quadruple the recent cut.
– National reserves offer some room for buffering the impact, but not much.
– If Nicaragua was pushed to reduce even further its budget, it will have
dramatic consequences in its economy, health and education.
– MDGs are on the edge.