Latin America's Next Growth Challenge

Latin America's Next Growth Challenge

Latin American economies have experienced four consecutive years of positive economic growth; will the trend continue?
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Latin American economies are displaying high annual growth rates that may not be sustained without care.
Since 2003, Latin America's economies have been thriving, with GDP, including estimates for 2006, up by 17 percent - an average annual growth rate of 4.3 percent and a 12 percent increase in per capita GDP. While impressive, this is only the second time in 25 years that Latin America experienced four consecutive years of positive economic growth. Will such good times continue?

This recent growth has been fueled by a strong boom in commodity prices, including not only energy inputs such as oil, gas and coal, but also metals, minerals, and agricultural products. Growing demand for raw materials, owing to sharply increased industrial growth in Asia, particularly China and India, has benefited the terms of trade of many Latin American countries, and this is not expected to end anytime soon.

Historically, fiscal profligacy tends to take hold at times like these, with windfall revenues wasted on extravagant public projects. But not this time - at least so far. In Latin America's seven principal economies (Argentina, Brazil, Chile, Colombia, Mexico, Peru, and Venezuela), which together account for almost 90 percent of regional GDP, annual economic growth averaged 6 percent in the third quarter of 2006, while industrial output was up by 8 percent. But their governments seem to be taking advantage of the bonanza to pay off pending external debt and increase their foreign reserves.

Recent growth in the Latin American economy has been fueled by a strong boom in commodity prices.

Remarkably, responsible macroeconomic policy has followed a wave of populist/socialist electoral victories in recent years. Brazil, Chile, Ecuador, Nicaragua, and Venezuela elected socialist or populist/reformist presidential candidates in 2006, while Bolivia elected a populist indigenous president in 2005, Uruguay a socialist president the same year, and Argentina a leftist-centrist president in 2003.

An increased degree of international financial independence is among the consequences of the raw materials bonanza. Countries such as Brazil and Argentina paid off their loans to the IMF ahead of time, while others are buying up their own debt in secondary markets. Increased liquidity in international capital markets also reduced the need to obtain multilateral financing, and with it the need to accept conditions like privatization of natural resources and deregulation of public utilities.

But, for the most part, fiscal and monetary policies have so far not followed leaders' rhetorical promises of deep structural reforms and redistribution to favor the indigenous and the poor. Even so, the danger of fiscal deficits and inflation persist in several countries. As a result, the new generation of leaders cannot introduce drastic structural reforms, badly needed in several countries, in a way that jeopardizes macroeconomic stability - without which none of their promises can be fulfilled.

In fact, whereas economic growth in Latin America is often perceived as being very unequal - which explains the shift to the left - recent United Nations data puts the region in first place among all developing-country areas. Not only is the region's economic performance strong; so is its score on the Human Development Index (HDI), which includes social indicators such as education and health. Indeed, while Latin America's GDP per capita is lower than the world average, it surpasses all other developing regions, as well as the world average, in the main social indicators.
Not only is Latin America's economic performance strong; so is its score on the Human Development Index, which includes social indicators such as education and health.

Only one Latin American country (Haiti) appears in the group of low HDI countries, while the rest are in the medium and high HDI groups. Of the 30 Latin American countries included in this year's report, only one-third have lower HDI rankings than GDP rankings, and only a few - those with the region's greatest need for significant improvements in social infrastructure, particularly provision of health and education - show large discrepancies.

But two risks to Latin America's economic recovery loom large. First, with the current raw materials bonanza driving up prices of exported goods, the region is increasingly vulnerable to the so-called "Dutch disease," whereby higher wages and prices spread throughout the economy, weakening competitiveness, particularly in industrial markets. With Asian manufacturing exporters penetrating markets worldwide, such a development would be highly damaging to Latin America's growth prospects.

Second, at a time when economic globalization is rendering national borders porous, political leaders may get carried away by their rhetoric of independence. All bonanzas end. If no adequate provisions are made to sustain global competitiveness, the economic, social, and political consequences could be dire.

Contributed by Simon Teite, Research Fellow at the International Center for Economic Research (ICER), Torino, Italy, and former Senior Economic and Research Advisor at the Inter-American Development Bank. Reprinted with permission from Project Syndicate.

To read another Global Envision article about Latin America and globalization, see Globalization in the Southern Cone.

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