Latin America Outlook with special reference to Argentina and Chile

1
Latin America Outlookwith special reference to
Argentina and Chile

• Guillermo A. Calvo

Research Department Inter-American Development
BankWashington, April 11, 2001
2
Outline of the Presentation

• The Big Picture
• Forecasts
• Understanding Argentina in the light of Chile

3
The Big Picture
4

• Slowdown in output and investment
• Linked to rising interest rate spreads
• Spreads have increased by more than 350 basis
  points since September 1997
• Impact of US recession on capital flows
• lower Foreign Direct Investment
• higher portfolio flows
• but impact is not serious

5
LACs output recovery

Seasonally Adj. GDP, Annualized Quarterly Growth
Rate
?
10
Deceleration
Recovery
Recession
Stalling?
8
6
4
Growth Rate
2
0
-2
-4
-6
1996.I
1997.I
1998.I
1999.I
2000.I
1996.II
1997.II
1998.II
1999.II
2000.II
1996.III
1997.III
1998.III
1999.III
2000.III
1996.IV
1997.IV
1998.IV
1999.IV
Includes Argentina, Brazil, Chile, Colombia,
Mexico, Peru and Venezuela
6
LACs investment recovery

s.a. Investment, Annualized Quarterly Growth Rate
30
?
Deceleration
Recovery
Recession
20
10
Growth Rate
0
-10
-20
-30
1996.I
1997.I
1998.I
1999.I
2000.I
1996.II
1997.II
1998.II
1999.II
2000.II
1996.III
1997.III
1998.III
1999.III
2000.III
1996.IV
1997.IV
1998.IV
1999.IV
Includes Argentina, Brazil, Chile, Colombia,
Mexico, Peru and Venezuela
7
LACs business cycle is closely linked to
interest rate spreads
LA Eurobond Index Spread, Quarterly Averages
900
Deceleration
Recovery
Recession
?
800
700
600
500
400
300
200
1997-I
1998-I
1999-I
2000-I
1997-II
1998-II
1999-II
2000-II
1997-III
1998-III
1999-III
2000-III
1997-IV
1998-IV
1999-IV
2000-IV
8
LAC Spreads have consistently ratcheted up
650
700
600
180
470
366
500
400
186
284
300
200
100
0
30 Sep.97
31 Jul. 98
10-Apr-01
Average includes Argentina, Brazil, Colombia,
Mexico, Uruguay y Venezuela
9
US and LAC
Impact on capital flows to LAC of a 1 expansion
in US growth
and a 1 reduction in US interest rates
3.0
2.60
2.5
Portfolio Flows
2.0
1.69
FDI
1.5
0.90
1.0
0.5
0.03
0.0
US Growth
US Interest Rates
10
In a typical US recession

• Output falls 3.3
• Real interest rates fall 1.4

11
Thus, if the US catches a cold LAC will just
sneeze!
Net impact on emerging markets growth rate
of a typical US recession
LAC
Developing Countries
Industrialized Asia
0.00
-0.20
-0.25
-0.40
-0.38
-0.60
-0.80
-1.00
-1.20
-1.40
-1.60
-1.60
-1.80
12
Market Forecast
13
(No Transcript)
14
(No Transcript)
15
(No Transcript)
16
Understanding Argentina in the Light of Chile
17
Equals in Bust, Unequals in Recovery

• Similar recession
• Both countries suffered from similar Sudden stop,
  and sharp growth slowdown in 1999.
• However, recovery in 2000/1 has been much faster
  in Chile.

18
Why did Argentina Perform Worse than Chile in the
Recovery? Alternative Hypothesis

• Political Factors?
• Terms of Trade?
• External Financial Constraints?
• Exchange Rate Regime?
• Degree of Openness?
• Fiscal Performance and Level of Public Debt?

19
The Anatomy of the Recession/Recovery Cycle
GDP (s.a. GDP, 1998.II100)
Chile
Argentina
20
The Anatomy of the Recession/Recovery Cycle the
Full Picture (s.a. components of demand,
1998.II100)
Chile
Argentina
exports
exports
rest of domestic demand
consumption
investment
investment
21
Terms of Trade (1997-II 100)
Argentina
Chile
22
Private Capital Flows (4 quarters, millions of US
dollars)
Chile
Argentina
23
Real Exchange Rate (vis a vis the U.S. dollar,
jan 97 100)
Chile
Argentina
24
Inflation (CPI, 12 month rate)
Chile
Argentina
25
Degree of Openness
26
The Track Record on Fiscal Discipline (Fiscal
Surplus, of GDP)
Chile
Argentina
Boom
Recession
Post-recession
27
Public Debt Levels at the Start of the Recession
Argentina
Chile
28
Why did Argentina Perform Worse than Chile in the
Recovery? Tentative Conclusions

• Exchange Rate Regime and Public Sector Nominal
  Stickiness.
• Degree of Openness
• Fiscal Performance and Level of Public Debt

29
Aggravating Factor for ArgentinaMercosur

• Brazil has the option of devaluing its currency
• thus, FDI aimed at Mercosur is more likely to go
  to Brazil, making it more unlikely for investment
  to recover in Argentina.

30
The Cavallo Plan
31
Short Run

• Leadership and political consensus
• Higher taxes (on checks) to promptly correct
  fiscal imbalances and meet IMF targets
• Expansive monetary policy (lower liquidity
  requirements).
• Higher tariffs and tax exemptions to reactivate
  selective sectors

Long Run

• Deregulation
• Expenditure rationalization and tax reductions
  for all sectors
• Open up the economy to trade beyond Mercosur

32
Possible Trouble SpotLoose Money

• Expanding domestic credit may result in lower
  international reserves,
• which increases the vulnerability of the
  financial sector,
• results in higher interest rate spreads,
• lower investment and growth.

33
Currency Basket

• It may be good for trade,
• but it increases financial vulnerability if the
  financial sector continues being highly
  dollarized.
• Moreover, it may generate excessively high
  dollar/peso exchange rate volatility.
• Raising the issue at present may cause confusion,
  and suspicion that it might result in devaluation
  vis-a-vis the dollar,
• which may result in a greater loss of bank
  deposits.

34
Argentina Bank Deposits
35
Argentina International Reserves
36
Latin America Outlookwith special reference to
Argentina and Chile

• Guillermo A. Calvo

Research Department Inter-American Development
BankWashington, April 11, 2001