By Aaron Humes: Latin America and the Caribbean are in contraction, and are unable to find a balance between reducing spending and minimizing its effects on economic activity and hard-won social gains, the World Bank reports.
As detailed in “The Commodity Cycle in Latin America: Mirages and Dilemmas,” the latest semi-annual report by the World Bank’s Chief Economist Office for Latin America and the Caribbean, the region is expected to contract by 0.9 percent in 2016.
South America, which has borne the brunt of the fall in commodity prices and in Chinese growth, is expected to contract by more than 2 percent this year, on the back of sharp recessions in Brazil and Venezuela.
However, in Mexico, Central America and the Caribbean—which depend less on commodity exports and are more closely tied to the economic recovery in the United States—growth is expected to remain positive in 2016, coming in at 2.5 percent.
The report recognizes that, while transitory, the commodity boom had a real and positive impact on the lives of poor consumers, ushering in an unprecedented social transformation that cut poverty in half and swelled the ranks of the middle class. At the same time, the windfall from the boom produced a “mirage effect,” one that led many in Latin America to spend beyond their means and save at insufficient levels.
A major lesson of the report is the role a country’s saving rate can play in helping to mitigate the economic impact of a decline in commodity prices. Today, countries that saved less during the boom tend to have higher sovereign risk, which makes it more costly to access external finance. Countries that saved at a higher rate, by contrast, tend to have easier access to external finance, and can more gradually transition to the new fiscal reality created by lower export revenues.
Looking forward, the report points out that commodity exporting countries would benefit from reforms that increase savings, boost productivity, and strengthen long-term growth. Additional emphasis should be placed on building skills, and reducing obstacles to economic activity, such as poor infrastructure and inflexible labor or financial regulations.
But considering that benefits from such reforms will take time, the report also advocates a policy agenda that balances the need to stimulate economic activity in the short-term with the imperative of preserving macroeconomic stability.
In pursing this agenda, policymakers should strive to gradually implement fiscal adjustments over time, and to protect the poor by fairly distributing the pain of necessary spending cuts among all segments of society.
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