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The Global Context and Regional Outlook for Latin America and the Caribbean

The Global Context and Regional Outlook for Latin America and the Caribbean. Benedict Clements Division Chief Western Hemisphere Department International Monetary Fund* June 20, 2007

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The Global Context and Regional Outlook for Latin America and the Caribbean

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  1. The Global Context and Regional Outlook for Latin America and the Caribbean Benedict Clements Division Chief Western Hemisphere Department International Monetary Fund* June 20, 2007 *The views expressed herein are those of the author and should not be attributed to the IMF, its Executive Board, or its management.

  2. Outline • Global Outlook and Risks • Outlook for Latin America and the Caribbean (LAC) • The Effect of the External Environment on LAC Growth • Sustaining the Expansion and Raising Long-Term Growth

  3. Outline • Global Outlook and Risks • Outlook for Latin America and the Caribbean (LAC) • The Effect of the External Environment on LAC Growth • Sustaining the Expansion and Raising Long-Term Growth

  4. Global Outlook and Risks The global expansion remains vigorous, with its pace expected to decelerate only moderately in 2007 Real GDP Growth, 1970-2007 (percent) (projections are shown for 2007) 4

  5. Global Outlook and Risks The prospects for the world economy continue to be favorable, with risks weighted moderately to the downside... • The US economy has so far been resilient • Growth has picked up in the euro area and Japan • Oil prices have remained steady • Financial market conditions remain benign ...but risks remain • Weakness in the US housing market may persist • Financial market volatility could increase • Supply shocks in the oil market remain possible • Downward adjustment in commodity prices may affect commodity-rich countries • A disorderly unwinding of global imbalances could have high costs 5

  6. Global Outlook and Risks Looking forward, the U.S. economy is expected to continue its “soft landing”, even though risks are weighted to the downside Real GDP growth: 2006: 3.3% 2007: 2.2% 2008: 2.8% 6

  7. Outline • Global Outlook and Risks • Outlook for Latin America and the Caribbean (LAC) • The Effect of the External Environment on LAC Growth • Sustaining the Expansion and Raising Long-Term Growth

  8. Outlook for the LAC region Growth across the region remains robust, with domestic demand now being the main engine of growth... 8

  9. Outlook for the LAC region In light of the exceptionally benign conditions of recent years, risks are moderately weighted to the downside On the downside: • a sharper-than -expected slowdown in the U.S. • tighter global financial market conditions • a larger-than-expected decline in non-fuel commodity prices On the upside: • Faster global growth 9

  10. Outlook for the LAC region Encouragingly, the current expansion is generally on a solid basis, in contrast with previous recoveries • Autonomous central banks focused on low inflation • Primary fiscal surpluses • Higher reserves and exchange rate flexibility Prudent macroeconomic policies have been entrenched This, in turn, has contributed to positive macro outcomes • Low inflation • Declining public debt • External current account surpluses But there are some trends that deserve careful monitoring 10

  11. Outlook for the LAC region Inflation declined in most countries last year and is expected to remain generally contained in 2007 11

  12. Outlook for the LAC region Social indicators have continued to improve 12

  13. Outlook for the LAC region Private sector growth, especially to households, continues to grow briskly This is not yet a source of concern but requires careful vigilance 13

  14. Outlook for the LAC region Market turbulence in early 2007 was largely confinedto equity markets 14

  15. Outlook for the LAC region The region’s external accounts have reached record surpluses, albeit with significant variations across countries… 15

  16. Outlook for the LAC region ...reflecting the dependence of many countries on commodities 16

  17. Outlook for the LAC region However, continued strong import growth and declining terms of trade are projected to reduce external surpluses significantly 17

  18. Outlook for the LAC region Strong commodity prices have also boosted primary fiscal balances across the region, helping reduce public debt ratios The share of FX-denominated debt has also been reduced significantly, with mixed progress on lengthening maturities 18

  19. Outlook for the LAC region Fiscal Policy Stance, 2004-06, 2006-07 (changes in % of GDP between indicated years) 3 Primary balance Revenue 2 Primary spending 1 0 -1 -2 2004-06 2006-07 However, public non-interest spending has also grown rapidly, which has contributed to exerting a pro-cyclical fiscal stimulus 19

  20. Outlook for the LAC region The stance of monetary policy varies widely across countries, reflecting institutional features but also external and fiscal developments 20

  21. Outlook for the LAC region Reserves continue to strengthen to record highs, and on average exchange rates are broadly unchanged

  22. Outline • Global Outlook and Risks • Outlook for Latin America and the Caribbean (LAC) • The Effect of the External Environment on LAC Growth • Sustaining the Expansion and Raising Long-Term Growth

  23. The effects of the external environment How are changes in external conditions likely to affect growth in Latin America? Critical external factors include: • External demand • Investor risk appetite and global liquidity • Commodity prices Model-based simulations show that: • On average, LAC growth appears fairly resilient to a moderate deterioration in external conditions • The region remains sensitive to a number of more adverse (albeit low probability) scenarios Further progress in reducing remaining vulnerabilities would lower the region’s exposure to external conditions 23

  24. The effects of the external environment Latin America’s sensitivity to the global economy 24

  25. The effects of the external environment Commodity prices are key for growth in the region 25

  26. Outline • Global Outlook and Risks • Outlook for Latin America and the Caribbean (LAC) • The Effect of the External Environment on LAC Growth • Sustaining the Expansion and Raising Long-Term Growth

  27. Sustaining the expansion and raising long-term growth While the battle for macroeconomic stability is being won, the key challenge is to raise investment and boost productivity beyond historical long-run averages... 27

  28. Sustaining the expansion and raising long-term growth ...but also beyond that observed during the ongoing expansion 28

  29. Sustaining the expansion and raising long-term growth Significant increases in per capita income will require higher investment and, more importantly, productivity growth For example, to double per capita income in 20 years: • Scenario 1 (S1): If annual TFP growth is 2 percent, investment needs to rise to 24½ percent of GDP (from 20 percent in 2006) • Scenario 2 (S2): If TFP growth is only 1½ percent, investment needs to rise well above 30 percent of GDP S1 S2 TFP Growth (% per year) 29

  30. Sustaining the expansion and raising long-term growth Raising productivity and investment requires policies that entrench and extend recent achievements • Entrenching macroeconomic stability • Removing structural impediments to growth • Greater trade openness and competition • Improving equity and reducing poverty There are strong complementarities between policies that foster higher growth and those that share its fruits more equitably 30

  31. Sustaining the expansion and raising long-term growth Reducing labor market rigidities would have beneficial effects • Lower labor market rigidities would allow for a more efficient resource allocation... • ... but lower unemployment would also have a direct effect on growth • For instance, bringing unemployment to the current OECD average would boost per capita income in 2026 by 4½ % 31

  32. Sustaining the expansion and raising long-term growth Improving education levels and quality would boost the region’s human capital • Better human capital could complement higher physical investment while reducing inequality • For instance, catching up with current OECD level in 2025 (rather than in 2050) would boost per capita income by 8% • Improving education quality is critical to achieve this goal Perceived Quality of Math and Science Education 32

  33. Sustaining the expansion and raising long-term growth Frequency and Duration of Growth Spells 80 Mean duration % spells lasting at least 10 years 60 40 20 0 Industrial Emerging Asia Latin America Sub-Saharan Other Countries Africa developing Continued implementation of sound macroeconomic policies will help the region to escape the boom-bust pattern of the past 33

  34. Thank youFor a copy of the IMF’s Regional Economic Outlook for the Western Hemisphere:http://www.imf.org/external/pubs/ft/reo/2007/whd/eng/wreo0407.htm

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