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Based on Latin American Economic Outlook 2009 London February 2009 Latin America: The Fiesta is Over Javier Santiso Director and Chief Economist OECD Development Centre

Latin America: The Fiesta is Over

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Presentation by Javier Santiso on the effects of the global crisis in Latin America. Based on the Latin America & the Caribbean Economic Outlook 2009.

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Page 1: Latin America: The Fiesta is Over

Based on Latin American Economic Outlook 2009

London

February 2009

Latin America: The Fiesta is Over

Javier Santiso

Director and Chief EconomistOECD Development Centre

Page 2: Latin America: The Fiesta is Over

The financial crisis and Latin America

Historically , when the U.S. sneezes, Latin America catches cold

Effect of US Recessions on Latin American growth(Median for Region)

-7%

-6%

-5%

-4%

-3%

-2%

-1%

0%

1%

2%

1974-75 1980 1982 1991 2001 AllRecessionsSource: IMF , 2007

United States

Latin America

Export Exposure to the US (change in average output gap during recessions)

-3

-2,5

-2

-1,5

-1

-0,5

0

Least exposed Most exposed Least exposed Most exposed

Industrial Countries Emerging Markets

Source: Lane and M ilesi-Ferreti, 2006

Page 3: Latin America: The Fiesta is Over

Current account channel: trade and remittances

-5

0

5

10

15

20

25

2004 2005 2006 2007 2008

El Salvador Guatemala

Mexico Latin America

Remittances (%, annual growth)

Source: OECD Development Centre based on World Bank, November 2008

Latin American Exports (by destination)

Source: OECD Development Centre based on WITS data, 2008

65%

The financial crisis and Latin America

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

1988

1989

1990

1991

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

2006

C hina E U US A R est of the World

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

1988

1989

1990

1991

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

2006

C hina E U US A R est of the World

Source: OECD Development Centre based on WITS 2008.

Page 4: Latin America: The Fiesta is Over

Current account channel: Reduction of commodity prices and trade balance

Terms of trade gains from 2003 through 2008 (%)Commodities Exports (% of total exports)

The financial crisis and Latin America

Source: OECD Development Centre based on WITS 2008.

0

10

20

30

40

50

60

70

80

90

100

M

exi

co

B

razi

l

C

olo

mb

ia

A

rge

ntin

a

P

eru

E

cua

do

r

C

hile

V

en

ezu

ela

0

20

40

60

80

100

120

140

Me

xico

Bra

zil

Arg

en

tina

Co

lom

bia

Ch

ile

Pe

ru

Ecu

ad

or

Ve

ne

zue

la

Source: OECD Development Centre based on JP Morgan, 2009.Source: OECD Development Centre based on National Statistics and WITS, 2009.

Page 5: Latin America: The Fiesta is Over

95

100

105

110

115

120

125

01-0

1-20

03

01-0

7-20

03

01-0

1-20

04

01-0

7-20

04

01-0

1-20

05

01-0

7-20

05

01-0

1-20

06

01-0

7-20

06

01-0

1-20

07

01-0

7-20

07

01-0

1-20

08

01-0

7-20

08

01-0

1-20

09

Ind

ex

Industrial production Index

Current channel: Chinese trade has decreased sharply over the last months

Source: OECD Development Centre, based on national sources and Thomson, 2009

The financial crisis and Latin America

Page 6: Latin America: The Fiesta is Over

The financial crisis and Latin America

Financial channel: foreign banks in local markets

Structure of Mexican banks (% of total assets)

Source: OECD Development Centre based on World Bank, November 2008

Market share of Foreign Banks in local banking systems (% of total assets)

Source: OECD Development Centre based on WITS data, 2008

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

Mex

ico

Chi

le

Ven

ezue

la

Bra

zil

Arg

entin

a

Col

ombi

a

Per

u

Source: OECD Development Centre based on National Sources and Credit Suisse, 2008

20%

24%

15%

20%

11%

5%5%Mexican Banks

BBVA

Santander

Citibank

HSBC

Scotiabank

Other Foreign

Source: OECD Development Centre based on National Sources and Credit Suisse, 2008

Page 7: Latin America: The Fiesta is Over

Initial impact has been limited

Source: OECD Development Centre, based on IMF (WEO October 2008)

-5

-4

-3

-2

-1

0

1

2

3

4

5

1990 1992 1994 1996 1998 2000 2002 2004 2006 2008

Advanced countries Emerging countries

Latin America

-2

-1

0

1

2

3

4

5

6

7

2000 2001 2002 2003 2004 2005 2006 2007 2008

Advanced countries Latin America

Output gap (%) GDP (% annual growth)

Source: OECD Development Centre, based on IMF (WEO October 2008)

thanks to credible economic policies and high internal demand

Page 8: Latin America: The Fiesta is Over

However this has increased recently

Inflation (% y-o-y) Industrial production (% annual growth; moving average)

Source: OECD Development Centre, based on Thomson Datastream, 2009Source: OECD Development Centre, based on Thomson Datastream, 2009

-15

-10

-5

0

5

10

Jan-06 Jul-06 Jan-07 Jul-07 Jan-08 Jul-08 Jan-09

Brazil Chile United States Mexico

1

2

3

4

5

6

7

8

9

10

Jan-06 Jul-06 Jan-07 Jul-07 Jan-08 Jul-08 Jan-09

Brazil Chile Mexico

But a monetary stimulus could be possible in some Latin American countries

Page 9: Latin America: The Fiesta is Over

GDP growth forecasts are on the downside

Slowdown is not necessarily recession

GDP forecasts for 2009 and 2010 (% annual growth)

Source: OECD Development Centre, based on Consensus Forecasts, 2009Source: OECD Development Centre, based on Consensus Forecasts, 2009

GDP forecasts for 2009 in Latam (% annual growth)

-2

-1

0

1

2

3

4

5

LatinAmerica

NorthAmerica

WesternEurope

Asia/Pacific EasternEurope

2009 2010

na

-1

0

1

2

3

4

5

Argentina Mexico Venezuela Chile Colombia Brazil Latam

September 08 October 08 November 08 January 09

Page 10: Latin America: The Fiesta is Over

Latin America remains highly vulnerable to international capital markets’ volatility …

Nominal exchange rate (US$, basis 100 = Nov.07) Equity market (basis 100 = Nov.07)

Source: OECD Development Centre based on Thomson Datastream, 2009Source: OECD Development Centre based on Thomson Datastream, 2009

35

45

55

65

75

85

95

105

115

125

Feb-08 Apr-08 Jun-08 Aug-08 Oct-08 Dec-08 Feb-09

Brazil Mexico Colombia S&P500

80

90

100

110

120

130

140

150

160

Feb-08 May-08 Aug-08 Nov-08 Feb-09

Brazil Chile Mexico Colombia

Page 11: Latin America: The Fiesta is Over

…but at least for the public sector, the sensibility has been reduced

Sovereign bond spreads and “global risk aversion”

Source: OECD Development Centre based on Thomson Datastream, 2009

Spreads are now much less sensitive to external shocks

The VIX index (CBOE Volatility Index) is the implied volatility of S&P500 index options.

E MB I G loba l L a tAm vs. VIX (2005-2009)

0

200

400

600

800

1 000

1 200

1 400

1 600

5 15 25 35 45 55 65 75VIX index

EM

BI G

loba

l Lat

Am

(bp)

average

today

E MB I G loba l L a tAm vs. VIX (1998-2004)

0

200

400

600

800

1 000

1 200

1 400

1 600

5 15 25 35 45 55 65 75VIX index

EM

BI G

loba

l Lat

Am

(bp)

average

Page 12: Latin America: The Fiesta is Over

Capital markets are differentiating between countries and with respect to past sovereign debt crises

Markets do not appear to be anticipating a crisis for ‘credible’ countries

EMBI sovereign bond spreads (bp)

Source: OECD Development Centre based on Thomson Datastream, 2009

0,0

0,2

0,4

0,6

0,8

1,0

1,2

1,4

1,6

1,8

0 100 200 300 400 500 600 700 800 900

Bond s pre ad (bas is points )

Und

erw

riting

spr

ead

(%)

Argentina (T-3)Argentina (T-2)

Argentina(T-1)

Brazil (T-2)

Brazil (T-1)

Russia (T-2)

Russia (T-1)

Turkey (T-3)

Turkey (T-2)

Turkey (T-1)

Source: OECD Development Centre based on Latin American Economic Outlook, 2009

today

Fees and Sovereign bond spreads (Primary market)

0

200

400

600

800

1000

1200

1400

1600

1800

2000

Feb-08 Apr-08 Jun-08 Aug-08 Oct-08 Dec-08 Feb-09

Argentina Brazil Chile Colombia

Mexico Venezuela

Page 13: Latin America: The Fiesta is Over

Why such confidence? Public debt management has improved

Source: OECD Development Centre calculations based on World Bank and Consensus Forecast, 2009.

“Original Sin Index”External Public Debt in Latin America (% of GDP)

Source: OECD Development Centre calculations based on Dealogic, 2009.

External debt is falling and countries can increasingly borrow abroad in local currency

0,0

0,2

0,4

0,6

0,8

1,0

2002 2003 2004 2005 2006 2007 - 2008

Brazil Colombia Peru Uruguay

0

5

10

15

20

25

30

35

40

45

50

2003 2004 2005 2006 2007 2008 2009 2010

Brazil Chile Colombia Mexico Venezuela

Page 14: Latin America: The Fiesta is Over

However refinancing risks exist in a context of illiquidity in the international markets

Source: OECD Development Centre based on Dealogic, 2009.

Corporate Bond High-Yield Issuance (US$ mill.)Global Covered Bond Issuance (US$ mill.)

Source: OECD Development Centre based on Dealogic, 2009.

This is above all true for the Latin Corporates (External maturities reach $32bn in 2009)

40 000

60 000

80 000

100 000

120 000

140 000

160 000

2003Second

Half

2004Second

Half

2005Second

Half

2006Second

Half

2007Second

Half

2008Second

Half

50 000

100 000

150 000

200 000

250 000

300 000

2003 2004 2005 2006 2007 2008

Page 15: Latin America: The Fiesta is Over

Revenues and expenditures

Fiscal policy volatility

Latin America’s fiscal performance has much improved over recent years

Fiscal policy measures

Source: OECD Development Centre calculations based on the ECLAC ILPES Public Finance database for Latin America, and OECD General Government Accounts data

for OECD countries .

Source: OECD Development Centre calculations based on the ECLAC ILPES Public Finance database for Latin America, and OECD General Government Accounts data

for OECD countries .

Page 16: Latin America: The Fiesta is Over

Gini coefficients of income inequality, before and after taxes and transfers

While taxes and transfers reduce the inequality by 19 Gini points in Europe, the difference is less

than two Gini points in Latin America

However, fiscal policy does little to reduce inequality in Latin America

Source: OECD Development Centre (2008), based on Euromod (2008) for OECD countries and Goñi et al. (2008) for Latin America.

Page 17: Latin America: The Fiesta is Over

Democratic Consolidation in Latin America: Experts’ and Citizens’ Views

Sources: BTI Index (2008) and Latinobarómetro (2007).

Political context: democratic consolidation…

Source: OECD Development Centre based on Nieto Parra and Santiso (2008)

Number of presidential elections in Latin America

The Latin American countries covered are Argentina, Brazil, Chile, Colombia, Ecuador, Mexico, Peru and Venezuela. For elections with a second (run-off) round, the date of the final round is used.

0

1

2

3

4

5

6

7

1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012

Page 18: Latin America: The Fiesta is Over

Capital Markets, Democracyand the Cost of Debt

There are clear links between political processes, particularly elections, and instability in the debt and currency markets

Source: Nieto Parra and Santiso (2008a), based on Datastream database.

The political cycle and capital markets

Real Exchange Rates around Elections

99,0

99,5

100,0

100,5

101,0

101,5

102,0

102,5

103,0

-9 -8 -7 -6 -5 -4 -3 -2 -1 0 1 2 3 4 5 6 7 8 90 = e le c tion m onth

Ind

ex

-1,0

-0,8

-0,6

-0,4

-0,2

0,0

0,2

0,4

0,6

0,8

1,0

Correlation Between Exchange Rate and Sovereign- bond Spreads During Elections

Page 19: Latin America: The Fiesta is Over

Capital Markets, Democracyand the Cost of Debt

Bank recommendations are downgraded prior to elections, but tend to move positively again once the uncertainty has passed

Source: Nieto Parra and Santiso (2008a), based on Datastream database.

The political cycle and capital markets

Investment-Bank recommendations around elections

Brazil 2002 and 2006: From Lula Preta to Lula de Mel

-0,4

-0,3

-0,2

-0,1

0,0

0,1

0,2

0,3

0,4

-9 -8 -7 -6 -5 -4 -3 -2 -1 0 1 2 3 4 5 6 7 8 90 = e le c tion m onth

-1,0

-0,5

0,0

0,5

1,0

200 200 200 200 200 200

P residential election date

Page 20: Latin America: The Fiesta is Over

Capital Markets, Democracyand the Cost of Debt

Bank recommendations are downgraded prior to elections, but tend to move positively again once the uncertainty has passed

Source: Nieto Parra and Santiso (2008a), based on Datastream database.

The political cycle and capital markets

Argentina: recommendations(1:overweight, 0:neutral, -1:underweight)

-1,00

-0,50

0,00

0,50

1,00

J ul-97 J ul-98 J ul-99 J ul-00 J ul-01 J ul-02 J ul-03 J ul-04 J ul-05 J ul-06

Presidential election date

Mexico: recommendations(1:overweight, 0:neutral, -1:underweight)

-1,000

-0,500

0,000

0,500

1,000

J ul-97 J ul-98 J ul-99 J ul-00 J ul-01 J ul-02 J ul-03 J ul-04 J ul-05 J ul-06

Presidential election date

Page 21: Latin America: The Fiesta is Over

Capital Markets, Democracyand the Cost of Debt

The market’s fears have some justification: elections are indeed associated with fiscal volatility

Note: The impact of elections on fiscal policy is calculated as the difference between the fiscal variable (as percentage of GDP) during the election year and non-election years.

Source: Nieto Parra and Santiso (2008b, forthcoming)

Are Capital-market Jitters around Elections Justified?

P rimary balanc e

-0,8

-0,7

-0,6

-0,5

-0,4

-0,3

-0,2

-0,1

0,0

0,1

OECD Latin America

P rimary ex penditure

-0,1

0,0

0,1

0,2

0,3

0,4

0,5

0,6

0,7

0,8

OECD Latin America

Impact of Elections on Fiscal Policy, 1990-2006 (% of GDP)

Page 22: Latin America: The Fiesta is Over

Capital Markets, Democracyand the Cost of Debt

Across individual Latin American countries, it exposes considerable variation

Note: The impact of elections on fiscal policy is calculated as the difference between the fiscal variable (as percentage of GDP) during the election year and non-election years.

Source: Nieto Parra and Santiso (2008b, forthcoming)

Are Capital-market Jitters around Elections Justified?

-1,0-0,50,00,51,01,52,02,53,03,54,0

Impact of Elections on Fiscal Policy, 1990-2006 (% of GDP)

Page 23: Latin America: The Fiesta is Over

Capital Markets, Democracyand the Cost of Debt

The economic pronouncements made by Latin American electoral candidates differ markedly among countries

Source: Nieto Parra and Santiso (2008a), based on The Economist (2008).

Uncertainty around elections: the role of economic-policy Platforms

Non-credible policies announced by Candidates, 1998-2008

0

1

2

3

4

0

10

20

30

40

50

60

% o

f to

tal e

lecti

on

s

Elections with non credible policies announced (right axis)

Number of elections with non credible policies announced

Page 24: Latin America: The Fiesta is Over

Is Latin American Democracy Maturing In the eyes of the Capital Markets?

The election effect has been much less marked since 2006 than before...

Source: Nieto Parra and Santiso (2008a)

Investment-bank recommendations around elections

by year, Latin America

-0,4

-0,3

-0,2

-0,1

0,0

0,1

0,2

0,3

0,4

-9 -8 -7 -6 -5 -4 -3 -2 -1 0 1 2 3 4 5 6 7 8 9

Before 2006 Since 2006

There were elections in 2006 in all the large countries of Latin America other than Argentina.

Page 25: Latin America: The Fiesta is Over

Is Latin American Democracy Maturing In the eyes of the Capital Markets?

...and is partially supported by higher primary surplus due to high GDP growth rather than spending restraint, and there has been no decrease in non-credible policy pronouncements (e.g., Argentina, Mexico, Peru and Venezuela).

Note: The impact of 2005 and 2006 elections on fiscal policy is calculated as the difference between the fiscal variable (as a proportion of GDP) during the election year and prior non-election years.

Source: Nieto Parra and Santiso (2008b, forthcoming)

Impact of Presidential Elections on Fiscal Variables (% of GDP)P rimary balanc e

-1

0

1

2

3

4

5

P rimary ex penditure

-2

-1

0

1

2

3

4

5

Page 26: Latin America: The Fiesta is Over

Public debt management and political cycles

• Debt levels still high, but considerable progress has been made.• Good public debt management is linked to healthy development

of the domestic bond markets in the region• Sovereign bonds markets have been keenly sensitive to political

events: Why?- Investors worry about pre-election fiscal expansion to attract voters (1990-2006, impact of general elections on fiscal expenditure in LA come close to 25% of GDP growth; virtually zero in OECD), with negative post-electoral consequences…- … and that candidates economic policy platforms are not credible

The political dimension of public debt

Page 27: Latin America: The Fiesta is Over

Based on Latin American Economic Outlook 2009

London

February 2009

Latin America: The Fiesta is Over

Javier Santiso

Director and Chief EconomistOECD Development Centre