MercoPress. South Atlantic News Agency

World Bank warns Latin America about permanent slowdown in the absence of structural reform

“The evidence suggests that the external shocks emanating from China’s deceleration and terms of trade changes are permanent” said Augusto de la Torre

In its latest semiannual report, “Latin America Treads a Narrow Path to Growth: The Slowdown and its Macroeconomic Challenges,” the World Bank´s Office of the Chief Economist for Latin America and the Caribbean forecasts a fourth year of slow growth for the region.

The report concludes that the strong growth of the 2000s is not likely to revisit the region, unless vigorous pro-growth reforms are adopted.

“The evidence suggests that the external shocks emanating from China’s deceleration and terms of trade changes are permanent,” said Augusto de la Torre, World Bank Chief Economist for Latin America and the Caribbean. “In the absence of growth-friendly structural reform, this situation firmly points in the direction of an also permanent growth slowdown for the region, with rates that would be insufficient to support significant social progress.”

Beyond averages, the region continues to tell a widely diverse story. Commodity exporting countries in South America are growing at a much slower pace than commodity importers in Central America and the Caribbean. Especially hurting among the exporters is Venezuela with its economy expecting to shrink again by 5% in 2015.

Also in negative territory would be Brazil and Argentina, countries with very different realities but both pulling the regional average down due to their larger size. This year the slowdown is expected to hit other South American commodity exporting countries, such as Bolivia, Colombia and Ecuador, which had delivered relatively strong growth through 2014. Meanwhile, commodity importers in the region are benefitting from lower prices and will see growth in 2015 above the regional average, with particularly strong growth rates expected for Panama, Nicaragua, and Dominican Republic. Mexico, benefitting from the US recovery, is expected to grow this year also above the regional average.

The report finds that Latin America and the Caribbean decelerated more than all other emerging regions. This reflects the amplification effects of an unusually strong decline in investment among commodity exporting countries in the region.

In this less favorable external environment, leaders in Latin America are facing diverse policy response options to stimulate their economies. Commodity importers, such as the countries of Eastern Caribbean, will have an easier path given lower commodity prices and U.S. economic recovery. Commodity exporters with little exchange rate flexibility will likely face a much harder time, as the transition to the “new normal” will have to rely on a significant reduction in aggregate spending.

“Hindsight is 20/20. But we can say now that both the private and public sectors in many countries in the region interpreted the change in the external environment, and hence the nature of the deceleration, as transitory. This resulted in continued expansions in spending even as income growth was declining, which ended up reducing monetary and fiscal maneuvering space,” said de la Torre.

“Looking forward, it is now clear that adopting policies to stimulate savings will be important to strengthen the foundations for growth and macroeconomic stability. This is a tall order that will take time, but it will show that we learned from our experiences.”

Currently, Latin America’s savings rates stand at about 10 percentage points below Asia’s. According to the report, higher saving rates would provide more breathing space for both monetary and fiscal policy. In addition, there is increasing evidence that savings can promote growth by both underpinning a more depreciated real exchange rate, and reducing the dependency on foreign savings. Both, in turn, would boost external competitiveness, and reduce the cost of capital, respectively, enhancing the sustainability of growth.

The evidence shows that countries that save more, have more competitive exchange rates, export more, and grow more.