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Across Latin America, there is a growing sense of anguish that is reminiscent of Michael Corleone’s lament in The Godfather III: “Just when I thought I was out, they pull me back in.” At a time when the region seemed finally to be grasping economic recovery, Donald Trump's inauguration as President of the United States has brought new trade and financial uncertainties to Latin America.
This year, Latin America is expected to emerge from the recession that began in 2015; but it will still experience a fourth consecutive year of anemic growth – or the sixth, if one counts the slowdown that was already evident in 2012 and 2013. Trump’s declarations on topics ranging from tariffs to the construction of a border wall have already affected some investments in Mexico, and sent the peso plummeting.
Domestic factors will also hinder growth in Latin America. Venezuela’s ongoing political and economic crises are the most important, but not the only, example. Brazil’s crises seemed to have ended in 2016, but the economy is not yet positioned for a strong recovery from its worst-ever recession. Argentina, for its part, is still fighting high inflation and fiscal deficits. And Ecuador has been saddled by falling oil revenues and dollarization in a region where most countries have already depreciated their currencies.
Chile, Colombia, and Uruguay remain on a slow-growth trajectory as well. Among the region’s large and medium-size economies, only Peru’s is recovering – but at a much slower rate than during the last commodity “super cycle.” Overall, the only ones that seem to be resisting the negative trend are some small economies of South America (namely, Bolivia and Paraguay), Central America, and the Dominican Republic.
The good news is that the demand for Latin America’s exports should improve. The US economy is expected to expand, the European Union is recovering, and there are fewer economic uncertainties in China than there were a year ago. Commodity prices seem to have bottomed out in 2016, and remittance inflows have recovered, now exceeding 2007-2008 levels.
Still, the benefits of the latter two trends could be limited. Judging by their historical dynamics, commodity prices are at the beginning of a long weak period, while migration opportunities in the US and Spain largely disappeared after the 2008 financial crisis – and will probably be even scarcer under Trump.
Latin America will also have to deal with major adverse trends in international trade and finance. According to CPB Netherlands, the volume of world trade has grown less than 2% since 2007. This is the most tepid growth since World War II, with trade volume expanding at a slower rate than world production for the first time in the post-war era.
Global trade volume until November 2016.
Image: CPB Netherlands
Slow trade growth poses a significant risk for Latin American countries, because increasing and diversifying exports is an essential component of their recovery strategies. And US protectionism – or even the start of trade wars – is now a real possibility. This threat has centered not only on China, but also on Mexico, where firms have already reduced investments or canceled plans to expand output to serve the US market. And if Trump follows through on his promise to renegotiate the North American Free Trade Agreement, the impact could be felt throughout Latin America, because many other bilateral free-trade agreements between the region’s countries and the US are essentially NAFTA’s offspring.
Maintaining access to affordable finance will be a second major challenge for Latin American countries. In recent years, the region has benefited from abundant financing, and it has gotten by even as falling commodity prices, China’s financial disturbances in 2015 and early 2016, and the impending normalization of US interest rates have raised the costs of external debt.
But now there could be new shocks. Following the initial increase in risk spreads after the US election, financing has become more expensive. The benchmark interest rate for Latin American bonds – the ten-year US Treasury bond – has increased by about one percentage point since the election, and the US Federal Reserve could now push interest rates higher.
Worse still, global financial disturbances could become more likely if the US mixes an expansionary fiscal policy – which will depend largely on Congress – with a contractionary monetary policy and a stronger US dollar. This would be similar to the policy mix that precipitated global economic trouble in the mid-1980s, especially if the rising trade deficit gives Trump another reason to pursue protectionism, as the US did then against Japan.
The economic-policy decisions that Trump makes during the first days of his presidency will be crucial for Latin America. Let us hope that his administration does not stymie economic recovery and pull Latin America back into recession – just when it thought it had gotten out.