2017: the year Latin America bounces back?

Economic growth
Macroeconomics - Economic growth - Monetary Policy

Brazil, the largest economy in Latin America, is returning to growth

Marcus Dall Col

This article is part of the World Economic Forum on Latin America 2017, and was previously published in the World Economic Forum Blog, on April 5, 2017.

In 2016, the buzz was that Latin America had lost much of its glow – the political landscape was changing, economic growth was near zero, and equality gains stalled.

2017, however, may be the year of the comeback for Latin America. While individual nations in the region are faring differently, the global economic environment has become much more supportive for the region, at least in terms of cyclical momentum.

Key developments in this regard include:

The collapse of the commodity super-cycle that started in 2011 has stabilized. China, the pivotal consumer of commodities in the last three decades, has been transiting into a lower but more sustainable level of growth at the 6-7% range in real GDP. This has led to steadily firming levels of commodity prices.

In the US, it is becoming evident that President Trump has inherited a very strong economy well on its way to full employment. The earlier than expected normalization of interest rates will further facilitate stronger business investment.

Even in Europe the growth outlook is improving. In spite of political uncertainty around the upcoming elections in France and Germany (the recent election in the Netherlands resulted in a centrist victory, thus blocking the ascent of the far right there), and continuing worries over the Greek debt crisis, real GDP growth in Europe is expected to improve.

All of these developments have led to a steady improvement in most of the countries in Latin America. For example, Brazil, the largest economy in the region, is returning to growth after eight consecutive quarters of economic contraction. Much of the credit of this turnaround can be attributed to the current government's successful efforts in stabilising its fiscal position and in debt management. At the other end of the spectrum is Venezuela, where the economy is still in free-fall.

Structural challenges

The positive cyclical developments cannot mask deeper structural challenges facing the region, however. For example, Brazil is still highly dependent on commodity production and exports, which is also true for many Latin American and Caribbean (LAC) economies.

Furthermore, the underlying demographic trends of the LAC region mean that there is an urgent need to prepare the economy for creating meaningful employment for the rising numbers of young people entering the labour force in the coming decade.

These two conditions constitute one of the most important structural challenges in the LAC region going forward: the supply of meaningful jobs through diversifying away from commodities; and the rising demand of meaningful jobs due to its demographic trends.

In a detailed analysis of the phenomenon of the rise of the global middle class between 1988 and 2008, Branko Milanovic estimated the gains that have been made in per capita GDP from the lowest to the highest income groups across the world. Apart from the extraordinary increase in income of the global top 1%, the greatest gains have accrued to the expanding middle class in Asia, primarily China, followed by Southeast Asia and India.

The countries in the LAC region are conspicuous by their absence among the winners, and this is the period when the commodity super-cycle was in full swing. So there is a clear lesson to be learned: rising commodity prices and production have been ineffective in expanding the middle class. Weaning an over-dependency on commodities and supplementing it with increasingly diversified and stronger value-added economic activities will be critical to move the economy toward greater resilience and sustainability.

From a demographic perspective, the LAC has one of the youngest populations in the world. Over 25% of the population today is between 15 and 29 years old, estimated with data from the US Census Bureau. The numbers of young people entering the labour market will continue to be large in the coming decade. And yet the youth of the LAC region is by and large ill-prepared for meaningful employment even if jobs are available.

It is estimated that over 40% of youth in the LAC region are adversely affected by poverty, with 20% considered to be in extreme poverty. Conditions are worse in urban areas; about one in three of the urban youth lives in poverty. Meanwhile, only about a third of young people have access to secondary education, according to estimates by the Latin American Economic Commission.

Income inequality and inclusive growth

At the Mastercard Center for Inclusive Growth, our mission is to advance equitable and sustainable economic growth and financial inclusion around the world. I have served as Chair of the Academic Advisory Council for the past decade and, in that role, engage thought leaders and institutions from around the world to provide strategic counsel and inform the Center’s annual research agenda.

For many years, Latin American governments have made strenuous efforts to reduce poverty and income inequality. Almost all of the region’s governments today have a flagship income transfer program that requires recipient families to keep their children in school and receive regular health check-ups and so on. In recent years, transfers have increased in size and many have become more effective in targeting the extreme poor.

The LAC region has seen a slight decline in inequality, as measured by the Gini coefficient, which has moved from 0.57 in 1998-2002; to 0.55 in 2003-2007; and 0.49 in 2008-2012; according to the OECD Income Distribution Data Base.

In spite of these achievements, income inequality in the LAC region remains persistently high. LAC remains the most unequal region the world outside of South Africa, even though South Asia has the largest share of poor in the population.

Given the structural challenges outlined above, further and sustained reduction in income inequality would not be possible without advancing inclusive growth for the following reasons:

In the previous decade, reduction in inequality was made easier because of the commodity super-cycle which enabled LAC governments to implement income transfer programs for the poor. Indeed, it has been estimated that government transfers explained about 20% of the decline in inequality, while stronger economic growth itself explained another 60%. Since the collapse of the commodity super-cycle both economic growth and LAC governments' fiscal power have hugely diminished. So any further improvement in reducing income inequality will have to come from new approaches and policies.

Under these conditions, advancing inclusive growth is one of the most promising development pathways forward, especially when inclusive growth is construed as eradicating barriers for businesses large and small, micro-entrepreneurs, and the rank and file of working people to access what they need in order to function at their respective full productivity. In other words, democratizing productivity.

The challenge is that conditions vary significantly between countries, and between different regions within the same country, in terms of barriers obstructing access to inputs that could raise productivity. Hence deep understanding of local conditions is needed to advance inclusive growth; there is no easy cookie cutter approach that can work everywhere.

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