Among the examples of Latin America's emergence as an economic force in recent years, the brightest moment might have come while the rest of the world suffered. The financial crisis of 2008-2009 sent many nations into tailspins from which they have not fully recovered. Yet, economies across Latin America and the Caribbean emerged largely unscathed. From 2010-2011, the region grew by 5.5% and pulled millions of residents out of poverty. "We have been able to cushion the impact of international financial crisis as well as weathering some of the volatility we've seen over the last few months," says LuisAlberto Moreno, president of the Inter-American Development Bank. "We were able to not only recover from crisis but show growth … helping the world escape from recession."
Can Latin America do it again? That's the question on the mind of many a prognosticator who view the future of the global economy as uncertain at best.
This time around, the threats are different: China's consumption, which raised demand and prices for South American commodities, is slowing. The eurozone is plunging further into crisis by the day. And the recovery of the U.S., an important trading partner for the region, remains sluggish.
Economists expect growth will slow to 3.6% this year for Latin America and the Caribbean as a whole. But if the slowdown in China, the crisis in Europe or the performance of the U.S. economyis worse than predicted, growth could be knocked down a peg. The Inter-American Development Bank concluded recently that countries in the region are well positioned to handle a crisis. Problems could arise, however, under a worst-case scenario in which prices for commodities would drop, the Eurozone debt crisis would deepen and the U.S. would be put on the brink of a double-dip recession.
Few foresee such a grave situation playing out, however. China's growth is expected to slow to 7.5%, hardly listless, and Europe could return to healthy growth within a year or two. "The European recession will have a negative impact. That's clear," says Mauro F. Guillen, a Wharton management professor and director of the Lauder Institute. "And China is not starving, although they may slow from the rapid growth rates that they have experienced [in recent years]…. But under that scenario, Latin America should be OK."
As evidenced by the last downturn, Latin America's economic health is important to the global economy. In both 2010 and 2011, the region contributed 7.5% of worldwide growth. Those in the region are optimistic about their ability to answer even a worst-case scenario in which China grows slowly and Europe slips into a deep recession.
Real Threats
Latin America is less vulnerable than other regions, like Asia, to the situation in Europe, experts note. But with the eurozone crisis changing almost daily, few know exactly what to expect. Lorenzo Bini-Smaghi, an Italian economist and former member of the European Central Bank, says the likely scenario is that during "the next three or four years, we'll have slow growth and volatile markets." He adds: "I think that ultimately, three or four years from now there is a good chance for Europe to solve the problem." Depending on the severity of the crisis in Europe, banks, especially Spanish banks, could look to unload foreign assets or reduce assets, which could tighten the availability of credit in Latin America.
The bigger question is China. As the Asian giant has grown into the world's second-largest economy, behind that of the U.S., its relationship with South America has flourished. "If you look at Brazil and how its trade has blossomed in the last 10 years, it has really been its relationship with China," that has spearheaded that growth, notes Felipe Monteiro, a Wharton management professor and a former Banco do Brazil senior analyst. "In 2000, the relationship was meaningless. But that has changed to the point where today China is Brazil's most important trading partner."
To fuel its double-digit economic growth, China gobbled up metals, crude oil and grains, all chief exports of large Latin American economies. Prices for commodities peaked in recent years. The Dow Jones-UBS Commodity Index, a wide-ranging gauge of commodities prices, peaked in June 2008, and has been falling ever since, leading the Wall Street Journalin December to question whether the commodities boom was ending or merely taking a break.
Demand from China, which alone consumes more than a third of the region's metals and more than half of iron ore, is already slipping. "What China is trying to do, according to the premier, is to slow … growth to 7.5%," down from the 9.2% expansion the country posted last year, says Eswar Prasad, chair of international trade and economics at the Washington-based Brookings Institution. "And its trade surplus has been falling since 2007." That could hurt commodity-dependent economies. Eight Latin American countries rely on commodities for more than 50% of exports, according to the Inter-American Development Bank.
The effect of the Chinese slowdown may be most pronounced in prices for metals, which could fall by as much as 30% in coming years, economists note. China's imports of iron ore, used to make steel for constructing the new buildings and cities have sprung up in recent years, hit a six-month low recently. Steel producers in the country said they could meet demand with their reserves. That's a worry to Brazil. In 2010, iron ore accounted for 43% of Brazil's exports to China, its largest trading partner.
Other metals are expected to meet a similar fate, which could be troublesome for South American producers. Chile, for instance, produces more than one-third of the world's copper. Record prices in 2011 allowed the value of its copper exports to hit a record $42.62 billion, according to the country's Central Bank. But as China cools, prices are already down by nearly 12% and economists expect them to continue to fall.
Not all commodities are the same, however. Even if demand and prices for metals fall, the new middle and urban class in China will still need to eat, meaning demand for agricultural products should remain strong — benefiting grain producers like Argentina and Brazil.
Brazilian Might
"If you look more closely at Brazil's relationship with China, it's clear that there is a misconception that it's only a commodities country," Monteiro says. "It's not." Brazil's population (at an estimated 203 million, the country represents more than a third of the region's total population) and the size of its economy (Brazilian GDP is larger than the rest of the South American economies combined) make it a bellwether for the regional economy.
During the last economic downturn, Brazil had enough fiscal space to cut taxes for individual incomes and several consumer products. It also extended unemployment benefits for workers fired as a result of the downturn. This time around, the government appears similarly positioned to step in if the economy goes south. As of February, its foreign reserves totaled $365 billion, more than double the reserves it counted in 2007. And its public debt remains low, around 40% of GDP. "I don't think Brazil is immune" to a downturn, Monteiro states. "But it's definitely in a strong position…. Its biggest problem right now is that the economy is overheated."
Strong economic growth has allowed Brazil to create a middle class the likes of which it has never seen before. In the last decade, an estimated 20 million people have been lifted out of poverty and President Dilma Rousseff last year launched a program to help millions more climb above the poverty line. An estimated 16 million still live in poverty.
Similar to China, Brazil's growing middle class has created a powerful domestic market that is consuming more products from Brazil and beyond, Monteiro says. "We're talking about a country of more than 200 million, and the macro trend is that the only other country with better demographics right now is India. There are a lot of people getting to working age and that's fueling part of domestic consumption," he notes. "I don't expect to see any major change for good or bad in the next few years. Brazil won't be growing in the double digits … but it will see 4% to 5% growth."
The growth of Brazil's middle class has been replicated across the region. In all, 73 million Latinos have crossed the poverty line. That means there is a growing market within the region.
In many ways, the growth has benefited those like José Marti, who after years of hiring out his flatbed truck to construction companies in Santo Domingo, the capital of the Dominican Republic, struck out on his own in 2009, opening a modest beauty salon run by his wife and a delivery business. "It's going well, better than we expected," he says. He's hired three employees in the last year. Marti adds that much of his business is from Dominicans upgrading their homes and buying products and materials they previously could not afford.
"There's definitely a growth in the middle class, and in demand for cars and consumer products in general," notes Andrew Powell, principal researcher at the Inter-American Development Bank. "And there's definitely been more integration in Latin America…. There's much more internal demand than there was previously."
That will help the region continue to grow, observers say. The International Monetary Fund expects Central America to post 4% growth in 2012 and 2013, the Caribbean to expand by 3.5% and 3.3% and South America to grow by 3.8% and 4.3%, respectively. Whether the region meets those targets will largely depend on what happens in coming months. But the attitude in the region seems to be "We've seen it all before." "We have a lot of experience in answering these external shocks," says Uruguay's Economy Minister Fernando Lorenzo. "I think the region is better prepared than it was in previous years."
Wiggle Room
Coming from a region that was long synonymous with economic dysfunction, optimism may sound misplaced. Latin America is, after all, home to a late 1970s credit crisis so severe that it led to the infamous "lost decade." More recently, the so-called Tequila crisis, caused by a collapse in the Mexican peso, did serious damage to the region's second-largest economy.
The days of overspending and excessive borrowing are seemingly a thing of the past, however. The typical Latin American and Caribbean country public debt was 42% of gross domestic product in 2010, down sharply from just years earlier. In 2003, the typical country carried debt equal to 57% of GDP. What's more, governments have built up reserves. Across the region, reserve levels are 60% higher than they were before the 2008-2009 crisis, according to the Inter-American Development Bank.
That leaves governments the financial wiggle room to institute stimuli that could alleviate the pain of a global financial slowdown. During the 2008-2009 crisis, 13 countries introduced measures — ranging from increases in the minimum wage in Honduras to public infrastructure and housing investment in Chile — to counterbalance the effects of the global downturn.
"The change for Latin America has been on the balance sheets. There is, in general, much less public external debt and more reserves," Powell notes. The Inter-American Development Bank estimated that between eight and 19 countries would have fiscal space to pursue some type of stimulus program depending on how the global economy performs. "Even under a negative scenario in which case there is a deeper problem, Latin America is in position to be able to respond with the same types of policies it utilized in 2008 and 2009."
Indeed, governments in the region have said they are well positioned to respond to a downturn. At a World Bank meeting held last month, representatives from Mexico, Argentina and Uruguay said they believed their countries were better prepared fiscally to answer a downturn than they were in 2007. "We have a good three months' worth of liquidity," José Meade, secretary of finance and public credit for Mexico said at the meeting. "Our position is better…. We have balances that allow us to better deal with a crisis."
