Regional Report | Latin America
PERIOD OF ADJUSTMENT
With a low level of debt, well-managed public finances, a contained rate of inflation and flexible currency exchanges, the other three countries in the Pacific Alliance are facing a period of economic adjustment.
“This year will be different. We are at a turning point,” says Camilo Villaveces, CEO of Ashmore Colombia, the local unit of the global emerging-markets investment manager. “The fall in oil prices and the competition from Mexico are two factors that are changing the oil proceeds in a radical way with an impact on the Colombian economy which is already evident.”
An ongoing correction of the Colombian peso, along with the Chilean peso and the Peruvian nuevo sol, should favor a restructuring of their exports, boosting manufacturing and farming. This should eventually replace the lower revenue from oil and copper. Some commodity exporters in Latin America have been suffering from the so-called Dutch disease—a period of stagnating growth and higher unemployment in the country that followed the discovery of large natural gas reserves. The influx of foreign currency was pushing the guilder—at the time the Dutch currency—upward and so crowding out more traditional exports, which were becoming less competitive.
Chile and Colombia are two countries that have suffered from Dutch disease. But they have now achieved upside potential by creating a manufacturing base, recent research by Morgan Stanley has noted.
Mario Dib de Castro, at financial advisory Sumatoria in Bogotá, says: “In Colombia the commodity boom left [the] industrial and farm products [sectors] in a difficult spot because of a stronger currency.” Peru, Chile and Mexico are well-placed to gain from the currency decline that often follows a drop in commodities prices, Dib notes, explaining that Bogotá still lacks the needed infrastructure to expand trade toward the Pacific ports. The government’s plan to build much-needed transportation infrastructure, called “4G,” began in 2014, but financial structures will need to be finalized before work actually starts on planned projects.
In a big change from the past, Latin American countries in the Pacific Alliance have increased the flexibility of their currencies, which is important given possible interest rate hikes by the US Fed in 2015, says Juan Ruiz, head economist for Latin America at Banco Bilbao Vizcaya Argentaria (BBVA).
“This [increased flexibility] set them apart. Ten or 15 years ago, a hike in the US interest rates was hitting these countries hard,” says Ruiz, explaining that their debt, denominated in a foreign currency (US dollars, generally) was becoming unmanageable in the case of devaluations. “Now, instead, the currency mix is more in favor of local currency, allowing for an easier readjustment through a devaluation. Both public and local sectors are less vulnerable than they used to be.”
Peru, whose GDP is similar in size to Chile’s but whose population is nearly double, is set to expand the most. “Peru is a good story. It is a story of what we call capital-intensive growth with lot of infrastructure building, low unemployment and a stable fiscal account,” said Alberto Bernal-León head of research and partner at Bulltick Capital Markets.
Chile, the richest country of the group, has been the worst performer, with GDP expansion of 1.7% in 2014, the first year of Michelle Bachelet’s government.
“It was the combination of contraction of investment as the peak of the investment cycle was in 2013—due to global factors—and the uncertainty created by the reforms initiated by the new administration,” notes Marcos Buscaglia, Bank’s of America’s chief Latin America economist.
But it may recover in 2015. Buscaglia concludes: “The positive factors for Chile in 2015... are the expansionary fiscal and monetary policies and the fact that the Chilean peso weakened in a more decisive and consistent way than any other LatAm currency, thus helping the export sector.”