Growth Challenges in Latin America: What is Unique About the Region?

Growth patterns in Latin America over the last half century can best be described as extremely volatile. A period of relatively rapid economic growth that ran from the 1950s to the 1970s ended in deep economic and financial crises in the early 1980s and caused the region’s pace of economic activity to collapse. As is well known, the 1980s is characterized as the lost decade for Latin America. The early 1990s brought economic recovery, but debt and financial crises once again plagued the region during the second half of the decade and the early 2000s. Continuing with its rollercoaster-like behavior, the region’s economic growth accelerated in the mid-2000s, driven by favorable external conditions that included a sharp improvement in the region’s terms of trade. This time, the recovery included the entire region. Indeed, in the period 2003-2007, all Latin American countries experienced consistent positive growth. Five years of region-wide, positive growth were an achievement not seen since the 1970s. However, just as hopes were mounting about the region’s capability for sustained growth, the deep financial crisis that started in industrial countries in 2008 expanded to emerging markets and damaged Latin America’s growth prospects. Now, once optimistic 2009 growth rates for the Latin American and Caribbean region have been revised, from 3.2% forecasted by the International Monetary Fund (IMF) in October 2008 to 1.1% in March 2009 and, more recently, down to -1.5% in April 2009. Current opinions vary on how Latin America will fare in the global financial crisis, though the fact that the crisis is having an adverse impact on the region is now inarguable. Optimists believe that the market-oriented policies and reforms that have been implemented since the 1990s are providing a buffer against more severe and long-lasting effects. Under this view, Latin American countries are much better prepared to face the crisis, especially due to improved fiscal and debt management and the large accumulation of foreign exchange reserves. On the other side, more pessimistic analysts argue that the improved fiscal positions in Latin America are the result of temporary factors, such as high commodity prices, and that Latin American economies are still structurally weak. In addition, there is also the concern that political and social tensions in a number of countries might bring about a severe backlash against the market-based reforms implemented so far. Despite differences in views regarding Latin America’s ability to weather the ongoing financial crisis, there is wide recognition that the region has a long way to go in terms of policies and reforms in order to reduce its income per capita gap relative to industrial countries and to other emerging economies with similar levels of social development. In fact, even the high GDP growth in Latin America during the period that preceded the global crisis was not able to prevent the widening of the region’s income gap relative to other regions of the world. For example, over the last three decades, Argentina, Nicaragua and Venezuela have seen the greatest increase in the gap between their income per capita and income per capita in advanced countries. Indeed, only Chile (and to some extent the Dominican Republic) has been able to get closer to the income per capita levels of industrial countries. In light of these developments, and looking beyond the current crisis, the question is what Latin American countries should do to accelerate economic growth while ensuring its sustainability.After all, and as mentioned above, since the 1990s, most countries in the region embarked on a serious reform effort that included a number of economic and social policies and reforms. However, it is important to recall that many of these reform efforts focused primarily on achieving much needed macroeconomic stability. For example, in a number of countries, pension reform, privatizations and, in some cases, even banking sector reforms aimed at correcting for unsustainable fiscal balance sheets. The idea, of course, was that by increasing the involvement of the private sector, these reforms would also improve efficiency and, therefore, economic growth would follow. What should policymakers do to stimulate sustainable growth? This paper takes the view that in order to advance specific policy recommendations on how to proceed with the reform agenda it is first necessary to identify and understand the particular features that distinguish Latin America from other regions of the developing world. While it is essential to recognize the differences that exist among Latin American countries — and these differences should guide policy prescriptions — there are also important characteristics of the region as a whole. Understanding the characteristics and constraints to growth in the region is even more essential if the region is to maintain the overall gains (economic, social and political) of its reform efforts over the last decade in the context of the current financial crisis. Thus, the rest of this paper is organized as follows. First, it discusses some key economic and political traits that make Latin America unique. Second, based on these key characteristics, it identifies the foundations that reforms need to build and/or improve in order to achieve sustained growth in the region. Finally, the paper provides a few examples of country-specific proposals that aim to enhance the growth foundations.