Speech by Rodrigo de Rato, Managing Director of the IMF at the MIT Latin Conference
April 27, 2007MIT Sloan School of Management
April 27, 2007
As Prepared for Delivery
1. Thank you for inviting me to this conference. It is a pleasure to be here at Sloan, and I am honored to be invited to speak at this important conference.
2. This afternoon you will be hearing several different perspectives on Latin America. What is special about the Fund perspective? We can bring to the table three kinds of analysis. We regularly monitor the global economy and financial markets, and publish our views twice a year in our World Economic Outlook and Global Financial Stability Report. We look at the regional economy: we have just published a Regional Economic Outlook for Latin America and the Caribbean. We also look at the economies of individual countries, and exchange information and analysis constantly with the governments and central banks of every country in Latin America. Each layer of this analysis informs the others. The International Monetary Fund is a bit like Mapquest: you can zoom in or out depending on what information you are looking for.
3. So what does the map look like at the moment? The simple answer is that Latin America is doing well. Most countries in Latin America are doing better than they have done for many years, and we expect them to continue to do well. The region is enjoying a period of solid growth and low inflation. In 2006, real economic growth was around 5½ percent. We expect growth to be just under 5 percent in 2007 and about 4¼ percent in 2008. This would make the current expansion the best for sustained strong growth in the region since the 1970s. Regional inflation has also declined during this period of growth. Average inflation in the region has dropped from over 12 percent in 2002 to just 5 percent last year. We expect it to edge up a bit, especially in countries with high capacity utilization, but we expect it to remain contained for the region as a whole.
4. Latin America's recent success owes a great deal to good economic policies. Fiscal positions are much stronger than in earlier expansions; more countries have flexible exchange regimes that help them to absorb shocks; and around the region, central banks have established credibility in combating inflation. This credibility enables them to set lower real interest rates, which support growth. And as I discuss later, the spread of democracy in the region is good in itself and good for economic policies.
5. The region has also been helped by favorable external developments. Many Latin American countries have seen their economies boosted by high prices for the commodities they export. Good global financial market conditions have made it possible for the region to obtain more finance on better terms than in previous years. And strong global growth over the last five years has resulted in strong demand for exports from the region.
6. In the face of this success, it may seem surprising that political dissatisfaction is also on the rise in Latin America, a phenomenon which some have called a rebirth of populism. We should not overstate the populist phenomenon. While leaders with populist agendas were elected in some countries last year, in several other countries governments with a strong public commitment to reform were elected or re-elected. Also, the distinction between populists and reformists obscures many nuances in the policies favored by different governments. For example, the Government of Nicaragua is working on an economic program, which they are discussing with the Fund, and which we may support through our Poverty Reduction and Growth Facility.
7. Nevertheless, the concerns that voters in many countries have expressed over the past year reveal genuine sources of economic discontent. Despite the progress of recent years, rates of growth in emerging economies in Latin America are below those in other regions, and rates of growth in low-income countries in Latin America are below what they need to achieve the Millennium Development Goals. For example, growth in Latin America over the last eight years has been about 3 percent a year; in emerging Asia the average has been over 7 percent. And much of this difference is attributable to differences in productivity. Going back further, over the last 15 years, annual increases in productivity in Latin America have been less than 1 percent, annual increases in productivity in emerging Asia have been 3 percent. Meanwhile, the benefits of growth in Latin America have been unevenly distributed, and levels of poverty and inequality are still too high in many countries. The question then is what are the best policies to address these problems?
8. The answer is that policies need to both maintain-or increase-productivity, and with it growth, and also make sure that the fruits of growth are widely shared. The first part of that equation-increasing growth-is an area where the Fund has some expertise. Let me try to distill this into three clear messages.
9. The first is that countries need to maintain macroeconomic stability. Across the world and certainly across Latin America, there is clear evidence that countries with high inflation or exchange rate depreciations tend to experience shorter growth spells. They are also subject to more social disruption. Instability breeds discontent: much of the concern about globalization in Latin America comes from countries that have suffered financial crises, and while the immediate cause of these may have been reversals in capital flows, in most cases the underlying causes were weak budgets and banking systems. Instability, and especially inflation, also breeds inequity. It is not the rich who suffer most from inflation. They are insulated by holdings of real assets and internationally diversified financial portfolios. It is the poor who suffer most from debasement of the currency, because they have to hold proportionately more of their income in their pockets. To maintain stability, sound fiscal policy is particularly important. I am concerned about the rapid increases in current government spending in several countries in recent years. It is important that governments keep spending under control. Public debt also remains high, at over 50 percent of GDP on average. Ideally, debt should be low enough for governments to have the freedom to implement a counter-cyclical fiscal policy if they need to. Few governments in Latin America are in this position yet, although debt has declined in several countries across the region, including in Brazil, Colombia, and Peru.
10. The second message is that trade brings growth. At the global level, much of the world's post-World War II prosperity can be attributed to increases in global trade. Regions and countries that have become most integrated into the global economy and have pursued trade in goods and services most vigorously are those which have prospered in an increasingly globalized world. The experience of the emerging economies of Asia is a case in point. And the same is true in Latin America, where support for trade liberalization comes from studies based on specific industries in various countries. These studies show that trade liberalization, and also privatization, raised labor productivity in these industries, contributing to growth. The effectiveness of a combination of macroeconomic stability and structural reform can be seen, for example, in the relative success of Chile, which in the last 25 years has managed the highest per capita income growth in the region. There is great scope to expand trade in Latin America, including trade within the region. In emerging Asia, the share of total exports to countries within the same region has increased steadily and is now over 40 percent. But in Latin America, the share of intra-regional trade in total exports has remained roughly unchanged at around 20 percent.
11. My third message is that political and economic institutions matter. One of the most striking and positive developments in Latin America in recent decades has been the blossoming of democracy. This is good in itself and good for economic policy. Whatever the details of their programs, elected governments have the legitimacy and the political strength to implement reforms. It is no coincidence that the broadening of democracy has been accompanied by stronger macroeconomic management in many countries. More generally, it is increasingly accepted that the institutional structure-the arrangements, both formal and informal, which set the framework for economic policy, commerce, and political life-have great influence on a country's growth prospects. Aside from broad political institutions, this includes economic institutions such as independent central banks, reliable statistical agencies, efficient tax collection systems, and transparent and accountable public expenditure control mechanisms. These are institutions on which the Fund provides important technical assistance to its members.
12. Let me now turn to the second part of the equation, making sure that the fruits of growth are widely shared. Economic inequality grew in much of Latin America during the 1980s and 1990s. More recently there has been an improvement, with both poverty rates and inequality coming down. But there is no question that Latin America remains highly unequal compared with other regions of the world, and that rates of poverty remain unacceptably high in much of the region.
13. One way that Latin American countries can tackle this problem is by re-allocating spending toward pro-poor programs and away from some of the outlays that heavily benefit middle- and upper-income groups. Let me give a few examples:
- Non-targeted subsidies for petroleum products and electricity could be replaced with targeted social assistance.
- Public pension systems-which also mostly reward upper-income groups-could be reformed further.
- And governments could devote more resources to targeted social assistance programs such as Oportunidades in Mexico, Bolsa Familia in Brazil, and Chile Solidario in Chile. These have been highly beneficial to the poor, but their effect on income distribution has been limited by their modest size relative to other government spending.
14. There are also structural reforms that governments can make that would address social issues and increase growth, by increasing productivity. Let me take two examples.
- A reduction of labor market rigidities would both lower unemployment rates and increase productivity. The Fund has recently conducted extensive research on successful labor market reform in European countries. Our conclusion is that there are many paths to labor market reform. Some successful countries focused on reduction of taxes on labor income; others on reducing the level of unemployment benefits or their duration, or tightening eligibility requirements; others on a combination of reforms that liberalized both labor and product markets. All have the potential to produce employment gains. Could the same things work in Latin America? Of course, conditions in Europe are very different from those in Latin America, but it may be that the payoffs from reform would be even higher in Latin America, because most of the poor are outside the formal system of employment, and thus do not enjoy legal benefits or protections. Measures which liberalize employment law and which also have the effect of bringing more workers into the formal sector would increase productivity and real wages, and provide a social safety net. These, in turn, would help promote equality and reduce poverty.
- Improving the quality of education would also both raise productivity and increase opportunities for the poor. Latin American countries currently perform worse than East Asian and OECD countries in international comparisons of educational attainment, even allowing for differences in income. The problem is usually not too little spending-the level of spending is comparable with other countries-but inefficient spending. For example, efficiency could be improved by spending relatively more on capital, textbooks, and classroom material. Incentives-for example, linking teachers' salaries to performance-could also help. And shifts in cost recovery and financial support within the education sector could also help to reduce inequality. For example, cost recovery could be increased at the tertiary level, where it largely benefits upper-income groups. The proceeds could then be used to strengthen the quality of secondary education, especially in rural areas.
15. My subject today has been Latin America in the global context. I believe that Latin America's future is largely in its own hands. By pursuing macroeconomic stability, Latin American countries can insulate themselves against downturns, and also increase growth. By pursuing trade and integration in the global economy, they can create new opportunities and employment for their citizens, and also increase growth. By strengthening political institutions, they can promote stability, create broader constituencies for reform, and also increase growth. And by taking action to reduce poverty and inequality, they can increase growth and they can also improve the lives of those who need growth most.
16. But Latin America's future is not entirely in its own hands. When we zoom out a little and look at the regional view, we see that half of the variation in growth in Latin America over the past fifteen years has been due to changes in external conditions. These include movements in commodities prices, shifts in international interest rates and spreads, and global growth. And when we zoom out further and take the global view, we see that prosperity not only in Latin America but also in the rest of the world depends in large part on decisions that will be taken at the global level. Will the major economies of the world reach agreement on further trade liberalization? All of them-and I include Brazil, China, and India as well as the European Union, Japan, and the United States-have an obligation to the world's citizens to reach an ambitious conclusion to the Doha round. Will financial market conditions remain supportive of growth? Both the private sector participants in the market and the governments and regulatory agencies that supervise them have an obligation to be aware of risks and to address them early. Will the global economy remain in good shape? Governments and central banks can help by addressing global issues, from global economic imbalances to global climate change. We in the International Monetary Fund will do what we can, providing a view of the world economy at many levels, and providing guidance to our members on how to get where they want to go. But it is the countries of the world that must choose their destination, and follow the right road to get there.
17. Thank you very much.