## 2. Latin America and the Caribbean: Setting the Course for Higher Growth

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### External conditions and global outlook
- External demand likely to be lower than its historical standard, "particularly given China’s transition to a more sustainable growth pattern that is less reliant on investment and commodity imports."
- Commodity prices:
  - A modest recovery in commodity prices has reversed some earlier terms-of-trade losses and eased pressures on commodity exporters.
  - Commodity prices are still expected to remain low by historical standards; adjustment to these new levels remains key for some countries.
- Financial conditions and capital flows:
  - Financial conditions eased after the short-lived tightening following the U.S. election.
  - Expectations of looser fiscal policy in the United States contributed to a stronger dollar and higher U.S. Treasury interest rates, but yields pressure was offset by declines in sovereign spreads in the region (except for Mexico).
  - Equity markets strengthened and corporate spreads narrowed; portfolio inflows recovered after sharp declines following the U.S. election.
- Policy uncertainty:
  - Higher global policy uncertainty—especially in the United States regarding tax, trade, and immigration reforms—has reduced business and consumer confidence in Mexico and is expected to weigh on investment and consumption there.
  - Remittances to Mexico and some Central American countries have recently increased, partly preempting potential changes in U.S. immigration policy.

### Exchange rates, external adjustment, and current accounts
- Exchange rate behavior:
  - Many countries allowed currencies to depreciate beginning in 2013; currencies generally strengthened in 2016 in response to commodity price recovery, capital inflows, and reduced domestic policy uncertainty.
  - Mexico was an exception: currency movements reflected delayed Pemex restructuring, deterioration in perceived public finances, and U.S. policy uncertainty.
  - Less flexible exchange rate frameworks have faced persistent appreciations in real effective terms.
- Role of exchange rate flexibility:
  - Increased exchange rate flexibility has made external adjustment less painful; countries with flexible regimes experienced considerably smaller demand compression (smaller sacrifice ratios of external adjustment).
  - For many facing negative terms-of-trade shocks, a major portion of external adjustment has been attributable to import compression.
  - Aggregate real exports do not seem to react significantly to sizable depreciations, but exports and value added of noncommodity sectors have increased; real imports have declined in some economies as consumption shifts toward domestically produced goods.
- Current account developments and projections:
  - Region current account: worsened from -2.1 percent of GDP (2010–12 average) to -3.5 percent of GDP in 2015; narrowed by 1.4 percentage points in 2016.
  - Metal exporters (Chile and Peru): current account balances improved by about 2 percentage points of GDP from troughs; medium-term balances expected to widen due to trend decline in savings (aging) in Chile and recovery of private investment in Peru.
  - Oil exporters: Colombia’s adjustment accelerated in 2016 and is expected to continue with higher public savings; Ecuador’s dollarized adjustment relied on fiscal consolidation, fall in private investment, and balance-of-payments safeguards; Venezuela’s current account narrowed due to reduced government foreign exchange allocation and lack of access to external financing.
  - Argentina and Brazil structural dynamics:
    - Brazil: current account deficit contracted sharply, largely reflecting a contraction in investment and reduced Petrobras medium-term investment plans; projected increase in public savings suggests much of the improvement will be durable.
    - Argentina: continued capital inflows and a structural increase in investment from low levels are expected to lead to higher current account deficits over the next five years.
  - Regional aggregate: current account balance improved on average from -7 percent of GDP in 2013 to -3.6 percent in 2016; expected to reach -4.4 percent in the medium term.

### Fiscal adjustment and public finances
- Fiscal outcomes and trends:
  - Countercyclical fiscal response to the global financial crisis helped contain output losses, but many countries did not fully rebuild fiscal space during subsequent buoyant commodity revenue periods.
  - Primary fiscal deficit in the region increased from 0.2 percent in 2013 to 2.6 percent in 2016.
  - In South America and commodity-exporting Caribbean countries, capital expenditures were cut by about 1–1½ percent of GDP, while current expenditures continued to increase until 2015 and remain high.
  - Debt-to-GDP ratios in countries with slumping commodity revenues have continued to increase.
  - Many countries have consolidation plans, but primary balances remain below historical and debt-stabilizing levels.
- Aggregate government revenue and expenditure dynamics are shown in source figures (general government revenues, primary current expenditures, primary balances, and gross debt reflecting commodity shocks and fiscal responses).

### Domestic developments: labor, credit, and banking
- Labor and wages:
  - Unemployment relatively stable in most countries except a few still contracting.
  - Real wages increasing as a result of declining inflation, expected to support gradual consumption recovery.
- Credit and banking:
  - Real credit growth decelerated in many countries, with exceptions such as Mexico.
  - Nonperforming loans increasing (from a low base) and warrant close monitoring.
  - Banking sector profitability has declined for many countries, but capital ratios remain above regulatory requirements.
- Corporate sector:
  - Firms benefited from narrowing corporate spreads and partial equity price recovery; corporate profitability remained low and leverage remained high for listed companies as of H1 2016.

### Inflation and pass-through
- Despite sizable currency weakenings, inflation increases were smaller than in previous episodes of similar depreciations, reflecting lower pass-through rates and improved credibility of monetary policy frameworks.
- After peaking in early 2016, inflation declined in many countries despite commodity price recovery, reflecting still-negative output gaps and receding depreciation pressures.
- Country-specific: Venezuela’s end-of-period inflation for 2015 was 181 percent.

### Range of risks
- Wider range of risks around the baseline from shifts in the global landscape, especially uncertainty around the U.S. policy mix and tighter financial conditions for emerging markets.
- Domestic risks: slow progress on structural reforms, lingering crises (for example, Venezuela), limited fiscal space, overvaluation, and corruption scandals weighing on sentiment.

### Policy priorities: setting the course for higher growth
- Overarching objective: complete external and fiscal adjustment, manage transition risks, and shift toward policies that raise medium-term growth (infrastructure, human capital, governance, business environment).
- Key policy recommendations:
  - Maintain exchange rate flexibility to facilitate external adjustment and absorb shocks.
  - Monetary policy guidance where credibility is strong:
    - Keep inflation at the midpoint of the target range over the medium term, tolerating temporary deviations in weak demand environments.
    - Where inflation expectations and inflation converge toward target and credibility is strong, continued easing can create space to address future inflationary shocks.
    - Where inflation and expectations are above targets, monetary stance should depend on inflation evolution and medium-term expectations; clear communication is critical.
  - Manage corporate and financial sector risks:
    - Ensure corporate balance sheets are not overstretched and banks’ asset quality remains sound.
    - Implement adequate consolidated supervision where financial and nonfinancial companies are interlinked.
    - In countries with high or rising nonperforming loans, identify pockets of excessive leverage and ensure appropriate macroprudential and resolution frameworks.
    - Use well-executed financial stability reports to identify and publicize emerging risks.
  - Complete fiscal adjustment:
    - Size and pace should reflect debt dynamics, fiscal risks, macro outlook, and market conditions.
    - Design growth-friendly and inclusive adjustment plans, raise public spending efficiency, maintain human and physical capital expenditures while containing overall spending growth.
    - Strengthen fiscal frameworks: credible fiscal rules that avoid procyclicality and a rolling medium-term expenditure framework.
    - Over the longer horizon, design reforms to ensure fiscal sustainability while providing adequate pensions and health care.
  - Tackle structural bottlenecks to raise potential growth (projected medium-term growth of 2.6 percent):
    - Close infrastructure gaps.
    - Increase female labor force participation where low.
    - Invest in human capital.
    - Improve the business environment and governance and tackle corruption.
    - Carefully sequence reforms and build broad consensus to avoid short-term costs.

### Regional outcomes and country highlights (selected)
- Argentina:
  - Real GDP expected to grow 2¼ percent in 2017; about 2½ percent in 2018 and 2019.
  - Recovery driven by rebound in private consumption, stronger public capital spending, and export pickup.
  - Fiscal targets for 2017–19 expected to be met mainly through reductions in energy subsidies and restraint in primary spending.
- Brazil:
  - Growth estimated at 0.2 percent in 2017 and 1.7 percent in 2018.
  - Inflation ended 2016 within target band at 6.3 percent.
  - Constitutional amendment approved in December 2016 mandates a constant real level of federal noninterest spending.
  - Central bank began easing in October (prior year) and accelerated easing since January.
  - Social security reform submitted to Congress; state-level fiscal stress persists in Rio de Janeiro, Minas Gerais, and Rio Grande do Sul.
- Venezuela:
  - Real GDP estimated to have fallen 18 percent in 2016 and 6.2 percent in 2015; projected to fall 7.4 percent in 2017.
  - CPI inflation rose to 274 percent in 2016; projected to accelerate to about 1,134 percent during 2017.
  - Wholesale price inflation about 470 percent in 2016.
  - Current account deficit projected at $8.2 billion in 2017 (3¼ percent of GDP).
  - International reserves projected to fall to $6 billion in 2017.
  - Poverty rose to 82 percent of households in 2016, 50 percent of which are classified as extreme poverty (Encuesta Condiciones de Vida, ENCOVI).
  - Homicide rate increased to 92 murders per 100,000 inhabitants in 2016, up from 79 in 2013 (Observatorio Venezolano de Violencia).

### South America country snapshots and common priorities
- Bolivia:
  - Real GDP growth moderated to 4.1 percent in 2016; expected to expand about 4 percent in 2017 and 3.5 percent over the longer term.
  - Risks: lower gas production and a drought in 2016; accommodative fiscal policy and rapid credit growth contributing to fiscal and external imbalances.
  - Policy: contain the nonhydrocarbon fiscal deficit; gradually increase exchange rate flexibility; accelerate structural reforms.
- Chile:
  - Growth 2017 expected at 1.7 percent (up from 1.6 percent in 2016).
  - Monetary policy appropriately accommodative with scope for further easing; fiscal consolidation can be gradual.
- Colombia:
  - Economic slowdown as domestic demand adjusted to a permanent shock; mild rebound expected for 2017.
  - Monetary easing started while protecting well-anchored inflation expectations.
- Ecuador:
  - Outlook improving due to better access to international capital markets; 2017 growth expected higher than earlier projections but remain negative.
- Peru:
  - Real GDP growth in 2016: 3.9 percent.
  - Authorities aim for gradual fiscal consolidation to bring the headline deficit to 1 percent within five years (from 2.6 percent in 2016).
- Uruguay:
  - Growth pickup in H2 2016; 2017 fiscal consolidation package crucial to put net debt on a downward trajectory.
- Paraguay:
  - Growth about 4 percent in 2016; expected to moderate in 2017.

- Common policy priorities for commodity exporters:
  - Fiscal: put fiscal balances on a sustainable footing; prioritize infrastructure spending over other current expenditures given large infrastructure gaps.
  - Monetary: maintain improved monetary frameworks; tailor stance based on medium-term inflation expectations.
  - Structural: reduce domestic distortions, resolve policy uncertainties, tackle corruption, improve infrastructure, reduce red tape, deepen credit markets, and reform education.

### Mexico, Central America, Panama, and the Dominican Republic (CAPDR)
- Mexico:
  - Real GDP growth expected to decelerate to 1.7 percent in 2017 (from 2.3 percent in 2016), recovering to 2 percent in 2018.
  - Central bank increased policy rate to 6½ percent in March to anchor medium-term inflation expectations.
  - Inflation projected to temporarily exceed 5 percent in 2017, before declining rapidly, nearing the central bank’s 3 percent target toward the end of 2018.
  - Public debt reached 58 percent of GDP in 2016.
- CAPDR regional summary:
  - Growth broadly unchanged at about 4¼ percent in 2016.
  - Dominican Republic growth softened from 7 percent in 2015 to 6½ percent in 2016.
  - Panama growth high at 5 percent in 2016.
  - Costa Rica growth robust at 4¼ percent in 2016.
  - Guatemala growth decelerated to 3 percent in 2016.
  - Inflation at 2 percent at end-2016 in inflation-targeting countries.
  - Medium-term growth expected to stabilize at an estimated average potential rate of 4 percent.
- CAPDR policy priorities:
  - Mexico: maintain macro stability; strengthen fiscal framework; adhere to policy to lower fiscal deficit to 2.5 percent of GDP by 2018; maintain flexible exchange rate; structural priorities include diversification, security, rule of law, and addressing poverty and inequality.
  - Central America: institutionalize fiscal discipline; rebuild fiscal buffers (Costa Rica, Dominican Republic, El Salvador); raise revenues and improve spending efficiency; reform pensions and health care over the medium term; increase exchange rate flexibility and complete transition to full-fledged inflation-targeting where applicable; continue transition toward Basel III and strengthen supervision; strengthen AML/CFT frameworks and regional cooperation.

### The Caribbean: developments, risks, and priorities
- Outlook:
  - Prospects improving; growth in tourism-dependent economies and commodity exporters projected in the 1½ –3 percent range for 2017 and 2018.
  - Tourism upswing in 2016 (Belize, Grenada, Jamaica, St. Vincent and the Grenadines); expected to continue in 2017 supported by U.S. growth.
  - Commodity exporters (Trinidad and Tobago and Suriname) projected to return to modest positive growth in 2017 and 2018.
- Risks:
  - U.S. policy shifts likely to have limited interest-rate channel impact given limited capital flows; U.S. dollar appreciation could hurt competitiveness for currencies tied to the U.S. dollar.
  - Downside risks include further loss of correspondent banking relationships.
- Policy priorities:
  - Put public debt on a clear downward trajectory via fiscal consolidation and structural reform (Grenada, Jamaica, St. Kitts and Nevis; Barbados and Belize require consolidation).
  - Financial sector resilience: strengthen supervision, increase capital adequacy, resolve problem banks (ECCU example).
  - Structural reforms: align wage setting with productivity; reduce energy and financing costs; improve education and skills; accelerate contract dispute resolution; reform insolvency regimes.

### Box 2.1 — Exposures to the United States: channels and illustrative spillovers
- Trade:
  - U.S. accounts for close to 80 percent of total goods exports from Canada and Mexico (about a quarter of their GDPs) and 40 percent of exports from Central America.
  - Renegotiation or unilateral imposition of tariffs would initially worsen trade balances and reduce domestic demand and real GDP growth; over time trade balances could improve as imports decline and currencies depreciate.
- Remittances and immigration:
  - Remittances from the U.S. significant for Northern Triangle countries; U.S. main source for Mexico.
  - In 2015, immigrants from Central America residing in the U.S. represented close to 10 percent of the subcontinent’s entire population.
  - In the Caribbean, migrant population in the U.S. is about 23 percent relative to origin-country populations.
- FDI:
  - U.S. FDI concentrated in Costa Rica and NAFTA partners: represents 60 percent in Costa Rica and 50 percent in NAFTA partners (26 percent and 18 percent of GDP).
- Illustrative FSGM model simulations of U.S. debt-financed fiscal expansion:
  - If fiscal measures are highly productive:
    - U.S. GDP peaks at 1 percent above no-policy-change case in 2021.
    - Higher U.S. demand triggers tighter U.S. monetary policy and U.S. dollar appreciation; short-term positive spillovers possible.
  - If fiscal measures are not productive and U.S. term premium normalizes faster:
    - U.S. GDP rises by roughly ½ percent by 2021.
    - Spillovers to the region are mostly negative due to tighter global financial conditions.
  - Long term: under both scenarios spillovers to the region are small but negative because permanently higher U.S. public debt raises global real interest rates and the cost of capital.
- Modeling note: simulations use the IMF’s Flexible System of Global Models (FSGM), an annual, multiregional general equilibrium model.

### Population aging and long-term fiscal pressures
- Demographics:
  - Latin America experienced the world’s steepest decline in the total dependency ratio over the past 65 years and is approaching rapid aging; the United Nations predicts by 2080 it will overtake advanced economies in elderly share.
- Pension and health care systems:
  - Average public pension and health care spending in Latin America is lower than in high-income countries and emerging Europe, but twice as high as in emerging Asia.
  - Most countries have defined-benefit pay-as-you-go pension systems that are relatively generous and typically underfunded.
  - Defined-contribution systems introduced in the 1990s may yield replacement rates below socially acceptable levels; minimum noncontributory pensions and health insurance have increased coverage but may challenge fiscal sustainability.
- Stylized projections (across 18 Latin American countries):
  - Average pension spending currently at 3½ percent of GDP; projected to increase to 4 percent and 7 percent of GDP in 2030 and 2065, respectively.
  - Brazil could reach a high of 30 percent of GDP in pension spending in 2065 under the no-reform scenario.
  - Long-term fiscal gaps measured as the present discounted value (PDV) of spending increases generated by aging (based on UN demographic projections and IMF methodologies).

### Box 2.2 — Long-Term Fiscal Gaps: projections and policy responses
- Projected pension spending increases:
  - Average increase in pension spending between 2015 and 2030: about 5 percent of GDP.
  - Average pension spending projected to "creep up to" 50 percent of GDP by 2065.
  - Country extreme: Brazil projected PDV of pension spending increase up to 2065 of 365 percent of GDP.
  - Funded components lower projected increases; trade-offs exist between fiscal sustainability and social sustainability.
- Projected health care spending:
  - Regional average public health care expenditure expected to increase to 6 percent of GDP by 2030 and to 10½ percent of GDP by 2065.
  - PDV of projected health spending increases: average PDV up to 2030 about 10 percent of GDP; average PDV up to 2065 almost 100 percent of GDP.
  - Key uncertainty driver: possible 1 percent annual excess cost growth from technological improvements (based on historical trends in advanced economies).
- Methodology:
  - PDV estimates assume an interest rate growth differential of 1 percent (based on Escolano 2010 and Turner and Spinelli 2012).
- Policy recommendations for pensions:
  - Design reforms to ensure financial sustainability while providing socially acceptable coverage and adequacy.
  - Delay aging impact by promoting labor participation (particularly females and the elderly) and formality.
  - Parametric reforms: increase retirement age in line with life expectancy; combine contribution increases and benefit reductions; raise contribution rates in defined-contribution systems to ensure adequacy.
- Policy recommendations for health care spending:
  - Emphasize budget controls and efficiency-enhancing measures while preserving health outcomes and equitable access.
  - Sequence priorities by country context:
    - Expand public coverage by first focusing on essential services, preventive and primary care, infectious disease control, and rural care.
    - Where informality is low and revenue administration strong, consider expanding social-insurance-based systems.
    - Where informality is high, tax-financed universal basic health care may be preferable.
  - For extensive coverage systems, emphasize budget controls via instruments such as:
    1. Budget caps with central oversight,
    2. Public management and coordination of services,
    3. Local and state government involvement in resource decisions,
    4. Better use of market mechanisms,
    5. Increasing the share of costs borne by patients,
    6. Restricting the supply of health inputs and outputs, or imposing direct price controls (Clements, Coady, and Gupta 2012).

### Annex table highlights: Western Hemisphere main fiscal indicators (selected exact figures preserved)
- Regional aggregates (Latin America and the Caribbean):
  - Public Sector Primary Expenditure (Percent of GDP): 30.0, 29.8, 28.8, 28.9, 28.1
  - Public Sector Primary Balance (Percent of GDP): 21.6, 22.8, 22.6, 22.3, 21.5
  - Public Sector Gross Debt (Percent of GDP): 50.9, 54.1, 57.3, 59.0, 59.6
- Selected country examples (Public Sector Gross Debt, Percent of GDP):
  - Brazil: 62.3, 72.5, 78.3, 81.2, 82.7
  - Chile: 14.9, 17.4, 21.2, 24.8, 27.4
  - Mexico: 49.5, 53.7, 58.1, 57.2, 56.8
  - Venezuela: 63.5, 32.1, 28.2, 17.3, 16.6
  - Jamaica (Public Sector Gross Debt, Percent of GDP): 137.6, 120.2, 115.2, 108.6, 102.7
  - Barbados (Public Sector Gross Debt, Percent of GDP): 0.4, 100.0, 106.7, 107.9, 107.4, 108.7
- Additional detailed country-level fiscal indicators are provided in the source annex table.

*International Monetary Fund | April 2017 — Chapter: 2. Latin America and the Caribbean: Setting the Course for Higher Growth*

### 2. Latin America and the Caribbean: Setting

### 2. Latin America and the Caribbean: Setting the Course for Higher Growth

### External conditions and global outlook
- External demand: Over the medium term, external demand is likely to be lower than its historical standard, "particularly given China’s transition to a more sustainable growth pattern that is less reliant on investment and commodity imports."
- Commodity prices:
  - A modest recovery in commodity prices has reversed some earlier terms-of-trade losses and eased pressures on commodity exporters.
  - Commodity prices are still expected to remain low by historical standards, and the adjustment to these new levels will continue to play a key role in the outlook for some countries.
- Financial conditions and capital flows:
  - Financial conditions eased after the short-lived tightening following the U.S. election.
  - Expectations of looser fiscal policy in the United States contributed to a stronger dollar and higher U.S. Treasury interest rates, but this upward pressure on yields was offset by declines in sovereign spreads in the region (except for Mexico).
  - Equity markets strengthened and corporate spreads narrowed, easing financing conditions.
  - Portfolio inflows recovered after sharp declines following the U.S. election; overall inflows to the region have proven resilient relative to other emerging markets.
- Policy uncertainty:
  - Higher global policy uncertainty—especially in the United States regarding tax, trade, and immigration reforms—has reduced business and consumer confidence in Mexico and is expected to weigh on investment and consumption there.
  - Remittances to Mexico and some Central American countries have recently increased, partly preempting potential changes in U.S. immigration policy.

### Exchange rates and external adjustment
- Exchange rate behavior:
  - Many countries allowed their currencies to depreciate beginning in 2013 amid weak external demand; currencies generally strengthened in 2016 in response to commodity price recovery, capital inflows, and reduced domestic policy uncertainty.
  - Mexico was an exception, where currency movements reflected delayed Pemex restructuring, deterioration in perceived public finances, and U.S. policy uncertainty.
  - Countries with less flexible exchange rate frameworks have faced persistent appreciations in real effective terms.
- Role of exchange rate flexibility:
  - Increased exchange rate flexibility has made external adjustment less painful; countries with flexible exchange rate regimes have had considerably smaller demand compression (smaller sacrifice ratios of external adjustment).
  - For many facing negative terms-of-trade shocks, a major portion of the external adjustment has been attributable to import compression.
  - At the aggregate level, real exports do not seem to react significantly to sizable depreciations, but exports and value added of noncommodity sectors have increased; real imports have declined in some economies as consumption shifts toward domestically produced goods.
- Current account developments:
  - After worsening from -2.1 percent of GDP (2010–12 average) to -3.5 percent of GDP in 2015, the region’s current account deficit narrowed by 1.4 percentage points in 2016.
  - Metal-exporting countries (Chile and Peru) appear to have adjusted, with current account balances improving by about 2 percentage points of GDP from their troughs; in the medium term, balances are expected to widen due to trend decline in savings (aging) in Chile and recovery of private investment in Peru.
  - Oil-exporting countries remain in adjustment after the 2014 price drop: Colombia’s adjustment accelerated in 2016 and is expected to continue with higher public savings; Ecuador’s adjustment (dollarized) has relied on fiscal consolidation, a fall in private investment, and balance-of-payments safeguards; Venezuela’s current account narrowed due to reduced government foreign exchange allocation and lack of access to external financing.
  - Argentina and Brazil are undergoing structural changes affecting equilibrium current account dynamics:
    - Brazil: current account deficit contracted sharply, largely reflecting a contraction in investment (cyclical elements and a more permanent component from reduced Petrobras medium-term investment plans); projected increase in public savings suggests much of the improvement will be durable.
    - Argentina: continued capital inflows and a structural increase in investment from low levels are expected to lead to higher current account deficits over the next five years, though productivity gains and further investment in energy may support a lower long-term deficit.
  - Net impact for the region: the current account balance improved on average from -7 percent of GDP in 2013 to -3.6 percent in 2016, and is expected to reach -4.4 percent in the medium term.

### Fiscal adjustment and public finances
- Fiscal outcomes and trends:
  - Latin America’s countercyclical fiscal response to the global financial crisis helped contain output losses, but many countries did not fully rebuild fiscal space during subsequent buoyant commodity revenue periods.
  - The primary fiscal deficit in the region increased from 0.2 percent in 2013 to 2.6 percent in 2016.
  - In South America and commodity-exporting Caribbean countries, capital expenditures were cut by about 1–1½ percent of GDP, while current expenditures continued to increase until 2015 and remain high.
  - Debt-to-GDP ratios in countries with slumping commodity revenues have continued to increase.
  - Many countries have put consolidation plans in place, but primary balances remain below historical and debt-stabilizing levels.
- Government revenue and expenditure dynamics (aggregate patterns shown in source figures):
  - General government revenues, primary current expenditures, primary balances, and gross debt exhibit the effects of commodity shocks and fiscal responses across country groups (figures in the source detail historical and projected paths).

### Domestic developments: labor, credit, and banking
- Labor market and wages:
  - Unemployment has remained relatively stable in most countries except a few still contracting.
  - Real wages are increasing as a result of declining inflation and are expected to support a gradual recovery in consumption.
- Credit and banking:
  - Real credit growth decelerated in many countries, with exceptions such as Mexico.
  - Nonperforming loans have been increasing (albeit from a low base) and warrant close monitoring given subdued growth.
  - Banking sector profitability has declined for many countries, but capital ratios of financial institutions in the region remain above regulatory requirements.
- Corporate sector:
  - Latin American firms benefitted from narrowing corporate spreads and partial equity price recovery; corporate profitability remained low and leverage remained high for listed companies as of the first half of 2016.

### Inflation and pass-through
- Despite sizable currency weakenings, inflation increases have been smaller than in previous episodes of similar depreciations, reflecting lower pass-through rates and improved credibility of monetary policy frameworks.
- After peaking in early 2016, inflation has been declining in many countries despite commodity price recovery, reflecting still-negative output gaps and receding depreciation pressures.
- Country-specific note: Venezuela’s end-of-period inflation for 2015 was 181 percent.

### Range of risks
- The region faces a wider range of risks around the baseline stemming from shifts in the global landscape, especially uncertainty around the U.S. policy mix and tighter financial conditions for emerging markets.
- Domestic risks include slow progress on structural reforms, lingering crises (for example, Venezuela), limited fiscal space, overvaluation, and corruption scandals that weigh on sentiment in multiple countries.

*International Monetary Fund | April 2017 — Chapter: 2. Latin America and the Caribbean: Setting the Course for Higher Growth*

### 4. General Government Capital Expenditures

### 4. General Government Capital Expenditures

### Fiscal and External Developments and Risks
- Region faced sharp declines in commodity prices, weak trading partner demand, and financial volatility; exchange rates have absorbed shifts and central bank credibility has helped contain inflation.
- Sovereign spreads have declined but remain highly responsive to shifts in global risk aversion and regional market spillovers.
- Changes in U.S. policy could:
  - Provide near-term fiscal stimulus to trading partners if U.S. imports increase, but
  - Lead to tighter global financial conditions if U.S. monetary policy normalizes faster and U.S. public debt rises.
- A renewed decline in commodity prices could:
  - Add to earlier terms-of-trade losses,
  - Reduce capital inflows,
  - Further elevate corporate and sovereign sector risks.
- Corporate sector stress could spill over to banks via reduced collateral values and higher nonperforming loans.

### Policy Priorities: Setting the Course for Higher Growth
- Overarching objective: complete external and fiscal adjustment, manage transition risks, and shift toward policies that raise medium-term growth (infrastructure, human capital, governance, business environment).
- Key policy recommendations:
  - Maintain exchange rate flexibility to facilitate external adjustment and absorb shocks.
  - Ease trade-offs for monetary policy where credibility is strong:
    - Keep inflation at the midpoint of the target range over the medium term, tolerating temporary deviations in weak demand environments.
    - Where inflation expectations and inflation converge toward target and credibility is strong, continued easing can create space to address future inflationary shocks.
    - In countries where inflation and expectations are above targets, monetary stance should depend on inflation evolution and medium-term expectations; clear communication is critical.
  - Manage corporate and financial sector risks:
    - Ensure corporate balance sheets are not overstretched and banks’ asset quality remains sound.
    - Implement adequate consolidated supervision where financial and nonfinancial companies are interlinked.
    - In countries with high or rising nonperforming loans, identify pockets of excessive leverage and ensure appropriate macroprudential and resolution frameworks are in place.
    - Use well-executed financial stability reports to identify and publicize emerging risks.
  - Complete fiscal adjustment:
    - Important given structurally low commodity prices in commodity exporters, subdued potential output, and projected demographic trends.
    - Size and pace of adjustment should reflect debt dynamics, fiscal risks, macro outlook, and market conditions.
    - Design growth-friendly and inclusive adjustment plans, raise public spending efficiency, maintain human and physical capital expenditures while containing overall spending growth.
    - Strengthen fiscal frameworks: credible fiscal rules that avoid procyclicality and a rolling medium-term expenditure framework.
    - Over the longer horizon, design reforms to ensure fiscal sustainability while providing adequate pensions and health care.
  - Tackle structural bottlenecks to raise potential growth (projected medium-term growth of 2.6 percent):
    - Close infrastructure gaps to support productivity and competitiveness.
    - Increase female labor force participation where low.
    - Invest further in human capital.
    - Improve the business environment and governance and tackle corruption.
    - Carefully sequence reforms and build broad consensus to avoid short-term costs.

### Monetary Policy and Inflation Developments
- Many central banks preemptively raised policy rates during 2015–late 2016; pass-through of depreciations to inflation has been limited and took one to two years to complete.
- Inflation began to decline in early to mid-2016 as pass-through faded, allowing many central banks to shift to holding or easing cycles (with country-specific exceptions).

### Regional Outcomes: Selected Country Highlights (South America)
- Argentina:
  - Real GDP expected to grow 2¼ percent in 2017.
  - Growth projected at about 2½ percent in 2018 and 2019.
  - Recovery driven by rebound in private consumption, stronger public capital spending, and export pickup.
  - Fiscal targets for 2017–19 expected to be met mainly through reductions in energy subsidies and restraint in primary spending.
- Brazil:
  - Growth estimated at 0.2 percent in 2017 and 1.7 percent in 2018.
  - Inflation ended 2016 within target band at 6.3 percent.
  - Constitutional amendment approved in December 2016 mandates a constant real level of federal noninterest spending; primary surplus targets remain important.
  - Central bank began easing in October (prior year) and accelerated easing since January.
  - Social security reform submitted to Congress; state-level fiscal stress persists in Rio de Janeiro, Minas Gerais, and Rio Grande do Sul.
  - Policy recommendations include maintaining fiscal reforms momentum, considering modification of minimum wage indexation, pursuing competitiveness-enhancing reforms, and revenue-neutral indirect tax reform.
- Venezuela:
  - Real GDP estimated to have fallen 18 percent in 2016 and 6.2 percent in 2015; projected to fall 7.4 percent in 2017.
  - CPI inflation rose to 274 percent in 2016; projected to accelerate to about 1,134 percent during 2017.
  - Wholesale price inflation about 470 percent in 2016.
  - Current account deficit projected at $8.2 billion in 2017 (3¼ percent of GDP).
  - International reserves projected to fall to $6 billion in 2017.
  - Poverty rose to 82 percent of households in 2016, 50 percent of which are classified as extreme poverty (Encuesta Condiciones de Vida, ENCOVI).
  - Homicide rate increased to 92 murders per 100,000 inhabitants in 2016, up from 79 in 2013 (Observatorio Venezolano de Violencia).

*International Monetary Fund | April 2017*

### 2. LATIN AMERICA AND THE CARIBBEAN: sETTING THE COURsE FOR HIGHER GROWTH

### 2. LATIN AMERICA AND THE CARIBBEAN: sETTING THE COURsE FOR HIGHER GROWTH

### South America: Country-level outlooks and risks
- Bolivia
  - Real GDP growth moderated from about 6 percent annually in 2013–15 to 4.1 percent in 2016.
  - Real GDP is expected to expand by about 4 percent in 2017 and 3.5 percent over the longer term.
  - Drivers/risks: lower gas production and a drought in 2016; accommodative fiscal policy and rapid credit growth supporting activity but contributing to fiscal and external imbalances, financial sector risks, and depletion of buffers.
  - Policy recommendations: contain the nonhydrocarbon fiscal deficit and overall deterioration of the headline balance; gradually increase exchange rate flexibility; accelerate structural reforms.

- Chile
  - Growth in 2017 expected at 1.7 percent, up slightly from 1.6 percent in 2016.
  - Factors: disruptions in copper production from extended labor strikes and extensive wildfires; dampened consumption from a weakened labor market; subdued confidence and investment amid upcoming presidential elections.
  - Outlook: recovery expected to gain traction later in 2017 and more strongly in 2018 as trading partners firm and monetary conditions loosen.
  - Policy guidance: monetary policy is appropriately accommodative with scope for further easing; fiscal consolidation can be gradual but needs to continue given lower growth potential.

- Colombia
  - Economic slowdown continued as domestic demand (investment in particular) adjusted to a permanent shock to national income.
  - One-off factors (including a nationwide strike) led to weaker-than-anticipated growth; a mild rebound is expected for 2017.
  - Monetary policy: with dissipating inflationary pressures, the central bank has started an easing cycle while protecting well-anchored inflation expectations.
  - Structural supports: infrastructure agenda, tax reform boosting public and private investment, and confidence improvements from peace to buttress medium-term growth.

- Ecuador
  - Outlook improving due to better access to international capital markets prompted by the moderate recovery in oil prices.
  - Growth for 2017 expected to be higher than projected earlier but remain in negative territory because of persistent real exchange rate appreciation and limited fiscal space.
  - Medium-term constraints: weak competitiveness, structural labor market rigidities, and a burdensome regulatory environment constraining private sector activity.

- Peru
  - Real GDP growth in 2016: 3.9 percent, supported by expanding copper production and robust private consumption.
  - Investment expected to post a third consecutive annual decline.
  - Domestic headwinds: political bribery probe related to Odebrecht and severe flooding/landslides may weigh on 2017 investment and growth.
  - Policy stance: inflation excluding food and energy is within the central bank’s 1–3 percent target range; authorities announced an economic stimulus plan aimed at promoting employment and keeping 2017 growth at about 4 percent.
  - Fiscal target: authorities aim for gradual fiscal consolidation to bring the headline deficit to 1 percent within five years (from 2.6 percent in 2016).

- Uruguay
  - Slowdown bottomed out in 2016 with growth picking up in H2 2016.
  - Inflation decreased toward the upper bound of the central bank’s target range.
  - Constraints: rising debt and still-elevated inflation limit room for countercyclical policy.
  - Policy: 2017 fiscal consolidation package crucial to put net debt on a downward trajectory; tight monetary conditions needed to support disinflation.

- Paraguay
  - Growth about 4 percent in 2016 driven by strong energy production and construction activity.
  - Growth expected to moderate in 2017 as supply-side tailwinds dissipate.
  - Policy stance: broadly neutral fiscal stance expected after presidential veto; moderately accommodative monetary policy appropriate.
  - Inflation evolving in line with central bank’s recently lowered midpoint of the target range; vigilance advised given external shock risks.

### Common policy priorities for South American commodity exporters
- Context: protracted adjustment to structurally lower commodity revenues and external demand amid China’s transition to less investment- and commodity-intensive growth.
- Fiscal policy
  - Priority to put fiscal balances on a sustainable footing and strengthen fiscal frameworks.
  - Pace of fiscal adjustment should vary by country, depending on debt levels and market pressures.
  - Given large infrastructure gaps, prioritize infrastructure spending over other current expenditures to support medium-term growth.
- Monetary policy
  - Maintain improved monetary policy frameworks that have kept inflation contained despite sizable depreciations.
  - Central banks should tailor monetary stance based on medium-term inflation expectations as disinflation continues.
- Structural reforms and domestic priorities
  - Reduce domestic distortions, resolve policy uncertainties, tackle corruption, and further structural reforms to raise medium-term growth.
  - Priorities include: improving infrastructure; reducing red tape and economic informality; enhancing the business climate; deepening credit markets; reforming education.

### Mexico, Central America, Panama, and the Dominican Republic — Developments and outlook
- Mexico
  - Real GDP growth expected to decelerate to 1.7 percent in 2017 (from 2.3 percent in 2016), recovering to 2 percent in 2018.
  - Headwinds: uncertainty about future trade relations with the United States and higher borrowing costs expected to weigh on investment and consumption, offsetting positive impulses from stronger U.S. growth and sharp real effective depreciation.
  - Risks: protracted NAFTA negotiations could prolong uncertainty and increase financial market volatility; persistent uncertainty could depress investment and consumption further.
  - Inflation and monetary policy:
    - Inflation running above target mainly due to gasoline price liberalization in January 2017 and exchange-rate pass-through.
    - Central bank increased policy rate to 6½ percent in March to anchor medium-term inflation expectations.
    - Inflation projected to temporarily exceed 5 percent in 2017, before declining rapidly, nearing the central bank’s 3 percent target toward the end of 2018.
  - Exchange rate policy: central bank introduced a foreign-exchange intervention strategy based on nondeliverable forwards settled in pesos to smooth volatility and provide hedging.
  - Recent currency movement: the peso has strengthened vis-à-vis the U.S. dollar since January due to conciliatory remarks by U.S. officials and strong macroeconomic policies.

- CAPDR (Central America, Panama, and the Dominican Republic)
  - Growth
    - Regional growth broadly unchanged at about 4¼ percent in 2016.
    - Main drivers: recovery in the United States with a robust labor market, low oil prices, consumption supported by strong remittances in the Northern Triangle.
    - Investment returned to normal levels after completion of energy and nonresidential projects in several countries.
    - Country variation:
      - Dominican Republic: growth softened from 7 percent in 2015 to 6½ percent in 2016; remains highest in region.
      - Panama: growth high at 5 percent in 2016 but lower than expected as expanded Panama Canal maritime trade disappointed.
      - Costa Rica: growth robust at 4¼ percent in 2016, propelled by stronger harvests and higher exports.
      - Guatemala: growth decelerated from 4 percent in 2015 to 3 percent in 2016 due to appreciation in the real effective exchange rate, slowdown in public spending, and domestic policy uncertainty.
  - Inflation and external positions
    - Inflation at 2 percent at end-2016 remains below or within target ranges in countries with inflation targeting.
    - Guatemala’s inflation uptick driven by weather supply shocks affecting food items.
    - External current account deficits largely financed by FDI have improved due to low commodity prices and strong remittances.
    - Reserves generally adequate.
  - Fiscal and debt developments
    - Fiscal consolidation continued in 2016 but at a slower pace.
    - Costa Rica: fiscal deficit highest in region but shrinking via administrative revenue measures and containment of wage and investment spending.
    - Nicaragua: fiscal deficit increased reflecting higher infrastructure spending.
    - Average public debt-to-GDP ratio in CAPDR has been increasing amid relatively favorable external financing conditions.
    - Fiscal vulnerabilities expected to persist in the medium term in the Dominican Republic, Costa Rica, and El Salvador without additional consolidation.
  - Financial sector
    - Appears sound with decelerating credit growth in 2016 consistent with healthy financial deepening.
    - Regulatory frameworks progressing toward Basel III capital and liquidity requirements; provisioning adequate and nonperforming loans low.
    - De-risking by international banks limited; vulnerabilities from high dollarization and increased reliance on external financing remain.
  - Medium-term outlook and risks
    - Growth expected to stabilize at an estimated average potential rate of 4 percent in the medium term.
    - Strong U.S. growth to support exports and remittances.
    - Higher global interest rates likely to have limited impact given weak financial linkages.
    - Downside risks: weaker global growth, higher global interest rates, stronger dollar while exchange rates fail to adjust, political uncertainties, and retreat from cross-border integration.
    - Only modest acceleration of inflation and deterioration in external positions expected over the medium term.

### CAPDR: Policy priorities
- Mexico (policy priorities)
  - Maintain macroeconomic stability and market confidence amid heightened uncertainty.
  - Strengthen the fiscal framework to bolster credibility and reduce public debt (public debt reached 58 percent of GDP in 2016).
  - Fiscal Responsibility Law reforms: tighten link between desired public debt level and public sector borrowing requirement; limit use of exceptional circumstances clauses; establish a nonpartisan fiscal council.
  - Adhere to policy to lower the fiscal deficit to 2.5 percent of GDP by 2018.
  - Use positive revenue surprises and profit transfers from the Bank of Mexico to reduce public debt.
  - Maintain a flexible exchange rate as main shock absorber.
  - Monetary policy: scope for a pause in near-term tightening given temporary inflation pressures, restrained wage growth, and introduction of foreign-exchange hedges; clear central bank communication important.
  - Structural priorities: diversify export markets; improve security and rule of law; address poverty and inequality.

- Central America (policy priorities)
  - Institutionalize fiscal discipline and strengthen fiscal policy frameworks to achieve fiscal sustainability.
  - Short-term priority: rebuild fiscal buffers—Costa Rica, the Dominican Republic, and El Salvador need higher revenues and lower/more efficient spending.
  - Establish fiscally robust medium-term institutional frameworks, for example fiscal rules implemented by some regional countries.
  - Guatemala: focus fiscal policy on supply-side and social objectives, raise revenues to finance higher government spending to close social and physical infrastructure gaps given high poverty and inequality.
  - Medium-term reforms: pension and health care system reforms to counter pressures from population aging.
  - Exchange rate and monetary frameworks: maintain and increase exchange rate flexibility where applicable to improve resilience; complete transition to full-fledged inflation-targeting frameworks; reduce dollarization; improve financial infrastructure in money, foreign exchange, and domestic debt markets.
  - Financial stability measures: continue transition toward Basel III; strengthen consolidated supervision and risk-based supervision; integrate systemic risk into regulatory frameworks; strengthen supervision of non-banks; fortify bank resolution frameworks.
  - AML/CFT: strengthen and proactively enforce anti–money laundering/combating the financing of terrorism frameworks to mitigate risks from potential withdrawal of correspondent banks.
  - Regional cooperation: enhance AML/CFT cooperation and cross-border prudential supervision to build resilience of CAPDR financial systems to global and regional shocks.

*International Monetary Fund | April 2017*

### 2. LATIN AMERICA AND THE CARIBBEAN: sETTING THE COURsE FOR HIGHER GROWTH

### 2. LATIN AMERICA AND THE CARIBBEAN: sETTING THE COURsE FOR HIGHER GROWTH

### Structural reforms and long-term growth
- Long-term growth would be supported by:
  - improving the business environment, including through better security;
  - prioritizing spending on education, health, and infrastructure;
  - removing barriers to regional market integration;
  - strengthening the legal basis for financial deepening and inclusion.

### The Caribbean: Developments and Outlook
- Prospects for the Caribbean region are improving, with growth in both tourism-dependent economies and commodity exporters projected to be in the 1½ –3 percent range for 2017 and 2018.
- Tourism developments:
  - Several countries registered strong growth in tourism in 2016, notably Belize, Grenada, Jamaica, and St. Vincent and the Grenadines, from higher arrivals in both stopover and cruise segments.
  - The tourism upswing is expected to continue in 2017, supported by higher economic growth in the United States.
  - Barbados is an exception, being heavily dependent on tourism from the United Kingdom.
  - The Zika epidemic appears to have had limited impact on the tourism industry in 2016 and early 2017.
- Commodity exporters:
  - Commodity exporters, including Trinidad and Tobago and Suriname, were hit hard by much lower commodity prices in 2015 and 2016, and are projected to return to modest positive growth in 2017 and 2018, benefiting from somewhat higher (though still low) commodity prices.
  - Higher commodity prices should help improve external positions in 2017 and 2018.
- External risks:
  - The expected shift in the U.S. policy mix (more expansionary fiscal policy and tighter monetary policy, relative to earlier projections) is likely to have limited impact on the Caribbean through the interest rate channel, given limited capital flows and financial integration with the United States.
  - Appreciation of the U.S. dollar could negatively affect competitiveness, especially in countries with currencies tied to the U.S. dollar.
  - Other downside risks include further loss of correspondent banking relationships.

### The Caribbean: Policy priorities
- Public sector debt:
  - Public sector debt remains a major vulnerability for the region.
  - In several tourism-dependent economies, the public-debt-to-GDP ratio is now declining from very high levels.
  - Grenada, Jamaica, and St. Kitts and Nevis are engaged in multiyear fiscal consolidation efforts; continued fiscal prudence is necessary to gradually reduce debt-to-GDP ratios and build buffers.
  - In Barbados and Belize, public debt has continued to increase; fiscal consolidation combined with structural reform is needed to put public debt on a clear downward trajectory.
  - Belize: the debt restructuring agreed upon with external bondholders in March 2017—the third such operation in a span of just 10 years—provides meaningful cash flow relief but will not put public debt on a sustainable path unless supported by an ambitious economic reform program.
  - In commodity-exporting countries (Trinidad and Tobago and Suriname), the decline in commodity prices exposed fiscal weaknesses, led to large deficits, and contributed to a rapid increase in public debt; tighter fiscal policies in the context of medium-term macroeconomic adjustment are needed to reestablish a sustainable fiscal path and ensure debt sustainability.
- Financial sector resilience:
  - In some countries the financial sector remains burdened by poor asset quality, low profitability, and insufficient capital, limiting banks’ ability to support recovery.
  - In the Eastern Caribbean Currency Union (ECCU), authorities have taken steps to enhance banking-sector resilience, including passing key legislation and resolving problem banks; further reforms are required, including strengthening supervision of banks and nonbank financial institutions and increasing capital adequacy of indigenous banks.
- Structural reforms to improve long-term prospects:
  - Better align wage setting with productivity.
  - Reduce energy and business financing costs.
  - Improve education and mitigate skills mismatches.
  - Accelerate contract dispute resolution processes.
  - Reform insolvency regimes.

### Box 2.1 — Exposures to the United States: channels and illustrative spillovers
- Trade linkages:
  - The United States accounts for close to 80 percent of total goods exports from Canada and Mexico (about a quarter of their GDPs) and 40 percent of exports from Central America.
  - Central America’s indirect exposure to the United States through intraregional trade is about 20 percent of total exports.
  - Apart from commodity-based economies (Guyana, Suriname, and Trinidad and Tobago), goods exports from the Caribbean to the United States are modest; the main exposure is through the tourism sector.
  - Region’s exports to the United States, particularly in Mexico, are highly concentrated in manufactured goods.
  - Renegotiation or unilateral imposition of tariffs (to WTO most-favored nation levels) would initially worsen trade balances and reduce domestic demand and real GDP growth; over time trade balances could improve as imports decline and currencies depreciate.
- Remittances and immigration linkages:
  - Remittance flows from migrant workers in the United States are significant, principally to Northern Triangle countries in Central America.
  - The United States is the main source of remittance flows to Mexico, though the share of remittances in Mexico’s domestic GDP is much lower.
  - South America has low exposure to U.S. remittances overall; remittances originate from a wider range of countries.
  - In the Caribbean, remittance flows from the United States to Belize, Guyana, and Jamaica are sizeable.
  - In 2015, immigrants from Central America residing in the United States represented close to 10 percent of the subcontinent’s entire population (compared with less than 1 percent in South America).
  - In the Caribbean, the migrant population living in the United States is substantial relative to the population of the countries of origin (about 23 percent).
  - An intensification of deportations would likely reduce per capita GDP in Central America, Panama, and the Dominican Republic, and to a lesser extent Mexico; impacts depend on skill composition, labor market integration, wage differentials, and effects on confidence and country risk premia.
- Foreign Direct Investment linkages:
  - U.S. FDI is concentrated in Costa Rica and the NAFTA partners: U.S. FDI represents 60 percent in Costa Rica and 50 percent in the NAFTA partners, respectively (representing 26 percent and 18 percent of GDP).
  - El Salvador and Honduras: stock of U.S. FDI represents 9 percent and 11 percent of GDP, respectively.
  - In South America exposure to U.S. FDI is lower, except for Brazil and Chile. U.S. FDI in the Caribbean is modest.
- Illustrative model simulations of U.S. policy shift (debt-financed fiscal expansion scenarios):
  - If fiscal measures are highly productive:
    - U.S. GDP rises notably, peaking at 1 percent above the no-policy-change case in 2021.
    - Higher U.S. demand triggers tighter U.S. monetary policy and a real appreciation of the U.S. dollar.
    - Short-term positive spillovers to main trading partners are possible; countries with currencies pegged to the U.S. dollar would suffer effective appreciation.
  - If fiscal measures are not productive and financial markets deliver faster normalization of the U.S. term premium:
    - U.S. GDP rises by roughly ½ percent by 2021.
    - Spillovers to the region are mostly negative, with tighter global financial conditions offsetting higher partner demand.
  - In the long term, under both scenarios spillovers to the region are small but negative because the permanently higher level of U.S. public debt raises global real interest rates and the cost of capital, more than offsetting increased returns to private capital from higher U.S. demand.
  - Negative spillovers of unproductive U.S. fiscal measures coupled with a higher U.S. term premium are larger for the most financially integrated economies in the region.
- Modeling note:
  - Structural simulations were estimated using the IMF’s Flexible System of Global Models (FSGM), an annual, multiregional general equilibrium model.

### Population aging and long-term fiscal pressures
- Demographics:
  - Latin America has enjoyed a significant demographic dividend for the past 65 years, experiencing the world’s steepest decline in the total dependency ratio (population younger than age 15 and older than age 64 as a ratio of population ages 15–64).
  - Latin America is approaching a turning point to rapid aging; the United Nations predicts that by 2080 it will overtake advanced economies as the region with the highest share of elderly population.
- Pension and health care systems:
  - Average public pension and health care spending in Latin America is lower than in high-income countries and emerging Europe, but already twice as high as in emerging Asia.
  - Most Latin American countries have defined-benefit pay-as-you-go pension systems that are relatively generous and typically underfunded.
  - Defined-contribution systems introduced in the 1990s are generating replacement rates that may be below socially acceptable levels and may require public cost of noncontributory pension schemes to alleviate poverty.
  - Coverage by contributory pension and health care systems is relatively limited because of high informality; minimum noncontributory pensions and health insurance have increased coverage but may have negative implications for fiscal sustainability.
- Projected fiscal costs of aging (stylized cross-country exercise across 18 Latin American countries):
  - Average pension spending, currently at 3½ percent of GDP, is projected to increase to 4 percent and 7 percent of GDP in 2030 and 2065, respectively.
  - A high of 30 percent of GDP is projected for Brazil in 2065 under the no-reform scenario.
  - Long-term fiscal gaps are measured as the present discounted value (PDV) of the increase in spending generated by aging (exercise based on United Nations demographic projections and IMF methodologies).

*Italic line: Source: wreo0517-chp2 - 2. LATIN AMERICA AND THE CARIBBEAN: sETTING THE COURsE FOR HIGHER GROWTH*

### Box 2.2. Long-Term Fiscal Gaps

### Box 2.2. Long-Term Fiscal Gaps

### Projected increases in pension spending
- Average increase in pension spending between 2015 and 2030: about 5 percent of GDP.
- Average pension spending projected to "creep up to" 50 percent of GDP by 2065.
- Country extreme: Brazil projected present discounted value of pension spending increase up to 2065 of 365 percent of GDP (Figure 2.2.6).
- Projections differentiate between funded and unfunded components: countries with a funded component would experience a smaller increase in pension spending—and even a decline in some cases—but trade-offs exist between fiscal sustainability and social sustainability because average replacement rates tend to be lower than regional and international benchmarks in countries that have made the transition to defined-contribution systems.

### Projected increases in health care spending and uncertainty drivers
- Regional average public health care expenditure projections:
  - Expected to increase to 6 percent of GDP by 2030.
  - Expected to increase to 10½ percent of GDP by 2065 (Figure 2.2.5).
- Present discounted value (PDV) of projected health spending increases:
  - Average PDV up to 2030: about 10 percent of GDP.
  - Average PDV up to 2065: almost 100 percent of GDP (Figure 2.2.7).
- Key driver of uncertainty: wide range of possible outcomes regarding future costs of technological improvements.
- Assumption noted for excess cost growth: Based on historical trends in advanced economies, technological improvements could result in 1 percent annual excess cost growth in health care expenditure.

### Present discounted value methodology
- The present discounted value estimates are calculated assuming an interest rate growth differential of 1 percent (based on Escolano 2010 and Turner and Spinelli 2012) (Figures 2.2.6 and 2.2.7).

### Policy recommendations for pensions
- Carefully designed reforms will be needed to ensure financial sustainability while providing socially acceptable levels of coverage and adequacy.
- Policies to delay the impact of aging:
  - Promote labor participation—particularly by females and the elderly—and formality.
- Parametric reforms recommended for both unfunded and funded schemes:
  - Increases in the retirement age in line with increases in life expectancy.
  - A combination of increases in contributions and reductions in benefits, balanced with concerns about incentives for informality.
  - Higher contribution rates will also be needed to ensure pension adequacy in countries with defined-contribution systems.

### Policy recommendations for health care spending
- Emphasis on budget controls and efficiency-enhancing measures to contain spending while preserving health outcomes and ensuring equitable access to basic health care services.
- Priority sequencing depending on country context:
  - Countries aiming to expand public coverage should first focus on providing essential services, with greater emphasis on preventive and primary care, infectious disease control, and better care in rural areas.
  - Where informality is low and revenue administration is of high quality, social-insurance-based systems could be expanded.
  - Where informality is high, tax-financed provision of universal basic health care may be the best starting point.
- For countries with more extensive health care coverage, put greater emphasis on budget controls through a mix of instruments such as:
  1. Budget caps with central oversight,
  2. Public management and coordination of services,
  3. Local and state government involvement in key resource decisions,
  4. Better use of market mechanisms,
  5. Increasing the share of costs borne by patients,
  6. Restricting the supply of health inputs and outputs, or imposing direct price controls (Clements, Coady, and Gupta 2012).

*International Monetary Fund | April 2017 — Box 2.2 (Long-Term Fiscal Gaps) from Regional Economic Outlook: Western Hemisphere*

### Annex Table 2.2. Western Hemisphere: Main Fiscal Indicators

### Annex Table 2.2. Western Hemisphere: Main Fiscal Indicators

### North America
- Canada
  - Public Sector Primary Expenditure (Percent of GDP): 35.5, 37.2, 37.8, 38.3, 38.1
  - Public Sector Primary Balance (Percent of GDP): 0.2, 20.5, 21.2, 21.7, 21.6
  - Public Sector Gross Debt (Percent of GDP): 85.4, 91.6, 92.3, 91.2, 89.8
- Mexico
  - Public Sector Primary Expenditure (Percent of GDP): 25.3, 24.2, 23.0, 21.2, 20.2
  - Public Sector Primary Balance (Percent of GDP): 22.0, 21.1, 0.2, 0.3, 1.1
  - Public Sector Gross Debt (Percent of GDP): 49.5, 53.7, 58.1, 57.2, 56.8
- United States
  - Public Sector Primary Expenditure (Percent of GDP): 33.1, 32.9, 32.7, 32.4, 32.0
  - Public Sector Primary Balance (Percent of GDP): 22.0, 21.6, 22.3, 21.9, 22.2
  - Public Sector Gross Debt (Percent of GDP): 105.2, 105.6, 107.4, 108.3, 108.9
- Puerto Rico
  - Public Sector Primary Expenditure (Percent of GDP): 20.5, 19.6, 19.8, 20.4, 21.0
  - Public Sector Primary Balance (Percent of GDP): 21.0, 20.1, 20.1
  - Public Sector Gross Debt (Percent of GDP): 0.8, 0.2, 54.7, 53.0, 51.4, 53.5, 56.3

### South America
- Argentina
  - Public Sector Primary Expenditure (Percent of GDP): 35.7, 38.3, 38.7, 37.0, 35.7
  - Public Sector Primary Balance (Percent of GDP): 23.2, 24.4, 25.0, 24.8, 23.6
  - Public Sector Gross Debt (Percent of GDP): 43.6, 52.0, 51.3, 49.4, 49.2
- Bolivia
  - Public Sector Primary Expenditure (Percent of GDP): 42.3, 43.6, 37.9, 37.0, 36.2
  - Public Sector Primary Balance (Percent of GDP): 22.4, 25.9, 25.5, 25.2, 24.2
  - Public Sector Gross Debt (Percent of GDP): 37.0, 40.6, 42.1, 42.4, 43.3
- Brazil
  - Public Sector Primary Expenditure (Percent of GDP): 32.5, 33.2, 32.9, 32.7, 32.0
  - Public Sector Primary Balance (Percent of GDP): 20.6, 21.9, 22.5, 22.3, 21.1
  - Public Sector Gross Debt (Percent of GDP): 62.3, 72.5, 78.3, 81.2, 82.7
- Chile
  - Public Sector Primary Expenditure (Percent of GDP): 23.1, 24.4, 25.4, 25.5, 25.8
  - Public Sector Primary Balance (Percent of GDP): 21.3, 21.9, 22.6, 22.8, 22.0
  - Public Sector Gross Debt (Percent of GDP): 14.9, 17.4, 21.2, 24.8, 27.4
- Colombia
  - Public Sector Primary Expenditure (Percent of GDP): 26.9, 26.6, 24.7, 24.6, 24.3
  - Public Sector Primary Balance (Percent of GDP): 0.3, 20.7, 20.3
  - Public Sector Gross Debt (Percent of GDP): 0.2, 0.5, 44.2, 50.7, 47.6, 45.7, 45.3
- Ecuador
  - Public Sector Primary Expenditure (Percent of GDP): 42.4, 37.4, 35.8, 33.6, 31.4
  - Public Sector Primary Balance (Percent of GDP): 24.2, 23.9, 25.0, 20.4
  - Public Sector Gross Debt (Percent of GDP): 1.6, 19.7, 22.6, 29.2, 31.5, 32.3
- Guyana
  - Public Sector Primary Expenditure (Percent of GDP): 30.2, 28.4, 32.1, 33.4, 33.4
  - Public Sector Primary Balance (Percent of GDP): 24.4, 20.2, 23.4, 24.4, 24.1
  - Public Sector Gross Debt (Percent of GDP): 51.2, 47.9, 48.3, 53.9, 57.4
- Paraguay
  - Public Sector Primary Expenditure (Percent of GDP): 22.7, 24.3, 23.1, 23.4, 23.0
  - Public Sector Primary Balance (Percent of GDP): 0.1, 20.3
  - Public Sector Gross Debt (Percent of GDP): 0.1, 0.2, 0.6, 19.7, 24.0, 24.7, 25.9, 26.5
- Peru
  - Public Sector Primary Expenditure (Percent of GDP): 21.5, 21.2, 20.0, 20.5, 20.4
  - Public Sector Primary Balance (Percent of GDP): 0.7, 21.3, 21.4, 21.2, 20.9
  - Public Sector Gross Debt (Percent of GDP): 20.7, 24.0, 24.8, 25.9, 26.6
- Suriname
  - Public Sector Primary Expenditure (Percent of GDP): 31.1, 29.9, 19.5, 19.0, 20.5
  - Public Sector Primary Balance (Percent of GDP): 27.0, 27.8, 24.4, 22.0
  - Public Sector Gross Debt (Percent of GDP): 0.3, 29.0, 45.7, 64.6, 66.3, 59.0
- Uruguay
  - Public Sector Primary Expenditure (Percent of GDP): 29.5, 28.7, 29.3, 29.3, 29.0
  - Public Sector Primary Balance (Percent of GDP): 20.6, 0.0, 20.7, 20.3
  - Public Sector Gross Debt (Percent of GDP): 0.2, 61.4, 64.3, 60.9, 62.9, 63.9
- Venezuela
  - Public Sector Primary Expenditure (Percent of GDP): 43.3, 35.1, 28.4, 28.4, 28.4
  - Public Sector Primary Balance (Percent of GDP): 213.0, 215.9, 213.6, 213.9, 215.6
  - Public Sector Gross Debt (Percent of GDP): 63.5, 32.1, 28.2, 17.3, 16.6

### Central America
- Belize
  - Public Sector Primary Expenditure (Percent of GDP): 28.9, 33.7, 31.0, 29.8, 29.7
  - Public Sector Primary Balance (Percent of GDP): 0.3, 24.7, 20.6
  - Public Sector Gross Debt (Percent of GDP): 2.6, 2.0, 77.7, 82.6, 98.6, 89.8, 87.0
- Costa Rica
  - Public Sector Primary Expenditure (Percent of GDP): 16.3, 16.6, 16.5, 16.2, 16.3
  - Public Sector Primary Balance (Percent of GDP): 23.0, 23.0, 22.3, 21.8, 21.7
  - Public Sector Gross Debt (Percent of GDP): 38.3, 40.8, 43.7, 46.4, 46.7, 48.8
- El Salvador
  - Public Sector Primary Expenditure (Percent of GDP): 19.0, 18.9, 18.5, 18.7, 19.1
  - Public Sector Primary Balance (Percent of GDP): 21.0, 20.7
  - Public Sector Gross Debt (Percent of GDP): 0.3, 0.6, 0.2, 57.1, 58.7, 59.9, 61.1, 62.2
- Guatemala
  - Public Sector Primary Expenditure (Percent of GDP): 11.9, 10.7, 10.5, 11.5, 11.8
  - Public Sector Primary Balance (Percent of GDP): 20.4, 0.1, 0.4
  - Public Sector Gross Debt (Percent of GDP): 20.3, 20.4, 24.3, 24.2, 25.3, 25.9, 26.4
- Honduras
  - Public Sector Primary Expenditure (Percent of GDP): 26.3, 25.0, 25.6, 25.3, 25.1
  - Public Sector Primary Balance (Percent of GDP): 23.8, 20.3, 20.4, 20.5
  - Public Sector Gross Debt (Percent of GDP): 0.1, 45.9, 46.2, 45.4, 45.9, 46.7
- Nicaragua
  - Public Sector Primary Expenditure (Percent of GDP): 24.0, 24.7, 26.4, 26.3, 26.1
  - Public Sector Primary Balance (Percent of GDP): 20.8, 20.9, 21.0, 20.8, 20.7
  - Public Sector Gross Debt (Percent of GDP): 29.3, 29.4, 31.1, 32.0, 32.7
- Panama
  - Public Sector Primary Expenditure (Percent of GDP): 21.9, 21.0, 21.1, 21.4, 20.8
  - Public Sector Primary Balance (Percent of GDP): 21.6, 20.7, 20.6, 20.6, 20.2
  - Public Sector Gross Debt (Percent of GDP): 0.2, 37.1, 38.8, 39.2, 38.9, 37.5

### The Caribbean (selected)
- Antigua and Barbuda
  - Public Sector Primary Expenditure (Percent of GDP): 19.9, 23.9, 22.0, 19.8, 18.6
  - Public Sector Primary Balance (Percent of GDP): 20.2, 20.1
  - Public Sector Gross Debt (Percent of GDP): 3.6, 3.0, 3.2, 102.7, 99.1, 92.7, 90.1, 87.1
- The Bahamas
  - Public Sector Primary Expenditure (Percent of GDP): 20.0, 21.2, 22.1, 22.1, 21.7
  - Public Sector Primary Balance (Percent of GDP): 23.1, 21.7, 20.4, 20.4
  - Public Sector Gross Debt (Percent of GDP): 0.7, 60.2, 64.5, 66.9, 69.3, 69.6
- Barbados
  - Public Sector Primary Expenditure (Percent of GDP): 38.3, 39.4, 38.1, 37.9, 37.8
  - Public Sector Primary Balance (Percent of GDP): 22.5, 21.8, 21.2, 20.2
  - Public Sector Gross Debt (Percent of GDP): 0.4, 100.0, 106.7, 107.9, 107.4, 108.7
- Dominica
  - Public Sector Primary Expenditure (Percent of GDP): 30.6, 32.8, 33.5, 33.1, 31.2
  - Public Sector Primary Balance (Percent of GDP): 23.1
  - Public Sector Gross Debt (Percent of GDP): 1.1, 4.6, 1.6, 1.2, 82.2, 83.0, 81.0, 81.4
- Dominican Republic
  - Public Sector Primary Expenditure (Percent of GDP): 15.3, 15.1, 14.7, 15.2, 14.8
  - Public Sector Primary Balance (Percent of GDP): 20.5, 2.4
  - Public Sector Gross Debt (Percent of GDP): 20.2, 20.7, 20.4, 33.7, 33.0, 34.4, 36.0, 37.3
- Jamaica
  - Public Sector Primary Expenditure (Percent of GDP): 18.7, 19.8, 20.9, 21.6, 20.2
  - Public Sector Primary Balance (Percent of GDP): 7.5, 7.1, 7.0, 7.0, 7.0
  - Public Sector Gross Debt (Percent of GDP): 137.6, 120.2, 115.2, 108.6, 102.7
- Trinidad and Tobago
  - Public Sector Primary Expenditure (Percent of GDP): 36.8, 38.5, 35.4, 37.2, 35.3
  - Public Sector Primary Balance (Percent of GDP): 22.1, 24.3, 211.9, 210.1, 28.0
  - Public Sector Gross Debt (Percent of GDP): 41.7, 49.5, 61.0, 65.8, 75.7

### Memorandum and Aggregates
- Latin America and the Caribbean (regional aggregates)
  - Public Sector Primary Expenditure (Percent of GDP): 30.0, 29.8, 28.8, 28.9, 28.1
  - Public Sector Primary Balance (Percent of GDP): 21.6, 22.8, 22.6, 22.3, 21.5
  - Public Sector Gross Debt (Percent of GDP): 50.9, 54.1, 57.3, 59.0, 59.6
- South America (simple average)
  - Public Sector Primary Expenditure (Percent of GDP): 32.0, 31.3, 29.6, 29.2, 28.6
  - Public Sector Primary Balance (Percent of GDP): 22.4, 23.6, 23.6, 23.0, 22.5
  - Public Sector Gross Debt (Percent of GDP): 38.7, 40.0, 40.8, 40.7, 41.4
- CAPDR (simple average)
  - Public Sector Primary Expenditure (Percent of GDP): 19.3, 18.9, 19.0, 19.2, 19.1
  - Public Sector Primary Balance (Percent of GDP): 21.6, 20.4, 20.6, 20.5, 20.4
  - Public Sector Gross Debt (Percent of GDP): 38.0, 38.7, 39.9, 40.9, 41.7
- Caribbean tourism-dependent (simple average)
  - Public Sector Primary Expenditure (Percent of GDP): 26.5, 26.9, 26.9, 26.6, 25.9
  - Public Sector Primary Balance (Percent of GDP): 0.9, 1.9, 2.8, 2.0, 2.3
  - Public Sector Gross Debt (Percent of GDP): 91.5, 88.3, 86.2, 83.7, 82.0
- Commodity exporters (simple average)
  - Public Sector Primary Expenditure (Percent of GDP): 31.7, 32.6, 29.5, 29.8, 29.7
  - Public Sector Primary Balance (Percent of GDP): 23.3, 24.3, 25.1, 23.5, 22.4
  - Public Sector Gross Debt (Percent of GDP): 49.9, 56.4, 68.1, 69.0, 69.8
- Eastern Caribbean Currency Union (ECCU members)
  - Public Sector Primary Expenditure (Percent of GDP): 26.6, 27.5, 27.3, 25.3, 24.6
  - Public Sector Primary Balance (Percent of GDP): 1.4, 1.1, 2.4, 3.4, 3.4
  - Public Sector Gross Debt (Percent of GDP): 83.3, 81.3, 80.4, 76.4, 72.9

*sources: IMF, World Economic Outlook database; and IMF staff calculations and projections.*

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_Source: https://www.imf.org/-/media/files/publications/reo/whd/2017/may/wreo0517-chp2.pdf_