Latin America Faces Unusually High Risks

IMF Blog, April 26, 2022

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The War in Ukraine, higher inflation, tighter financial conditions, economic decelerations of key trading partners, and social discontent may dim growth prospects.
The war in Ukraine is raising uncertainty about the outlook for Latin America and the Caribbean.
A possible escalation of the war could eventually lead to global financial distress and tighter financial conditions for the region.
The ongoing tightening of monetary policy in the United States, as the Federal Reserve takes a more hawkish stance, could eventually affect global financial conditions.
Higher global and domestic financing costs can accelerate capital outflows and represent a challenge for the region, given large public and external financing needs in some countries and the limited resources to finance investment in the region.
Any greater growth deceleration in China, because of the pandemic or other reasons, could also have an impact on key export prices and trade in the region.

The region’s recovery was losing momentum even before the war; after a sharp rebound last year, growth is returning to its pre-pandemic trend rate.
Regional growth forecast: slowing to 2.5 percent for 2022.
Country forecasts:
- Brazil: expansion will slow to 0.8 percent this year following last year’s growth of 4.6 percent.
- Mexico: will decelerate to 2 percent.
- Colombia: likely to post growth at 5.8 percent.
- Chile: growth will be 1.5 percent.
- Peru: growth will be 3 percent.
Exports and investment are resuming their role as main growth drivers, but central banks have had to tighten monetary policy to combat an increase in inflation.

Higher inflation is affecting real incomes, especially of the most vulnerable, and increasing basic food and energy prices.
Close to 40 percent of countries have introduced new measures, mostly on the tax side, with an estimated average fiscal cost equal to 0.3 percent of gross domestic product for this year.
Government responses since the war began have included tax and import tariff reductions, price caps, or social transfers.

Provide targeted and temporary support to low-income and vulnerable households, while allowing domestic prices to adjust to international prices; this approach:
- Helps vulnerable groups and contains fiscal costs.
- Incentivizes production and restrains consumption.
In countries with well-developed social safety nets, temporarily expand access to cover larger groups of the population.
Where safety nets are not well developed, implement temporary mechanisms to smooth the pass-through of international price surges to domestic prices, recognizing trade-offs:
- This strategy protects households from commodity price volatility.
- It may have a significant fiscal cost while distorting price incentives for consumers and producers.
Countries benefiting from improvements in their terms of trade may find it easier to finance new measures, but any additional fiscal space should be used wisely given unusually high global risks and rising costs for government financing.

Public debt-to-GDP ratios are above pre-pandemic levels and borrowing costs are rising amid higher local and global interest rates.
Countries need to ensure the sustainability of public finances to preserve credibility and rebuild fiscal space, while protecting the most vulnerable.
Recommended strategy: inclusive consolidation that:
- Protects spending on social programs, health, education, and public investment.
- Implements tax reforms (such as strengthening personal income taxes) that will bolster growth in an inclusive manner and help maintain fiscal sustainability.

Source: IMF Blog post “Latin America Faces Unusually High Risks,” April 26, 2022.