Panama’s Story of Convergence

IMF News, November 18, 2021

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Convergence is measured as the ratio of per capita GDP of Latin American countries to that of the United States (US).
The average convergence ratio for Latin America in 2019 (before the pandemic) was around 25 percent (of per capita GDP in the US).
Panama’s convergence ratio in 2019 was the highest in Latin America at twice the regional average.
The analysis plots 2019 convergence ratios against change over time (“convergence velocity”) to indicate movement toward US living standards (blueshift) or away from them (redshift).

The average convergence velocity for Latin America is a meager 0.5 percentage points per decade, similar to that of El Salvador.
At that speed, it will take centuries for Latin American countries to reach US living standards.
About half the countries in Latin America had a negative convergence velocity, with Venezuela showing the strongest redshift.
Some countries displaying a blueshift include Panama, Chile, the Dominican Republic, and to a lesser extent, Uruguay, Costa Rica, and Peru.
Most Latin American countries are near the green area (around the y-axis), implying limited or no improvement in convergence.

Panama displayed the highest convergence velocity at about 8½ percentage points per decade over the last quarter of a century — a whopping 17 times faster than the regional average.
Drivers of Panama’s impressive growth over the past three decades:
- Increased investment leading to rapid capital accumulation.
- Geographic location, trade openness, world-class ports and airport, logistics operations, and financial system depth.
- Panama’s Colón Free Zone (second largest in the world after Hong Kong SAR).
- Expansion and diversification of productive capacity, including constructing one of the world’s largest copper mines and doubling the Panama Canal’s capacity for Neopanamax container ships.
- Strong macroeconomic policies and performance supported by uninterrupted financial arrangements with the IMF for a decade.

IMF staff project a 5 percent yearly growth rate for Panama once the pandemic recedes — more than three times the US growth rate.
At this pace, Panama could catch up with the US by 2056.
The projected potential growth of 5 percent comes from a standard exercise of growth accounting:
- The share of physical capital will continue to be the main driver of growth, although its contribution is likely to decline.
- Contributions of labor and human capital (specialized labor) are likely to remain unchanged in the future.
- The contribution of technological innovation (total factor productivity - TFP) is expected to become less negative.
- The negative contribution of TFP growth during 2010-19 was due to long-gestation projects (Panama Canal expansion and the copper mine) that required high levels of investment (each project cost about 10 percent of GDP) but did not generate output while construction was ongoing.
Growth could be even higher than 5 percent if structural measures boost productivity and lead to a positive contribution of TFP growth.

Structural policies Panama could take to boost productivity and ensure healthy convergence:
- Advancing the quality of education to improve the effectiveness of the labor force.
- Improving the business environment to continue attracting high levels of investment.
- Facilitating the absorption of foreign talent to increase human capital.
- Fostering innovation to adopt better technologies.
- Reducing institutional vulnerabilities to enhance the overall functioning of the economy.
Near-term and long-term priorities:
- Mitigate the effects of the pandemic in the near term.
- Increase productivity and diversify the economy in the long run.
- Foster innovation together with support for higher spending on education, health, and infrastructure.

Convergence is not guaranteed; the road ahead for Panama and the rest of Latin America remains long.
To see more blueshifting, Panama and regional peers must increase productivity, diversify their economies, and implement the structural and social policies described above.

By Paola Aliperti, Julian Chow, Marina Rousset and Alejandro Santos IMF Western Hemisphere Department — November 18, 2021.