Central America: Seeking Resilient Growth and Social Cohesion in the Aftermath of Shocks

IMF News, July 5, 2022

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Authors: Metodij Hadzi-Vaskov, Joyce Wong July
Published: July 5, 2022

Executive summary

Policymakers in Central America, Panama and the Dominican Republic (CAPDR) have a unique opportunity to implement reforms to steer the region onto a path of more resilient and inclusive growth while addressing citizens’ crucial needs.
Since the onset of the pandemic, CAPDR economies were among the best performers in Latin America; by 2021, all except Panama had surpassed pre-pandemic output levels.
The region faces multiple, overlapping shocks—COVID-19, hurricanes Eta and Iota, and global secondary effects from the war in Ukraine—creating unusually high uncertainty and raising risks to the nascent recovery.

Fragile recovery — observations and drivers

Recovery performance:
- By 2021, all CAPDR economies except Panama had surpassed pre-pandemic output levels.
Policy response elements that supported recovery:
- Historical cuts to monetary policy rates to help support economic activity.
- Sharp expansion of social support and health spending in many cases unprecedented.
External contributors to the recovery:
- US recovery.
- Region’s relatively high openness.
- Reliance on remittances.
Recent shocks and impacts:
- Hurricanes Eta and Iota highlighted vulnerability to climate change; affected countries responded with swift support and began reconstruction.
- As recovery was taking hold in 2022, the worldwide ramifications from the war in Ukraine affected the region most concretely through higher fuel and food prices; authorities responded with spending and tax measures to protect the nascent recovery and support the most vulnerable.
Projection-level assessment:
- These multiple shocks are projected to leave scars on the region’s level of GDP.
- The negative impact on GDP is less than in 2021 projections, but it is larger than in advanced economies.

A test of resilience — risks and constraints

Key adverse global factors that could test resilience:
- Further volatility of commodity prices amid the region’s high reliance on fuel imports.
- Weaker growth in trading partners, including the US.
- Tighter financing conditions due to faster increases in global and domestic interest rates.
- Further moderation of remittance inflows, a lifeline for some economies.
Policy space constraints:
- Policymakers have little room for maneuvering given higher debt, among other factors.
Overall outlook:
- The region’s economic prospects are now subject to an unusually high degree of uncertainty; a potential confluence of adverse global factors could once again put economies’ resilience to the test.

Opportunity for a new, stronger beginning — policy priorities and recommendations

Core objective:
- Renew focus on reforms to improve social conditions and reverse deterioration of pre-existing problems—high and persistent unemployment, poverty, and inequality—that have fueled migration.
Priority policy areas and actions:
- Create employment opportunities by increasing flexibility in labor markets, especially for women and youth who were most affected by the crisis.
- Invest in infrastructure that is resilient to climate events.
- Advance the digitalization agenda across both the public and private sectors to make the region more competitive.
Timing and implementation note:
- The process will take time, making it important to put in place strong domestic policies to improve resilience before the next shock arrives.

Authors: Metodij Hadzi-Vaskov (Regional Resident Representative for Central America, Panama and the Dominican Republic) and Joyce Wong (Mission Chief for Honduras); July 5, 2022.