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Transcript of a press briefing with Mr. Anoop Singh, Director of the IMF's Western Hemisphere Department on the Regional Economic Outlook for the Western Hemisphere
November 8, 2007
Also present were:
Ms. Caroline Atkinson, Deputy Director of the Western Hemisphere Department
Mr. Jeromin Zettelmeyer, Assistant to the Director, Western Hemisphere Department
MR. ANOOP SINGH: Thank you all for coming. I'll just say a few words and then maybe we can have a discussion in areas that may be of more interest to you.
In this edition of the Regional Outlook, we're looking in particular at two issues. First, what is different of the current expansion from previous expansions, and here I'm focusing on Latin America to begin with. And, number two, we're looking at the sustainability of the current expansion for Latin America. The two are very important issues, and they're interrelated. We need to see how different this is from previous expansions, in part because previous expansions have been prematurely terminated, and given that we are now already in almost the fifth year of expansion in Latin America, it only goes to a timeframe that previous expansions were beginning to be terminated. So the focus is to see how sustainable is the expansion and how long can it continue, and what does it depend upon.
So that's the basic context of the paper on Latin America and the Caribbean. And the empirical work that we have presented and done for this edition of the Outlook is geared towards these questions.
On the first issue of what is different, we have reported on this previously, and so I'll be very short on that aspect. What is different this time, as we've said in the last two or three editions that seems to be the case, is that macroeconomic fundamentals are stronger. We have fiscal and current account surpluses, generally depending how you measure it, and we have inflation generally low, and in part coming down. This you have seen from our previous reports.
So the more interesting issue, therefore, is the second issue, and that is the one about sustainability. On sustainability, there are two basic results. The first result is that for small differences in the external environment, the region is or has become quite resilient because of these improved fundamentals—and I'll come back to those in a moment.
And so with having a base case scenario in which the U.S. projection for growth, you might argue, is significantly less than it was a few months ago—for next year it's 1.9 percent instead of 2.7-2.8 it was six months ago. But we find that the effect on Latin America of this reduction in this key external condition—U.S. growth, that is manageable, just as the recent turbulence that we've seen the last few months has also been manageable.
So our work tells us that for small shocks of the sort that are contained in our baseline prediction, the region has become quite resilient. But then if we relaxed or alter the baseline to have larger shocks to key external determinants of Latin America growth, such as, again, the U.S. prediction, spreads in capital markets, remittances—these kind of shocks, and we have larger shocks, we find that for larger shocks, Latin America remains quite highly correlated with the external environment.
So as we run the model through, and if we have a combined shock affecting the U.S. economy which lowers the growth direction below what we have
and further tightening of capital markets, as could happen from the current situation, we find that the projection for Latin America could fall by as much as 2 percentage points which means it could fall as low as 2¼ instead of 4¼ , which is our projection for next year.
So the good news is that the expansion continues. The good news is that social and poverty conditions have been improving. The good news is the region has improved fundamentals, and the good news is that all of the above makes for somewhat higher resilience in the countries. But then we have the finding that as you relax and have larger shocks, you find Latin America is still quite dependent on the external environment. That is a key finding of this paper.
So then we look at what are the fragilities that need to be guarded against so as to become more resilient to these shocks were they to arise, and there are two basic fragilities we see in the future, or we potentially see.
The first—no surprise—has to do with fiscal policy. Fiscal policy has been a source of strength in the region, and we have looked at that strength in structural terms as well. So we do see in the last few years that the improvements that have taken place in revenues and in primary surpluses. A lot of that is more permanent or more structural than we would have perhaps thought 10 years ago. However, the fragility arises because in many countries across the region in Latin America we see a primary spending rising, and this confirms a trend that we have detected in our outlook of last year and this spring. And if we were to project that trends will continue, we will actually find that the surpluses will get eroded.
Now, this is important for more than one reasons, because although I said that in structural terms there is strength in the fiscal balances, it is also the case this trend is not as much as you would see from the actual surpluses. So, generally, the structural surplus has improved, but is not as high as the actual surplus. And on current trends spending, and the current trend is quite rapid, it's in some countries 8-10 percent on average—and that's in real terms—these surpluses could turn to deficits in the coming years. So there is a need therefore to restrain the spending and, at minimum, ensure that the spending is being directed to well-targeted social or infrastructure programs. There is the first yellow flag.
The second potential yellow flag is credit, and you're aware that in many emerging market economies around the world, not just in Latin America, we're seeing a credit boom. This is a more general phenomenon that is reported on in the World Economic Outlook of last month. And certainly credit growth rates in the largest Latin American countries have been up to 30, 35, 40 percent a year for the last couple of years.
So what we've done in our empirical work is, we've tried to see if this kind of growth rate is a sustainable phenomenon. And to do that we've tried to see whether we are now at a stage in the recovery of credit that we are at a potential credit growth rate that could be yielded by the model.
Now, in this there is some good news in the sense that for using the criteria that we have on our paper we find that we are not yet at the stage where we would say that this credit boom is unsustainable. We're not at the stage of saying this is unsustainable. A lot of what we're seeing is financial deepening, is convergence, and in a number of countries the recovery still is below what the model would project. So we're not guessing it is on a macro-level unsustainable. But because the angle of the incline is so sharp, as we've seen in other parts of the world, including the industrial countries, there are always risks that individual institutions have vulnerabilities which, if they were to materialize, could have a knock-on effect.
So here the fragility is a potential one, not an actual one, and it bears close watching. So in this brief way, this is the focus of our paper. The focus is principally on the short run. It's on the sustainability of the current expansionary phase. It looks at the emergence of possible fragilities. I should also say that inflation is becoming a little bit of a concern because it is trending up in many countries, although we recognize that much of this is due to food price movements, which are a global phenomenon, but nevertheless, it was creeping up.
So this is a report that is focused on the short term.
However, we do in the report again make reference to the longer-term issues of poverty, inequalities in growth, and there our message remains the same as it was last year, and that message is that compared to other fast-growing emerging market countries, the region continues to lag, even in its current expansion, in investment and productivity. So even the current expansion lags other regions. So as you look at the longer term, the question remains imperative for the region to get investment up and to increase, improve the productivity of that investment.
So if we pause at that point and ask my colleagues if they would like to add to the emphasis that I have given.
MS. CAROLINE ATKINSON: I think the only point that I'd make is that we have a section on poverty and inequality, which generally ties in with some of the work that we've done when we only looked at globalization and inequality. And there is a welcome decline both in poverty and inequality in the region, and work that Jeromin and others have done shows that this is linked in some way with—as lower investment with Latin America's long-term growth prospects.
And so it's a very important development that this period of expansion has been associated with some improvements in that. But nevertheless, the region remains one with deep pockets in poverty and high inequality in various countries, and that remains an important problem to be addressed.
MR. SINGH: In my remarks just now, maybe I've emphasized more the fragilities than I had the fundamentals because the overall message of the report is positive. That's important. The overall message is that this is a recovery and a growth phase that was different from its predecessors. It's not going to be terminated, we think, as prematurely as earlier ones. There are some fragilities or yellow flags, but they're not at a stage where they're threatening immediately the expansion phase and the risk, contrary to previous phases is as much in the external condition of U.S. growth and the international market variables, perhaps more in the external conditions than it is in the domestic policies.
So the overall message we think, is a positive one which is quite remarkable given that the region is now in its fourth or fifth year of fairly strong growths.
QUESTIONER: On exchange rates, the dollar keeps on falling. What is your recommendation for countries? And the second question is on this issue of credit. What is your concern there? Are you concerned that banks are giving credit to people who are not creditworthy, or are you concerned with the change in external conditions that will get to a credit crunch in those countries?
MR. SINGH: Well, on the first issue of exchange rates, this has been a very big issue for the region over the last few years, because capital has come into the region. And there have been different degrees of flexibility in the region. That is a fact. Some countries have been very flexible and some have been less flexible. Generally, those that have been less flexible have needed to build up reserves to more comfortable levels.
But if you just go back to the current turbulence in the last few months, you'll find that generally most countries in this turbulent period allow the extreme risk to become quite flexible. So I would say that in response to shocks the region has shown that they generally now allow greater flexibility. If you look over the longer term as to what's happening in real effective exchange rates—and there's as chart on this in the paper—you find that there has actually been greater flexibility than one might imagine in most countries.
So that's the answer to the first one. On the second question, I would put it this way: Any credit movement in any country or region that involves a very rapid increase in credit growth rates of 20, 25, 30 percent, in and of itself raises a yellow flag because we've seen through history that it's very difficult to preserve lending standards to repeat the exact growth.
So we've looked very, very carefully with the data available to see if there are fragilities that we can already see. Can you see NPLs rising? Can we see clear evidence whether this is unsustainable? And our message is that at this stage we are not seeing clear evidence that this is unsustainable.
Now, my point is, even if in aggregate this is sustainable at which being sustainable is a help, it doesn't mean that every institution that has participated in this boom has done it right. So there are individual vulnerabilities. But in answer to the question, as economists any credit boom needs to be looked at very carefully because it generally involves a lowering of lending standards. But so far, our message today is random. We're looking very closely, but we're not yet saying that it is unsustainable. It needs to be looked at very closely, it's a real task for the financial authorities to look at individual vulnerabilities, individual lending position because we've seen what can happen in the last months with individual institutions in different parts of the world.
MR. ZETTELMEYER: So the Regional Outlook actually addresses both your questions at the end. It addresses both the question of whether the credit boom is sound, which is one point we've been emphasizing, and that's what most of Chapter 5. We also addressed the question of the vulnerability of credit growth to recent developments in financial markets. That's addressed in Box 9 with Chapter 2.
In there we find that at this point, there we do not see as strong rise because most of the credit growth in Latin America seems to be funded by growth in local economies, and the vulnerabilities of Latin American banks vis-a-vis the foreign banks are relatively small. And on top of that, we have all the other improved fundamentals which ultimately associates with the sensitivity with which credit currently reacts to it, and some start with a capital for change in the terms of conditions, and these in Latin America look pretty good.
MS. ATKINSON: I want to say something quick on the exchange rates. I think that at least part of our message about the improved fundamentals, is about policy frameworks which have, at least in some major countries focused on the monetary policy side, on inflation and on flexibility. And that has allowed this flexible response to turmoil in the summer. And that is a strength when the central banks are focusing very much on inflation.
And, in fact, in Colombia they have recently not been intervening in exchange markets because the central bank governor has called attention to the importance of the inflation goal. And that also means that you tend not to get a build-up of problems.
Just another sort of factual point, of course, the U.S. dollar is moving a lot, and that's very important for the region and particularly important for some parts of the region. But there are many parts of the region that are trade importantly also with Europe, with Japan. So the bilateral movements in the exchange rates may exaggerate the movement in a balanced-effective trade-weighted way. And people in the region tend just to look at the dollar, but it's not the only currency that's relevant for their competitiveness.
QUESTIONER: So you would recommend that countries look at inflation and not just at exchange rates?
MR. SINGH: Yes. Countries—and it is not to just us—but countries have inflation-targeting regimes. Their framework is to look at inflation. That is their objective.
MS. ATKINSON: Of course, countries have to look at a number of different issues. They have to be concerned about movements in all of these processes.
MR. SINGH: But overall, I think this is part of a pattern that we've seen over the last two or three years. The marked commitment in the region politically to keep the inflation low. I think this is a very historic change for the region, and it is being tested now, because you have food prices going up, you have inflation going up. So this is possibly the first major test of the inflation-targeting frameworks, and of the commitment to low inflation happening right now.
QUESTIONER: Could you expand a little bit when you talk about small shocks? I gather what you mean by small shock is the turmoil that that's going on right now. And what do you mean by larger shocks? What sort of things does one need to look out for in the region.
And the other thing is I'd like to know how vulnerable is the Latin American economy, and probably more Mexico to the slowdown in the U.S. Where are the particular countries that are more vulnerable and what governments could look at. I gather that particularly the emerging economies haven't been particularly affected. But you still wonder how fast something could happen.
MR. SINGH: On the first issue of the shocks, I think you'd find a full description in the paper. But you're right, for the region, the principal larger shock is a slower growth of the U.S. economy.
The second larger shock is the financial market shock, and the impact on the EMB spreads.
MR. ZETTELMEYER: We don't mean to belittle the financial market turbulence, but it was mainly an industrial country phenomenon. The central banks reacted very quickly containing the liquidity problems, and it has so far not led to a major slowdown in the U.S. And, of course, we don't mean that a major slowdown can be avoided.
What we mean is—I wouldn't say the worst case scenario, but a very bad scenario in which case there's a very significant slowdown in the U.S. coupled with a credit crunch. By credit crunch, we mean a credit crunch in industry beyond the residential investment in the housing sector. So in our modeling, we represent that, we proxy that with a sharp rise in the high-yield bond spread in the U.S. from a current average level of about 400 basis points to about 700 basis points.
And the reason why we pick those numbers is because we look at how typically this variable has responded to major U.S. recessions, and that's about the magnitude. That culmination of a credit crunch and a U.S. slowdown is what could generate a much bigger drop in growth.
MR. SINGH: Now, clearly, as you said, the effect of this is different for different countries, and Mexico will be more affected. And we have discussed this for the Mexican authorities just last month in our Article IV discussions.
However, against that, in the base case which is the U.S. economy is holding up quite well at about 2 percent, 1.9, and the shock is primarily on the housing investment side, and is not spilling over so much, the Mexican believe, and I think they are right, they would not be affected perhaps as much because of the composition of the slowdown in the U.S. is somewhat different. Their dependence is more industrial, which is not at the moment hugely affected, and hope it would not be hugely affected in about baseline. And that is what Mexico is most dependent upon, and not so on housing. But, essentially, as long as the industrial side isn't significantly affected, that is good news for Mexico.
QUESTIONER: I have a couple of questions about Venezuela just with the natural and structural balances.
I wonder if you could explain what is the structural maximum and minimum, meaning that Venezuela is now the second-biggest economy in the region, is the way the Venezuelan economy is being managed rendering it more among the more vulnerable countries in the area? And I noticed that you do not include any poverty data on Venezuela?
MR. SINGH: I think as far as the Venezuelan poverty data you're asking for, if we don't have it we don't have it. That's what it is. On the structural balances, the methodology for computing it is in the paper. What is does show is that in most countries the structural primary balances are close to the actual balances. Where they are eroding, it is because of higher spending, and that's the phenomenon we see in countries on this page where you find the line going down. It's because of rising spending which is part of the problem I spoke about earlier in general terms.
QUESTIONER: So I'm not hearing anything about Venezuela in this answer?
MR. SINGH: Look, so I think in all these countries, Venezuela included, the basic factor that was driving it is spending.
QUESTIOENR: And one of the reasons I mentioned Venezuela is because it's heading on the projected deficit in 2007. And it's a rather chunky one. I just wondered, at does that make Venezuela among the more vulnerable countries?
MR. SINGH: Relative vulnerability is a broader concept. All that this is telling you is that spending is rising more rapidly.
I mean we are not at a stage where spending increases are the sole determinant of vulnerability. We've got very robust oil prices. So I would not make an automatic association.
MR. ZETTELMEYER: I can maybe answer a more technical question on maximum versus minimum where most of the difference comes from alternative commodity price projections. So when we compute a structural fiscal balance for commodity producers we look at expected commodity export prices five years out, and we use two sources for these projections. There is basically a more optimistic and more pessimistic projection.
MR. SINGH: You see there are differences for all countries and for oil producers. We have amore conservative projection for oil in the alternative scenario.
QUESTIONER: Is this spending controlled spending or a little out of control spending?
MR. SINGH: Whose?
QUESTIOENR: Venezuela's, and I'm thinking both of Argentina and Panama. Would you say this is responsible spending?
MR. SINGH: You see, this report is not going to give you an answer to individual country vulnerabilities because you need to go much deeper.
To answer your question, you need to have very good information on what spending is on and what is prescriptive. And that is something which we are doing bilaterally as part of our bilateral surveillance. It is very difficult from this macro data—tempting as it may be—to say that those countries that are spending the most are the most vulnerable, because we will need to see data on what they are spending on. So there is a macro problem and a macro concern and there is a micro concern. So, we are here assessing the macro trends. So it is not that simple, unfortunately, to look at the macro trends and to conclude that these countries are more vulnerable.
QUESTIONER: You mentioned that the region is lagging compared to other emerging markets. Why is that? And is the credit boom a signal that the region has closed the investment gap with Asia?
MR. SINGH: On the second question, it is difficult to answer that. We don't have very reliable data on the composition of credit that is going to household or business.
MS. ATKINSON: We know that there has been an particularly big increase in household, but increasingly there is more going to corporations. And that's a welcome trend. And, as Anoop said, our analysis suggests that a lot of the increase in credit is what you would expect given earlier periods of financial sector reform and what we would expect on the basis of trends. So the overall level of credit is still--one would still hope that it has a way to increase.
So it's really a question of watching out during a period of rapid growth and doing the same. But it's rather different from some other regions in the world where there has been a longer period of credit expansion.
MR. SINGH: Your first question, however, I think is the important for regional investment. I think that's the real question before the region. Investment has been rising in this cycle, obviously. In a previous report we made the assessment that it is not clear that investment has risen beyond what you could expect from a similar point of view. In any case, it remains far short of other emerging markets. That, to my mind, is a fundamental question for the region.
I see two fundamental questions for the region. The first is macrostability and progress is being made, and that is good news for poverty and inequality because, obviously, financial instability is negative for inequality.
So on the first issue, the news is good.
On the second issue of investment and productivity, there are improvements in this cycle, but they are not extraordinarily improvements beyond the cycle, and it remains below other emerging markets and that's the central issue, including for poverty and inequalities. And why is that the case? Well, that's the fundamental question.
QUESTIONER: And do you have an answer to that fundamental question?
MR. SINGH: It's very complicated because it's country by country here. So countries have very high investment with low productivity, and there the issue is not really investment but increasing its productivity. Other countries have both low investment and low productivity. Some have low investment because public investment is low and because the government revenue is low, which is, for example, a country, just to mention one like Guatemala. You find in Guatemala that it has a great fundamental in that it's debt ratio is very low. It's a good sign. But it's tax ratio is around 10 percent of GDP, and therefore you cannot expect a country with 10 percent of GDP in tax revenues to have very strong public investment program. So then the issue is, do you have a vibrant environment for private investment?
As I said at another forum, we are not ideological in this debate about public and private investment. Our concern is that the region needs more investment and it needs productive investment, and there are different models how you can achieve it, and each country has to tailor it to its needs.
What is sure is that you need them both. You can't have a situation where you have neither. How you get it is of value to the country; it's not for the IMF.
QUESTIONER: I had a question about what do you think about the price of oil?
MR. SINGH: Well, it's interesting you say that because our predictions in the alternative scenarios have low enough oil prices.
MR. ZETTELMEYER: Our scenario is up in the air. Our aggregate is for a net oil exporter...
MS. ATKINSON: ...for the region as a whole, so the oil price is obviously complicated because of its implications for prices and inflation, and also in many countries that may not have immediate pass-throughs of market price changes to domestic prices and maybe issues and subsidies and also distributional impact, of course. So there are a lot of individual country and individual sectoral issues, but for Latin America as a whole, higher oil prices is basically as a net exporter.
MR. SINGH: For the whole region, but not so for Central America.
MS. ATKINSON: Not so for Central America, not so for the Caribbean, not so for Brazil.
MR. ZETTELMEYER: It is a positive shock because of this factor. For example, in the case of Brazil they are self-sufficient based on oil.
QUESTIONER: So an oil-producer like Venezuela can continue to spend a lot of money?
MR. SINGH: Well, this is very difficult to answer that question without a full assessment of the economy. If the oil price is higher, should we be spending more? It depends on each country's circumstances, its debt and so on. So, I would be reluctant to make any quick judgment. In this paper, this is not a judgment of individual countries. It's not individual surveillances, it is macroeconomic. How it affects Venezuela, or Argentina, or Brazil, the answer is that his why we have bilateral surveillance and you will see that in the Article IV reports.
MS. ATKINSON: If I can just comment again on the oil price, and for the region part of the impact may come from the effect on the global economy. So high and rising and volatile oil prices are a risk for the global economy that means that a risk to the region.
QUESTIONER: Do you think that this hard line that the region as a whole seems to be taking, for example with the Bank of the South--I don't know how to explain this, but do you think that sort of hard line which is publicly led by Venezuela, will have any impact on investment?
MR. SINGH: Well, I think again, you have to go country by country, because in order to really be sure as to what countries are implementing, you need to see what each country is doing, as opposed to what a collective position might be.
My sense is that there is a great recognition in the region that they need investment. You see almost every country talking about it. You know that the oil and energy exporters in the region want more investment. We heard Venezuela say that they will increase investment. We heard Ecuador say that it will increase investment. We know Bolivia has set a certain target to increase investment so that it can meet its contractual obligation to Argentina with its new gas price contract.
So I don't think that the region is in denial. I think the region recognizes that they need investment. The next step is to ensure that capital flows to those countries. This, in principle, has not been a problem because there has been a lot of capital flowing into emerging markets in the last few years, and a lot of that has gone into Latin America, a lot has gone to Brazil, a lot has gone to other countries.
So there is capital around, even in this more turbulent world that we have, and we have countries recognizing they need investment, and that each country needs to make its own balance as to how it gets it. There is not something that we can or should prescribe from the IMF. How we get that, between public and private and the modalities is up to them. Our job is to point to the fact that in order to raise their growth rates and to do this publicly, they need it and to present comparative data with other markets. But how you get the investment in is a very individual decision, and that's up to the countries to make.
MR. ZETTELMEYER: Can I just add to that. Foreign direct investment (FDI) has been and continues to be a pretty stable source of foreign capital to the region as a whole. It's been the main source, and it continues to be the main source. You have a little bit of an offset in many of the FDI figures because outbound FDI from Latin American countries has gone up. And even though FDI is quite strong, on that basis, the 2006 FDI was a little lower, but this year and next year we are going to try to rebound in the order of 1½-2 percent.
MR. SINGH: We have only a few minutes left. I'll make this very strong comment at the end. We are trying very hard in these exercises, which are relatively new for the Fund, in these Regional Outlook and other publications, we're trying very hard not to be immediately prescriptive, because we have seen that it's more complex, and it needs ownership and it needs to be done country by country.
So we're going to a lot of trouble in these reports to report on broad trends at the aggregate and not quickly jump to being prescriptive because it is more complex. There is a change, perhaps, in the way we do it. I think it is a welcome change. It's meant to elicit a discussion with our countries on the next stage. This is more difficult to do if we already prejudge it.
So I draw this to look at the trends, but then as we go country by country, you have to have that dialogue with an open mind and not with a preset mental framework. And we're trying very hard not to be prescriptive, because the world is more complex.
MS. ATKINSON: If I could just add a plug for some of the work we've been doing. We're not just setting out facts, but we're also doing more analysis, so we're trying to contribute to the economic debate. We're getting involved with researchers, economists, academia, and policymakers in Latin America with new research that again may not deliver all the answers, but maybe brings more understanding to what's going on.
MR. SINGH: Thank you for coming, and I enjoyed your questions.
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