Economy

Why Latin America is turning from growth to conflict

14th November 2019

By Martín Trombetta

Why Latin America is turning from growth to conflict

Conflict in Latin America is increasingly taking the headlines. Whether it’s massive protests in Chile, deep political instability in Peru, war against the narco-state in Mexico, the freeing of a former president in Brazil or the overthrowing of the current one in Bolivia, it is clear that the image of a region growing more prosperous and egalitarian is long gone. On the contrary, social tension is but the predictable counterpart to the worsening economic conditions and unsatisfied social demands the region has seen in the last few years.

</p> <h2><strong>Two models, similar growth</strong></h2> <p>Most economists agree that Latin American countries can be divided in two different economic models. The first comprises the Mercosur full members (Argentina, Uruguay, Paraguay and Brazil), former full member Venezuela and some associate countries such as Ecuador and Bolivia. These countries feature relatively strong welfare states and an actively interventionist economic policy philosophy. The second consists of the Pacific Alliance trade bloc, formed by Chile, Colombia, Mexico and Peru. This second group of countries shows more market-oriented strategies of economic policy, leading to greater trade openness.</p> <p>Although political and economic differences between the two groups are not negligible, both have shown remarkable progress in 2002-2015, when gross domestic product (GDP) per capita grew steadily at a rate of 2% a year, making the average Latin American citizen 30% richer in less than a decade and a half. Truth be told, the Pacific Alliance has done somewhat better since 2015 — it continued to grow at a lower yearly rate of about 1.4%, while the rest of the region actually saw an accumulated fall in GDP per capita of almost 2%.</p> <p>It was not just that the economy was booming: people’s living standards were also improving really fast. The controversial trickle-down theory proved at least partially correct as the progress in social indicators was as impressive as that of GDP. Take mean unemployment rate, for instance, which went from 12.8% in 2002 to 7.2% in 2015 and 7.8% in 2018. Consider also the proportion of registered salary-earners, which rose from 32.6% in 2002 to 44.3% in 2015 and 48% in 2017. Moreover, income distribution moved to a more equitable pattern —  in 2002, the richest 20% of the population earned 21 times more (in terms of household per capita income) than the poorest 20%, but that figure fell to 13 by 2015 and has in fact remained at such a level.</p> <h2><strong>Deconstructing the miracle</strong></h2> <p>The economic miracle of 2002-2015 was possible for many reasons. First and foremost, international prices of primary commodities boomed and reached levels the world economy had not seen in decades. This means that one traditional handicap of Latin American economies, namely the fact that their levels of industrialization are low and therefore they are mainly primary goods exporters, actually worked to their advantage for a few years.</p> <p>The star export products in the region include soybean (Argentina, Brazil, Uruguay), natural gas (Bolivia), crude oil (Ecuador, Colombia, Venezuela) and copper (Chile). The prices of these commodities skyrocketed in the period, with slightly different timing from one product to the other. Soybean peaked at twice its historical mean level, oil at two and a half times and gas at three and a half times. Latin American exports grew fast and current account surplus meant the dollars kept coming. Furthermore, in some of these countries the main commodities are produced by state-owned enterprises (such as PDVSA, Venezuela’s oil monopoly), while in others exports of such products are heavily taxed (mainly, Argentina). This meant that state revenues increased, leading to fiscal surplus as well.</p> <p>The international context was also favorable when it comes to financing costs. The 2008 international financial crisis triggered expansive monetary policy responses in developed countries, particularly in the United States, leading interest rates to historical minimums, pushing money into riskier developing countries. The Federal Funds rate, for example, remained at virtually zero from 2009 to 2015. The main Central Banks of the world were eager to lend dollars at no cost and Latin America was borrowing, freeing it from its financial constraints, at least in the short term.</p> <p>Improvements in social indicators were not just a consequence of growth — economic policy is to be credited as well. The region implemented strong social programs during this time, particularly in the form of conditional cash transfers to disadvantaged households. Whether it is Argentina’s Universal Child Allowance, Mexico’s Opportunities, Ecuador’s Human Development Bonus or Brazil’s Family Stipend, it&#8217;s clear that governments made helping those in need a priority, even at a significant fiscal cost. After all, the times were good and the money was there.</p> <h2><strong>Where did it all go wrong?</strong></h2> <p>The process was so dependent on international economic conditions it is no wonder things went south when tailwind shifted to head wind. After 2015, commodity prices started to decrease and interest rates to rise. Current figures are far from critical — commodity prices remain above their historical mean (except, notably, for gas) and the Federal Funds rate is still much lower than it was 20 or 30 years ago. But the manna is no longer raining from heaven, and Latin American economies cannot benefit from extraordinary advantages as they did before.</p> <p>In this non-miraculous context, a few important events have added fuel to the fire. The election of Donald Trump in the US and Brexit in the United Kingdom point in the direction of a world where globalization is called into question, leading to lower commercial and financial flows between countries. The commercial war between the US and China is a major concern in this matter. Since Latin American economies are net importers of key industrial supplies, a reduction in world trade would certainly harm them badly. And of course, investors try to anticipate to these risks, so financial flows are reversing, with flight to quality causing strong depreciations in emerging currencies.</p> <h2><strong>More than just the economy</strong></h2> <p>So economic growth has dampened, but this does not encapsulate the whole problem. Impressive as it may have been, this period of growth failed to address structural Latin American shortcomings. Firstly, there is institutional weakness. Latin American democracies are fragile to say the least. Most countries in the region only reached democratic consensus few decades ago, and its fragility might be returning. Division of powers has effectively disappeared in Venezuela, where the most prominent opposition members have also been banned from running in elections; irregularities in Bolivia’s electoral process cast doubts on the results and ended with a police-backed coup; in Brazil, President Bolsonaro is a strong supporter of old-time military dictatorships and has even praised the officers who tortured former President Rousseff back in the 1970s, when she was in the guerrillas.</p> <p>Then, there is corruption, an endemic problem of the region. The Odebrecht case summarizes it perfectly: the Brazilian construction company is prosecuted for bribing government officials in ten different countries, including Argentina, Colombia, Ecuador, Peru, Brazil and Venezuela, a regional scandal that led several presidents and former presidents to face criminal charges. Hearing about political leaders prosecuted for corruption is no surprise in any of the region’s countries. In the case of Peru, all living former presidents are currently either prosecuted or imprisoned.</p> <p>This all comes in the context of the region’s most persistent economic flaw: inequality. Latin America is one of the most unequal regions of the world (topped only by Sub-Saharan Africa), where the rich enjoy a quality of life no different than that of European societies, but the poor struggle against deprivation in ways that resemble the most disadvantaged regions of the world. The proportion of the population living below a price-adjusted line of 10 USD a day is above 40% in most countries of the region (Argentina, Chile and Uruguay being the main exceptions). In spite of the remarkable progress achieved in poverty reduction, many social demands, especially those stemming from the new middle classes, remain unsatisfied.</p> <p>So raging protests and political turbulence are unsurprising. In a context of shrinking resources, fare hikes in public transport, high costs of education, pension cuts or job insecurity can all trigger social discontent when people feel they just will not take it anymore. At the same time, re-distributive efforts also lead to conflicts, especially when the economy is on the downturn. This implies a daunting challenge to modern welfare states — how to spur social improvements in a context where the economy is not at its best and amid a fragile institutional context. If Latin American governments cannot figure this one out, shock headlines like those of the last few weeks might turn into the new norm.</p> <p>

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Martín Trombetta

Martin Trombetta holds a PhD in Economics from Universidad Nacional de La Plata, a research grant at the CONICET institute, and teaches at the Universidad Argentina de la Empresa (UADE). His publications have focused on labor markets, income mobility, gender gaps and other topics.