All roads lead to recession for Latin America’s largest economies
(Bloomberg) — They got there in stark contrast, but Latin America’s two largest economies found themselves in a similar, unenviable situation two years into the pandemic: Back into recession.
Mexican production fell 0.1% in the three months to December, the government statistics institute said today, after contracting 0.4% in the previous period. Brazil’s $1.6 trillion economy, the only larger one in the region, fell into recession in the second quarter of 2021 and is expected to stagnate throughout this year.
Pandemic policy in the two countries could hardly have been more different. Brazil has shelled out more money than other emerging economies and many wealthy economies. Its stimulus measures have accounted for about 12% of gross domestic product, according to the International Monetary Fund, resulting in a historically large budget deficit.
Mexico has kept the purse strings so tight that even Wall Street economists – who typically encourage fiscal prudence in developing countries – have called for them to be loosened. Excluding interest payments, the government came close to balancing its budget in 2020 and 2021.
Yet they both ended up with stalled economies and few signs of much growth in the near future – a familiar outcome in Latin America, already lagging the world in the pre-pandemic decades and now harder hit than most by Covid-19.
“Both economies are now facing a synchronized recession, which reflects a combination of supply chain issues, local rate hikes, political uncertainty and their own structural issues,” says Adriana Dupita of Bloomberg Economics.
This does not mean that there are no differences.
Brazil’s heavy spending triggered a much faster recovery. The economy shrank by a relatively manageable rate of 3.9% in 2020 and had more than recouped that loss by March last year. Meanwhile, government pandemic programs, including cash transfers to low-income households, succeeded in briefly reducing poverty to record highs.
By contrast, Mexico – which contracted by more than 8% in 2020 – is not expected to return to pre-pandemic output until 2023. And it now has some 4 million more people living in poverty than Mexico. in 2018.
But Brazil’s growth faltered with the withdrawal of fiscal stimulus last year as the central bank embarked on the most aggressive monetary tightening in the world. He raised the benchmark rate by 725 basis points to curb inflation, which rose to double digits, partly due to government spending. Another 150 point rise is expected this week.
President Jair Bolsonaro, a candidate for re-election in October, has started a new round of cash transfers. But with monetary policy now pushing in the opposite direction, these measures are unlikely to push growth much above zero for the rest of this year.
Some analysts say the spending is aimed at garnering political support rather than boosting the economy’s potential by addressing long-term weaknesses.
“It’s political survival, or populism,” said Barbara Fritz, professor of economics at the Latin American Institute at the Free University of Berlin. “There is no politics like making industrial policies, encouraging investment, like streamlining administration.”
Mexican President Andres Manuel Lopez Obrador, who denounces neoliberalism daily in his morning press conferences, says his pandemic austerity will eventually pay off. The argument goes, keeping the country’s debt burden low will allow Mexico to avoid diverting too many resources to interest payments instead of social programs.
The national debt is around 60% of GDP, according to IMF figures, compared to around 90% for Brazil. Mexico’s central bank did not have to raise interest rates as aggressively as Brazil’s because inflation did not rise as sharply.
Still, the jury is out on whether there will be many growth dividends. The IMF expects the Mexican economy to grow 2.8% this year, well below the 4.8% average for emerging markets.
What is also striking is that both economies rely on engines of growth that are the exact opposite of what their politicians promised.
Bolsonaro has hired Paulo Guedes — an economist from a school of thought associated with the University of Chicago, famous for his hostility to public spending — to steer things. He presided over a massive fiscal mania, breaking fiscal rules that were meant to limit spending.
Lopez Obrador came to power promising to reduce dependence on his giant neighbor to the north. But the biggest boost the Mexican economy has gotten in the past two years has been the indirect result of U.S. fiscal largesse in the pandemic, which has triggered a boom in demand for Mexican exports as well as a surge remittances sent home by migrants who received stimulus checks. .
It’s “worrying,” says Alberto Ramos, chief economist for Latin America at Goldman Sachs Group Inc., that Mexico only got to this point by relying on US policy. He is also not confident about the prospects in Brazil: “Both have extremely weak growth engines.”
Another “lost decade”?
Which country, if any, gets these engines running first is an open question.
For growth-oriented economists like Arturo Huerta at the National Autonomous University of Mexico, Brazil’s pandemic policy of running the economy hot and reducing poverty via cash transfers offers better prospects.
Analysts who are more worried about fiscal risks, especially with the Federal Reserve poised to start raising U.S. interest rates, may see benefits in Mexico’s caution — and risks for Brazil.
The latter’s own central bank chief, Roberto Campos Neto, appeared to be in that camp in November, when he warned that Brazil’s combination of low growth, high debt and of rising inflation and interest rates suggests a prospect that is “no longer viable, but explosive.
Neither country seems close to realizing what has been elusive for the region’s economy of late.
Latin America needs “long-term and inclusive growth,” says Ernesto Revilla, head of economics for Latin America at Citigroup Inc. and former chief economist at Mexico’s finance ministry. “Another lost decade is not something we have written in the books yet. But the risk is there.”
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