Latin America: What does Trump mean for Latin America?
December 7, 2016
The result of the U.S. presidential elections has called into question the future of U.S.-Latin America relations. Although President-elect Donald Trump did not articulate a detailed foreign policy approach towards Latin America during his campaign, trade and immigration—two of the key topics of the Trump campaign—are likely to dominate the agenda across the continent. Mexico is expected to be the hardest hit, and this goes beyond Trump’s relentless promise that his administration would build a wall between the two countries to stem the flow of illegal immigration. South American countries will be off the administration’s radar, although there is a high risk that protectionist policies could damage some of the countries’ agricultural exports to the U.S.
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Investors in Mexico are nervous about Trump’s protectionist policies, and this was quite evident when the peso took a plunge on election day and fell further immediately thereafter. The currency, which had acted as a barometer throughout the presidential campaign, took the largest nosedive on record as it became clear that Trump’s promise to renegotiate the North American Free Trade Agreement (NAFTA) and build the now infamous wall could come to fruition. For now, the shock has been felt in consumer and business confidence, which could have some near-term effects in the form of weaker household consumption and reduced fixed investment. Should Trump follow through on his pledge to modify NAFTA or impose trade barriers, Mexico’s economy will be affected substantially as the economic ties between the two nations are strong, owing largely to NAFTA. The long-term effects on Mexico will largely depend on the extent to which Trump pursues his protectionist agenda.
Other trade relations could also be affected, in fact, it was recently announced that the Trans-Pacific Partnership (TPP), a free trade agreement (FTA) that incorporates 12 countries, including Chile, Mexico and Peru, has been abandoned. The U.S. already has FTAs with Chile and Peru, which have escaped Trump’s anti-trade rhetoric so far. Nevertheless, that the President-elect has given no attention to those treaties may reflect that manufactured exports from these countries to the U.S. are quite low, although the TPP would have helped to facilitate easier access to the American market for such exports.
The United States has had little engagement with South American countries, despite President Barack Obama’s promise of a “new chapter of engagement” with the country’s southern neighbors and improvements in trade facilitation. South America, Brazil in particular, appears to be out of the line of sight of the new administration and it is unlikely that there will be more active policies under Trump’s government. Nevertheless, U.S. agricultural companies lobbying Trump to introduce tariffs and non-tariff barriers on certain products represents a greater risk to South American economies. Tariffs on raw materials such as ethanol and steel could hurt Brazil, while greater U.S. protectionism against imports such as soybeans and other grains could cloud the outlook for U.S.-Argentina relations.
A potential hot spot is Venezuela. Despite years of anti-American rhetoric by former Venezuelan President Hugo Chávez, there was little conflict in practice. The U.S. is Venezuela’s largest export market and the Obama administration largely ignored verbal provocations by Hugo Chávez and Nicolás Maduro. However, this may change with Trump in power given that he wants to appear strong on the world stage. If this turns out to be the case, Maduro risks significant fallout if he continues to blame the U.S. for Venezuela’s misfortunes as Trump could be more likely to take retaliatory measures.
Regarding Central America and the Caribbean, there was little in the Trump campaign specifically directed against the economies that belong to the Dominican Republic-Central American Free Trade Agreement (DR-CAFTA). Instead, the main economic risk to these economies would be through the immigration channel, given their heavy dependence on remittances from workers living in the U.S. Along with Mexico, these countries would be the most vulnerable to any change in the U.S. immigration policy, whether to strengthening the surveillance at the U.S. southern border—or the building of a border wall—or any attempt to deport about 11 million undocumented workers—most of them Latinos—in the U.S. Mass deportation is, however, deemed to be logistically impossible, yet the threat has the potential contribute to tensions between the U.S. and the region that would be a detriment to cooperation in other areas, such as security and the eradication of illegal drug trafficking.
On the bright side, Chinese President Xi Jinping embarked on a week-long visit to Latin America in mid-November that included state visits to Chile, Ecuador and Peru. Xi Jinping’s visit immediately followed events in the U.S. that have called into question the future of U.S.-Latin America relations, and highlights China’s emergence as a key trading and investment partner for the region. China signed several trade agreements with the aforementioned countries and appears open to the possibility of expanding its array of FTAs in Latin America just as major economies in the region are keen to purse more trade deals, and also at a time when the possibilities of developing stronger trade links with the U.S. and Europe appear increasingly difficult. Should the region embark on deepening trade agreements with China, a key priority will be the diversification of trade in order to reduce reliance on commodity exports.
Recovery to be modest in 2017 after abysmal performance in 2016
2016 marked a more challenging year for Latin America. After having stagnated in 2015, the region’s economy began to contract in early 2016 and the recession persisted through the third quarter. A regional aggregate estimate shows that Latin America’s GDP contracted 0.9% annually in Q3, which followed a 0.9% decrease in Q2. The result suggests that the region is starting to slowly emerge from recession. Nonetheless, economists project that this year Latin America will register its worst economic performance since the global financial crisis hit in 2009. Economic experts expect that the economy of Latin America will contract 0.7% this year, dragged down mainly by the deepest recession in decades in Brazil, Argentina’s sharp economic contraction resulting from its painful adjustment to new policies, as well as due to the most severe economic crisis in Venezuela’s history.
Next year, the region’s economy is expected to record a modest recovery, which is plagued with risks that are causing a downward bias for analysts’ growth forecasts for the region. Economists expect Latin America’s GDP to increase 1.8% in 2017, which has been lowered by 0.1 percentage points from last month’s forecast and contrasts the 2.4% growth that was projected in January of this year. Economic data has been stubbornly weak across the region in 2016 and growing uncertainty surrounding the global outlook in the aftermath of Donald Trump’s victory is weighing on the region’s sentiment, adding to concerns over the prospects for a recovery next year. The prospects that a Trump presidency might be both protectionist and in favor of a substantial fiscal expansion has altered expectations for U.S. monetary policy. Therefore, weakness is looming on the horizon for several currencies in the region, raising risks to a further tightening of monetary policy across the board.
Looking at the countries in the region, economists cut the 2017 GDP growth forecasts for 6 of the 11 economies surveyed, with notable revisions to Argentina, Brazil and Mexico. They maintained the forecast for four economies, including Chile and Peru, and improved the outlook only for Ecuador.
ARGENTINA | Building confidence in challenging times
The economy is set to record another sharp fall in Q3, according to September’s monthly indicator for economic activity. Moreover, weaknesses that had been plaguing growth since the start of the year appear to have carried over into Q4. Consumer confidence deteriorated in November as a high unemployment rate and low real wages are dampening household spending. The external sector is suffering from still-low prices for agricultural commodities and weak demand for Argentinean manufactured goods. The government presented its proposal for reforming the income tax on 22 November. The plan includes higher tax rates, introduces new brackets, and also an increase of 15% in the minimum exemption threshold. The bill, which could be approved by the lower house of Congress in December, has already been challenged by some parties and the government will have to negotiate in order to push ahead with its reform.
Argentina is expected to return to growth next year as the economy will benefit from higher real wages, the impact of economic reforms and improved business sentiment. Stronger regional growth and a weaker currency will also support the economy in 2017. Although panelists have a positive view regarding Argentina’s economic outlook for next year and expect growth to reach 3.0%, they cut their GDP forecast for 2017 by 0.2 percentage points mainly due to this year’s deeper-than-expected contraction of 2.2%.
BRAZIL | Sustainable public accounts guaranteed
The economy took some steps forward in Q3 and GDP recorded the smallest fall in over one year. While the result confirms that the economy is returning from rock bottom, economic dynamics remain feeble and the road to recovery is likely to be long. Leading indicators suggest that the economy is on weak footing in Q4: consumer confidence and the manufacturing PMI fell in November. On the political front, progress has been made yet the stability of the government is at risk. The Senate approved a cap on federal spending in the first of two votes on 29 November, despite anti-austerity protests, a win for the government. In addition, the federal government reached an agreement with cash-strapped states to provide them support for needed structural reforms. However, political uncertainty has risen sharply as a variety of scandals have engulfed the government and led to a number of resignations. Moreover, the fallout from a massive plea bargain that is in the works could hurt the government’s support further as it is expected to implicate scores of politicians in a corruption scandal. The country has seen large protests in recent weeks and President Michel Temer’s loss of support bodes poorly for the passing tough reforms next year.
The economy should exit recession next year, after falling 3.4% in 2016. However, the pace of recovery is likely to be meagre amid austerity measures and modest external conditions. Analysts see GDP growth at 0.8% in 2017, which is down 0.2 percentage points from last month’s forecast.
COLOMBIA | Government and FARC agree on new peace deal
The economy grew just 1.2% in Q3 (Q2: +2.0% year-on-year), according to production-based GDP data, marking the slowest quarterly growth since the global financial crisis hit in 2009. The dismal print was mainly driven by a prolonged truckers’ strike and subdued global trade. On 30 November, the Senate approved a revised peace agreement with the FARC, just a month after the original proposal was rejected at a plebiscite. Among other things, the new deal establishes greater government presence in rural areas dominated by the FARC, obliges FARC rebels to divulge their assets and provides judges with more authority if insurgents are found guilty of drug trafficking. However, these changes—among many others—have not served to appease critics led by former president and now senator Alvaro Uribe. The FARC now has a six month period to demobilize and form a political party.
The loss of oil-related fiscal revenues, coupled with a weak global economy, is weighing heavily on the country’s economic outlook. However, the peace agreement could reignite growth by boosting tourism, oil exploration and foreign direct investment in the country’s conflict-ridden areas. Analysts expect the economy to grow 2.0% in 2016. For 2017, our panel projects economic growth of 2.5%, which is down 0.2 percentage points from last month’s forecast.
MEXICO | Time to face the Trump fallout
Arguably, no other country in the world will be as uneasy over its future as Mexico following the victory of Donald Trump in the U.S. election. Trump’s anti-Latino and protectionist rhetoric taps into the two most important issues in the U.S.-Mexico relationship, namely immigration and the North American Free Trade Agreement (NAFTA). It remains to be seen whether Trump will implement his most radical proposals on these issues, but Republican control of the U.S. Congress will certainly give him scope for action. At the same time, the latest data give little hope of stronger growth in the final quarter of 2016, following a deceleration in Q3.
The substantial impact that Trump’s policies could have on Mexico’s economy have weakened its growth prospects. Analysts expect the economy to decelerate further to 2.0% growth in 2017, which is down 0.3 percentage points from last month’s projection, after an estimated 2.1% growth in 2016.
INFLATION | Regional inflation drops in October
Trump’s victory has put pressure on most Latin American currencies. A large fiscal expansion—as advocated by Trump during his campaign—in an economy close to full employment has prompted an increase in U.S. Treasury yields, which in turn, weakens emerging-market currencies. All currencies were affected by the “Trump shock”, especially in Mexico, which has strong trade links with the U.S. Nonetheless, even with the recent weakening, the performance of most Latam currencies—with the exception of the Mexican peso—has been far more favorable this year than the previous two years. At the same time, growth remains weak across the region and these conditions are still supporting disinflation in Latin America.
Against this backdrop, regional inflation fell for a second consecutive month in October. It declined from 25.4% in September to 24.1% in October, according to our regional estimate. If the exceptionally high inflation in Venezuela is not taken into account, Latin America’s inflation fell to 9.1% in October from 9.4% in September.
Considering that Venezuela is experiencing an episode of near hyperinflation, inflation in Latin America is projected to rise mildly toward the end of the year. Analysts expect it to end 2016 at 28.9%. Latin America’s inflation forecast excluding Venezuela is projected to end the year at 9.1%. Next year, forecasters expect overall inflation in the region to come in at 27.3%, which was revised up from the 25.5% projected in last month’s LatinFocus. Stripping out the inflationary effects from Venezuela, inflation in Latin America is expected to end 2017 at 6.4%.
Written by: Ricardo Aceves, Senior Economist