Latin America: Structural weaknesses are slowing the economic recovery
May 17, 2017
Preliminary economic data for Q1 shows that the Latin American economy emerged from recession in Q1 and recorded positive growth for the first time in nearly two years. Our Consensus estimate suggests that the aggregate GDP for the region increased 0.3% year-on-year in Q1 2017 (Q4 2016: -0.4% yoy), which was a notch above the 0.2% expansion that our panel of analysts had projected last month. With GDP data for Q1 still outstanding for most countries in the region, an initial estimate for Mexico shows that the economy defied fears of a hard landing. Q1 GDP in Mexico accelerated to a six-quarter high as the economy benefited from higher remittances from the United States, stronger global growth and a weak currency.
While the Latin American economy is expected to have emerged from recession in Q1, the latest economic data signals a tortuous recovery path ahead given the region’s macroeconomic imbalances and structural vulnerabilities. Brazil’s president Michel Temer is facing roadblocks to implementing the crucial social security reform, designed to plug the government’s large fiscal deficit. Although a special lower house committee voted in favor of the project, Temer has yet to secure the two-thirds vote needed in the lower house to approve the bill. Moreover, Brazil’s economic recovery is on an erratic trajectory, highlighting the arduous task of jumpstarting an economy that has been contracting uninterruptedly since Q2 2014.
Head on over to our Latin America page for more recent economic news on the region.
Elsewhere in the region, the 43-day strike at Escondida, the world's largest copper mine, may have caused the Chilean economy to flirt with recession for the first time since 2009 in Q1. In Argentina, the economic recovery remains fragile, as highlighted by a contraction in the monthly economic activity indicator in February. A slower-than-expected decline in inflation and a relatively strong peso are the main culprits. Meanwhile, Venezuela remains immersed in a social and economic crisis with no end in sight. The Supreme Court’s intention to strip congress of its legislative powers added more fuel to an already inflamed political situation.
Brazil and Mexico support this month’s economic outlook
The economy of Latin America is recovering from last year’s dismal performance as Argentina and Brazil are slowly emerging from recession. Stronger global demand, higher prices for raw materials and a healthy job market in the United States are also contributing to boosting economic growth in the region. Nevertheless, uncertainty about the future of trade relations between the region and the United States continues to pose downside risks to growth. Domestic challenges and structural weaknesses in most countries in the region will also impede any strong and sustained recovery in the mid- to long-term. The main blackspot in the region will be Venezuela, which is expected to contract for the fourth consecutive year in 2017 and to remain in recession until at least 2018.
Analysts polled this month by FocusEconomics expect the Latin American economy to rebound from last year’s 0.7% contraction to a 1.5% expansion in 2017, which is unchanged from last month’s forecast. Next year, the regional economy is expected to expand a stronger 2.5%.
Economists that participated in this month’s LatinFocus Consensus Forecast increased the forecasts for 6 of the 11 economies surveyed in this report, including Brazil and Mexico. Conversely, analysts downgraded their growth prospects for Argentina, Chile, Colombia, Peru and Venezuela.
ARGENTINA | Fiscal consolidation strengthens in Q1
Argentina’s recovery remains fragile, as the economy is struggling to leave behind its significant imbalances. The external sector, which cushioned the fall in GDP in Q4, lost considerable steam in the first three months of 2017, likely dragged down by a strengthening peso. Moreover, industrial production continued to drop in March, albeit at a softer pace. On the other hand, some encouraging signs came from the construction sector, which in March expanded for the first time in 14 months on the back of a spike in public infrastructure spending, although private construction activity continued to be constrained by a strong peso and high interest rates. Moreover, wheat production has seen a considerable boost since the elimination of farm export taxes in 2016. The government also announced that in Q1 the primary fiscal deficit came in at 0.4% of GDP, below both the government’s commitment to a 0.6% deficit and the previous year’s deficit.
The economy is set to rebound this year, as the reforms implemented by the Macri administration start to feed through. Private consumption will benefit both from slowing inflation and credit expansion, while higher FDI and infrastructure spending and an improved business climate will underpin fixed investment. Analysts foresee the economy expanding 2.7% this year, which is down 0.1 percentage points from last month, and 2.9% in 2018..
BRAZIL | Social security reform faces hurdles
Efforts to analyze Brazil’s economic momentum have been complicated by frequent revisions in incoming data by the Statistical Institute due to a change in the base year of comparison. Although incoming data continues to suggest the economy is showing overall signs of improvement, recent data has been mixed and the road to recovery will be long given the severity of the recession. The economic activity index grew at a multi-year high in February, while industrial production fell sharply in March and retail sales plummeted in April. President Michel Temer’s proposal to reform the country’s costly social security system cleared one hurdle on 3 May, when it was approved by a lower house committee. Although the reform is vital to help correct fiscal imbalances, it is deeply unpopular among voters and has led to large-scale protests. The reform still needs to clear a number of votes to be passed, which may prove too much of a challenge with an election looming in 2018.
A gradually improving business environment, higher commodity prices and an improved global backdrop should allow the economy to exit the worst recession in modern history this year. However, growth will be moderate as high unemployment dents household spending. Analysts see GDP expanding a meagre 0.6% in 2017, which is up 0.1 percentage points from last month’s forecast. The recovery is seen gaining speed in 2018 and GDP should increase 2.4%.
COLOMBIA | Economy is set to accelerate this year
While recent monthly data gives a mixed picture of the economy, 2017 is set to be a significant improvement from 2016, when the Colombian economy was hit by a series of domestic and external shocks. A stronger oil sector—a key component of the economy—, a lower corporate tax rate and an expansionary monetary policy will fuel growth in Colombia this year. Likewise, investor confidence should improve thanks to the historic peace deal signed last year. In a recent staff visit to the country, the IMF lauded Colombia’s healthy banking sector, while also highlighting that some pockets of corporate vulnerability have appeared.
GDP growth will experience a slight acceleration in 2017 on the back of accommodative monetary policy and higher commodity prices. Analysts expect the economy to grow 2.2% in 2017, which is down 0.1 percentage points from last month’s forecast. For 2018, our panel projects economic growth of 2.9%.
MEXICO | Household spending propels growth in Q1
The economy dispelled fears of abruptly running aground at the outset of the year as it accelerated to grow 2.7% in Q1, with households showing outstanding resilience against a backdrop of soaring inflation and abrupt shifts in the U.S. trade agenda. Consumer confidence has been steadily trending higher, aided by a robust labor market and a surge in remittances. In line with upbeat consumer data, growth in the first quarter was led by services, though the industrial sector nearly stagnated, as reflected in downbeat PMI readings. This was due to weak dynamics in industrial output, which continues to suffer from lagging peso-linked cost-push inflation and the subsequent tightening in margins. In the fiscal arena, things are also looking up. The government’s prudent stance means it should achieve this year’s primary fiscal target, while state-owned Pemex’s return to profit in Q1 has reduced the risk of a financial shock.
In light of resilient dynamics in the economy and easing fiscal concerns, economists have revised their projections up by 0.2 percentage points compared to last month’s forecast. They now expect GDP to expand 1.8% in 2017. However, the risk of a disorderly negotiation of NAFTA and rising domestic political noise are threats to the outlook of the economy. Analysts expect the economy to expand 2.1% in 2018.
MONETARY SECTOR | Inflation continues to slow in Latam ex-Venezuela
Higher prices compared to last year for most commodities, strengthening global demand and an improving performance in some of the region’s key economies are alleviating inflationary pressures in Latin America—without considering the current period of hyperinflation in Venezuela. Our regional estimate shows that Latin America’s inflation (ex-Venezuela) fell from March’s 7.7% to 6.9% in April, which marked the lowest rate in more than two years. The main exception is Mexico where a weak peso and a hike in gasoline prices at the beginning of the year are pushing inflation to levels last seen in 2009.
Venezuela is experiencing an episode of near hyperinflation and, considering its effects, inflation in Latin America is projected to end this year at 33.7%. Excluding Venezuela, Latin America’s inflation is expected to fall to 6.5% this year (2016: 8.8%). Going forward, analysts project regional inflation excluding Venezuela to fall further to 5.3% in 2018 (31.0% including Venezuela).
Written by: Ricard Torné, Head of Economic Research