Following the CFA Society Chicago 2015 Annual Conference held on May 7th which focused on emerging opportunities in Latin America, the CFA Society Chicago book club met on May 19th to discuss “How Latin America Weathered the Global Financial Crisis” by Jose De Gregorio. The author was the governor of the central bank of Chile during the global financial crisis.
When analyzing Latin America, economists tend to focus on LA-7 which represent 90% of the output of Latin America. LA-7 represents the countries with greater than $100B in GDP including Argentina, Brazil, Chile, Colombia, Mexico, Peru, and Venezuela. Brazil and Mexico represent 2/3rds of the output of Latin America.
Leading up to the global financial crisis and depending on country until the 80s and 90s, growth was rather weak due to high inequality, low openness to trade, weak institutions, high inflation, and unsustainable fiscal policies. Though in the 80s and 90s, structural reforms began to take place and the benefits were seen about a decade later. Chile for example was one of the first to benefit after the structural shift to an independent central bank and a flexible FX policy.
Latin America was surprisingly resilient during the global financial crisis given the many shocks there have been over the 70s, 80s, and 90s. Part of the resilience came from sound macroeconomic management and strong financial systems. Structural reforms that took place prior to the global financial crisis such as floating FX rates acted as shock absorbers. Other structural reforms included a more open economy and inflation targeting to help lower volatility. It has been found that the greater the credibility of the central bank, the lower the volatility of inflation. The commodity super-cycle of the early 2000s drove an expansionary boom in Latin America given the large dependence on commodity exports. What also helped Latin America was China’s double-digit growth leading to higher demand of copper from Chile, soybeans from Argentina, or oil from Venezuela. The commodity boom provided a nice cushion of wealth for the times that lay ahead. The large build-up of financial reserves resulting from the commodity super-cycle were initially expected to be used as insurance against rising FX rates but the reserves ended up providing a cushion during the global crisis. Some countries diversified their economies away from being dependent on a main commodity export which further provided downside protection. Chile for example was able to diversify away from copper and keep it from being a driver of the business cycle. Latin American countries also were less levered than the advanced economies. Mexico on the other hand was the worst performer during the financial crisis due to the proximity to the US and large trade agreements. Unlike during the Asian Financial Crisis, the terms of trade improved for Latin America helping to lead to a more resilient economy over the 08-09 period.
In summary, key drivers that helped Latin America weather the global financial crisis were a terms of trade boom, inflation control, the commodity super-cycle, structural reforms, credible central banks and financial systems, less leverage, sound macroeconomic management, and diversifying their economies away from being dependent on a single export. Major risks to Latin American countries include falling commodity prices, continued populism, hyperinflation, poor infrastructure, a weak educational system, high inequality, and not doing enough on the reform front.
Upcoming Schedule:
June 16, 2015: The Billion Dollar Mistake: Learning the Art of Investing through the missteps of Legendary Investors by Stephen Weiss
July 21, 2015: On Saudi Arabia: Its People, Past, Religion, Fault Lines – and Future by Karen Elliott House
*(NOTE: Those who attend the July Book Club meeting will receive a free copy of “Superpower: Three Choices for America’s Role in the World” by Ian Bremmer)
August 18, 2015: Superpower: Three Choices for America’s Role in the World” by Ian Bremmer
September 15, 2015: The New Cold War? Religious Nationalism Confronts the Secular State by Mark Juergensmeyer
October 20, 2015: TBD