Transcript Latin American Financial Crises and Recovery

Latin American Financial
Crises and Recovery
Jan Kregel,
Senior Scholar, Levy Economics Institute of Bard College and
Distinguished Professor, Center for Full Employment and Price
Stability, University of Missouri, Kansas City
Remarks Prepared for the Conference:
A Decade After: Recovery and Adjustment since the East Asian
Crisis,
Organised by International Development Economics Associates (IDEAs), Good
Governance for Social Development and the Environment Institute (GSEI), Action
Aid and Focus on the Global South
July 12-14, 2007, Bangkok Thailand
Asia & LA: Similarities and Differences
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Similarility: Capital Reversals caused crisis
Differences in causes of the capital inflows and the capital
reversals In Asia
• savings and investment rates were extremely high and stable growth at
double digit rates, stable prices and exchange rates with contained fiscal
and external balances.
• countries did not need additional financial resources from capital
inflows,
• foreign investors were attracted by what appeared to be a successful
long-term growth process with stable returns.
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In Latin America
• savings and investment rates low, chronic fiscal and external deficits,
hyperinflation and exchange rate volatility.
• Little in performance to attract foreign investors.
• Inflows induced by the Brady Plan and the structural adjustment policies
that accompanied it.
• Expectation of quick profits from the liberalization, privatizing stateowned companies, market-led liberalization and deregulation brought
inflows.
• Inflows were primarily into financial rather than real assets.
Policy Induced Flows Reversed in 1990s
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Mexico 1994-5 Tequila crisis
Brazil exchange-rate crisis of 1999
Argentina Default crisis of 2001
Confirmation of the failure of the policies to provide
sustainable recovery from the 1980’s debt crisis.
Brazil and Mexico
• persisted with previous policies
• maintained price stability, this has come at the cost of a lower trend
growth rate.
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Argentina made a break with previous policies
• defaulting on its foreign debt,
• increase in its trend growth rate and employment,
• evidence of emerging inflationary pressures and supply bottlenecks,
especially in energy.
Lessons from Latin America
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The lessons to be drawn from Latin
America must be viewed in the context
of
• the different causes that attracted the
inflows and the subsequent reversal,
• in particular the failure of post-crisis
adjustment policies.
Latin America --Policy-Induced Capital
Flows
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Brady Plan shifted solution of debt problem
• from repayment via large current account surpluses
• to restoring access to international capital markets in
order to refinance their outstanding debt to banks
• by shifting it to the private sector institutional lenders in
those countries.
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Latin American countries were to introduce price
stability and investor-friendly policies
• Stabilisation of exchange rates and rapid return to full
convertibility of currencies at a targeted exchange rate
or fluctuation band.
• Mexico and Brazil introduced regimes with tight
fluctuation bands
• Argentina a fixed dollar rate of exchange through the
Convertibility Law.
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All experienced substantial real exchange rate
appreciations
Support of Exchange Stability
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Policies to introduce market-based resource allocation
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reduction in the role of government in the economy
privatization of state-owned enterprises,
creation of (primary) government budget surpluses.
restriction on expansion of the domestic money supply
open domestic markets to foreign competition to reinforce price
stabilisation
Financial market deregulation, capital account liberalisation
and creation of domestic financial markets to encourage
capital inflows to purchase domestic financial assets and
provide foreign exchange to repay, and the opportunity to
refinance debt.
Privatization of state enterprises through domestic equity
markets drew foreign portfolio investors to “emerging
markets” as an asset class.
Reasons for Inflation Success
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After years of failure, success in fighting inflation did not produce a balance
of payments crisis as capital inflows more than covered external deficits,
increasing reserves reinforce market perceptions of successful recovery.
• The Brady Plan and the structural adjustment policies brought the
capital inflows that would be produce the reversal and the crisis of the
1990s.
• The failure to deliver long-term increases in growth and profitability
that produced the eventual reversal.
A number of factors that were crucial to the success in fighting inflation
were also important in preventing a return to sustained growth.
• real appreciation of exchange rates,
• excessively high real interest rates and weak domestic demand
• caused deterioration in external accounts and dampened incentives to
invest to increase domestic productivity.
• Capital inflows had little impact on domestic savings, and were primarily
in portfolio assets rather than real assets.
While Latin American countries were praised for their good
“macroeconomic fundamentals” they have not been able to harness trade as
an engine of stable growth in per capita incomes.
Good Macro Policy, Bad Micro Policy?
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The good macroeconomic fundamentals –
• low inflation,
• primary budget surpluses and
• control of the money supply,
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Overlooked more traditional macro economic
fundamentals
• high levels of aggregate demand,
• low real interest rates
• competitive real exchange rates.
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As a result they created an overall macroeconomic
environment that impeded the required structural
changes at the micro level.
Bad Micro Policy
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Five areas can be identified in which
the structural adjustment policies
undermined the stability of the
macroeconomic fundamentals and the
adjustment of the production structure.
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overvaluation of the exchange rate,
the high level of real interest rates,
composition of the fiscal budget,
the composition of the external account
the failure of adjustment of the industrial
production structure to reduce the dependence
of increased investment and increased export
capacity on imported inputs.
Post-Crisis Recovery Brazil, Mexico and Argentina
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Common characteristics of the recovery
• the crisis forced countries to abandon their exchange rate
policies and the need for the highly restrictive money and
fiscal policies necessary to attract the external inflows to
keep rates stable or fixed.
• The possibility to relax policy provided an opening for
recovery and higher growth that was experienced in all
countries.
Brazil and Mexico took measures to restore their prior policy
stance with nominally flexible exchange rates.
• Their expansions were short-lived and soon experienced a
return of capital inflows, exchange rate overvaluation, and
low trend growth.
Argentina rejected a return to externally financed growth and
used low interest rates and a policy of stabilization of the real
exchange rate to support growth.
• It has experienced higher than trend growth on a sustained
basis since 2002.
Brazil’s 1999 Exchange rate crisis and recovery
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After Recovery -- restrictive policies were quickly reintroduced.
Cardoso re-election run on the premise of maintaining control
of inflation
• -price stability depended on stability of exchange rate.
Despite deterioration of the external and fiscal balances, tight
monetary and fiscal policy maintained to generate the external
capital inflows to defend Real in the face of rising
unemployment and falling growth.
• Real interest rates went from 20 per cent Real Plan over 40
per cent end 1998.
• Unemployment rose from under 5 per ce3nt in 1995 to over
8 per cent in 1998,
• growth fell from a Real Plan average of over 3 per cent to
near zero in1998.
Policy reinforced by an over $35 billion IMF support loan,
requiring maintaining current policies.
• Nonetheless net capital movements fell from $26 billion in
1997 to less than $16 billion at the end of 1998
• Foreign exchange reserves fell from nearly $75 billion in
April of 1998 to around $36 billion in January 1999.
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Against a CA deficit over $30 billion in 1997 and
1998 and no signs of improvement in fiscal or
external balance, after re-election exchange rate
abandoned in January of 1999.
The Real surpassed 2 Reis to the US dollar and
then stabilized.
Against conventional expectations
• inflation pass-though was moderate
Arminio Fraga introduced a policy of guiding
interest rates downward, while the government
persisted in its policy of running primary
surpluses.
The result was a short-term spurt in growth in
2000 that was quickly reversed by the
contractionary policies at the end of the Cardoso
administration and the speculation surrounding
the incoming Lula administration.
Brazil Contributions to GDP Growth
7.0000
GDP
Final Consumption
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5.0000
Net Exports
Gross Fixed Capital
Final Government Consumption
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1.0000
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The Recovery from the Mexican Crisis of 1994-5
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Mexico followed exchange rate band, and capital inflows more than sufficient to
cover its rising external and internal imbalances.
End 1994 NAFTA treaty and political turmoil caused foreign investor loss of
confidence
Short-term government liabilities could not be renewed and the peso collapsed.
The IMF + other governments produced largest aid packages ever granted.
Mexico required to implement adjustment package,
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Restrictive fiscal and monetary policy and wage controls
The result --a deep decline in output and employment of over 6%, and over 5%, with inflation around
51% in 1995.
The crisis was quickly reversed and the economy started to recover in the third
quarter of 1995, and in 1996 GDP grew over 5% and by over 6% in 1997.
The immediate trigger was the fall in private expenditure
Non-oil exports responded quickly and robustly to the large depreciation of the peso,
and the domestic receipts from oil exports also rose.
The large improvement of the trade balance from the downward adjustment of
imports and the growth of exports supported the level of demand and economic
activity.
The decline in government expenditure reversed -- the growth rate from the quarter
prior to the crisis until the upper point of the recovery exceeded the rate of growth
of GDP.
Private expenditure did not recover from its downswing level, and consumption and
fixed investment were lower at the top of recovery than prior to the crisis.
Although employment was restored to its pre-crisis level, average real
(manufacturing) wages did not recover. In fact they were 23% lower at the upper
point of the recovery than in the quarter prior to the crisis.
The government Contribution to Recovery
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Demand by government on the domestic market, is equal
to government expenditure on goods and services, plus
government transfers and wages, plus domestic interest
payments.
Deficit refer to government expenditures above those
financed with taxes which in Mexico includes government
revenues from oil industry.
Thus a rise in the price of oil allows the government to
increase domestic expenditure without changing the deficit,
but nonetheless creates a net additional demand.
According to estimates made by Julio Lopez Mexico has
maintained a positive domestic deficit of around 17% of
GDP in the 1980s, and 6% in the 1990s.
Government expenditure and domestic deficit fell until the
IIIQ 1995 and from then both recovered to a relatively
high level during 1996.
We can conclude that both the domestic deficit and total
government expenditure played an important role in
recovery sustaining the domestic demand and private
profits.
Argentina’s Recovery from the 2001
Default
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The political stalemate that followed the
resignation of the government and the Christmas
Eve default of Argentina’s sovereign debt meant
that there was little time for a formal change in
economic policy.
However, the elimination of external and internal
debt service automatically created a less
restrictive policy that was reinforced by the
market-led devaluation of the exchange rate and
the increase in the terms of trade of Argentina’s
main agricultural exports
Thus, the initial response was a sharp increase in
exports and a collapse in imports due to the
deepening recession.
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Cuenta Corriente Devengada y Caja (ult. 4 trim, en % del PIB)
Comercial (Bienes y Servicios)
Cuenta Corriente Devengada
Cuenta Corriente "Caja"
Desde II
cuenta c
deveng
coincid
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Ene-06
Oct-05
Jul-05
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Oct-04
Jul-04
Abr-04
Ene-04
Oct-03
Jul-03
Abr-03
Ene-03
Oct-02
Jul-02
Abr-02
13000
Ene-02
15000
Oct-01
Jul-01
Abr-01
Ene-01
Oct-00
Jul-00
Abr-00
Ene-00
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Jul-99
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Jul-98
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millones de U$S
Importaciones por Uso Económico
17000
Grupo1: Bs de Capital + Piezas y Accesorios
Grupo2: Bs Intermedios + Combustibles
Grupo3: Bs de Consumo + Vehículos
11000
9000
7000
5000
3000
1000
Policy Change
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Newly government concentrate don domestic recovery and
thus did not seek a rapid conciliation with creditors.
Rapid reconciliation had been Fund objective to allow
Argentina to borrow to meet arrears in debt service a la
Brady
IMF declined to support the government program, -- O’Neill
doctrine that the past history of IMF supported bailouts of
debtor countries has created moral hazard amongst
creditors
As a result, not only did the IMF withdraw support, it failed
to provide support for the Argentine recovery program as
had been the case of Brazil and Mexico.
Government argued only return to sustained growth could
support debt repayment.
Question --- whether the surplus target would maximize
probability of sustained growth or the amounts received by
creditors.
In response to Fund insistence on the latter Argentina
noted that the Fund was supposed to remove moral hazard
but by supporting interests of creditors it was creating
moral hazard at the expense of Argentina to forego growth
in order to repay debt at 100 per cent of its face value.
66%
63%
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I-06
Demanda Agregada como % del PIB
Serie Desestacionalizada
71%
25,0%
70%
20,0%
69%
15,0%
68%
67%
Consumo
10,0%
Exportaciones Netas (eje derecho)
IBIF (eje derecho)
5,0%
65%
64%
0,0%
-5,0%
Inversión Bruta Interna Fija
23%
Serie Desestacionalizada
22,0%
22%
20,8%
21%
20%
19%
% del PIB
18%
17%
16%
15%
14%
13%
12%
10%
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III-05
I-05
III-04
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III-03
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III-02
I-02
III-01
I-01
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I-00
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11%
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III-04
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II-05
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II-03
III-03
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II-04
II-02
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I-01
II-01
III-01
IV-01
I-02
I-00
II-00
III-00
IV-00
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II-99
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III-98
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II-97
Equipo Durable como % de la IBIF
(a precios de 1993)
44%
42%
40%
38%
36%
34%
32%
30%
PIB
Tasas de Variación Interanual
14%
11,7%
11,3%
10%
8,7%
9,2%
9,0%
8,6%
8,0%
7,7%
8%
6%
9,3%
IV-05
10,4%
10,2%
III-05
12%
7,1%
5,4%
4%
I-06
II-05
I-05
IV-04
III-04
II-04
I-04
IV-03
III-03
I-03
0%
II-03
2%
Financiamiento de la inversión
por origen del ahorro
Período 1993–2005. Base caja. % del PIB
25%
Desahorro
externo
20%
Cta cte (+)
15%
Ahorro
externo
10%
Ahorro
privado
Cta cte (-)
5%
0%
-5%
93
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95
96
IBIF + discr. est.
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98
99
00
01
Ahorro Nacional
02
03
04
Ahorro Público