Economists warn Latin America faces another lost decade

Oil shocks, stagflation and an inability to pay foreign debts pitched Latin America into its first ‘lost decade’ in the 1980s. Economists are worried similar variables could spark a new decade of lost growth and falling quality of life for the region.

Alejandro Werner, former director of the western hemisphere department of the International Monetary Fund, said a new lost decade could span the years 2015 to 2025. Speaking at a panel discussion on March 2, he said the GDP per capita in 2025 will likely be below what it was in 2015.

Carmen Reinhart, senior vice-president and chief economist of the World Bank, told the panel that Latin America is “halfway to a lost decade already”. As of 2021, median per capita incomes were still 7% below their previous peak. That represents 3.5 years of lost growth, she argued.

Reinhart noted several similarities to the lead-up to the original lost decade, including an “insufficient response from the Fed, which lets the [inflationary] processes become more ingrained”.

She added: “Extreme poverty in low-income countries has rapidly increased, setting back progress by eight to nine years.”

Eduardo Levy Yeyati, a senior fellow at think-tank the Brookings Institution and a former chief economist of the Argentinian central bank, echoed Reinhart’s concerns. Yet he argued that Latin America’s debt profile is stronger than the past which “might reduce the exposure to financial contagion”. Levy Yeyati said the shares of debt in dollars and short-term instruments were below their levels in the late 1990s.

“The good news is there’s not a lot of short-term debt,” Reinhart agreed. “But the share of variable debt rate is close to an all-time high… So, the vulnerability impacts are something that should be an even bigger point of concern.”

Levy Yeyati believes Latin America is “financially exposed”. He said that on three dimensions – monetary policy, social microeconomics and politics – countries are in danger of triggering a harmful economic spiral. Heightened inequalities lead to political instability which feeds the flames of economic instability, he told the seminar.

“The post-pandemic decade”

The economists spoke at an event hosted by the Peterson Institute for Internal Economics, discussing a new book, Latin America: The post-pandemic decade.

The 16 economists who contributed to the book found that poverty and inequality deepened during the pandemic. Latin America, they said, was the hardest-hit region in the world in terms of both livelihoods and lives lost.

Liquidity injections generally favoured medium and large businesses. Tax exemptions served as a “second-best option” for small and “labour-intensive” businesses. Policies protecting employment were limited to formal employees. Informal, self-employed and other forms of employment were sent to welfare windows that could be underfunded and staffed, the book finds.

Latin America was also affected because of its limited capacity for remote working. The authors attribute this to lacking broadband infrastructure and low digital literacy.

Impact

Besides notable exceptions like Argentina, Levy Yeyati said, most Latin American countries have gone through a large growth in revenues without large tax revenue growths. He recommended “reasonable, fair, and progressive increases in taxes in order to enhance the menu of social services”.

“It’s not entirely a supply-shock crisis,” Reinhart said. But, she added: “What’s happening in Ukraine and Russia reinforces a lot of these issues, especially supply shocks. Because of a history of high inflation, LatAm tends to see more rapid pass-through and more rapid adjustment in expectations.”

Calling inflation a “regressive tax” – meaning it falls more heavily on poorer groups – Reinhart pointed to the concentrated price rises in food and fuel, which make up the largest shares of the household consumption basket in Latin America. But she sees the problem as more expansive than inflation.

“Exits from global negative real interest rates have been rare and have not been associated with a lot of stability,” she warned, pointing to the turbulent experience of the 1980s.

Reinhart said many countries will work with the IMF on debt repayment issues. She said the world is getting a preview of potential problems in the IMF’s work with Argentina. Initial stages will require more lending by the fund, she said, “but there will come a time for repayment, and that will be tough.”

Levy Yeyati noted that the amount of no-conditionality Covid assistance drawn from the IMF was about half the level the fund had expected. He argued that the profile of demand for IMF debt could have altered or lessened in recent years.

Reinhart said the outlook did not seem promising. “If the best scenario for Latin America is muddling through and avoiding a major crisis, which will be no small achievement in some cases, it is a rather bleak prospect,” she said.

Levy Yeyati said he is a cautious optimist, but that it is likely a decade of growth will be lost.