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Trends in Latin America

Page history last edited by PBworks 12 years, 2 months ago

Macro Trends


The next bubble to burst may be commodities in 2008


Over the past decade, we have seen two major asset bubbles build up, and then burst.  First we saw the internet bubble, and then the housing bubble...so, whats next?  My guess is commodities.  But, the real question to ask is... why are we seeing these asset bubbles rise in the first place?  What is the underlying root cause of these asset bubbles?  If you look back to 1991, we saw a mild recession, and the fed cut interest rates to spur growth.  Then came the Asian crisis of 1997, and more economic stimulus.  Lay this on top of already low interest rates as a result of China purchasing massive amounts of US treasuries (in effect, lending money very cheaply to the US), and you see that liquidity was building up.  This excess financial liquidity, mixed with tech spending led to the first bubble, then a burst in 2001.   But, the underlying liquidity issue did not go away, and in fact it got worse.   In response to the bubble bursting, the the following 2001 terrorist attacks, Enron scandal, etc... the Fed once again cut interest rates to spur the economy.   The Chinese and other nations continued to lend the US money at extremely cheap rates, and again a liquidity pool built up... this time in the housing market as investors poured money into "safe assets" of homes.   Cheap borrowing costs led to the second asset bubble, which then burst in 2007, leading to a credit crisis around the world.   But, in response to a slowing economy, the Fed once again cut interest rates.  Do you see a pattern here?  Where do you think the excess liquidity will flow next time?  Where is the next asset bubble (that will once again burst).  In earlly 2008,  Im making the prediction that commodities are the next asset bubble, and we are on track for another bursting / crisis....what will be the impact on commodity dependent economies in Latin America?.... add your comments here...




Possible recession in 2008


At least when looking at the US in isolation, it looks possible that the US could slip into recession this coming year.  but, considering all of the global linkages (see trends below), it is possible, that the US housing slump / credit crisis / recession could drag other countries down as well.  But, as in any economic state, there will be opportunities (as well as challenges).  In this section, we will look at possible connections (linkages) between a potential US slowdown, and what that means for global investors. 



how would a USA recession effect Latin America 




Latin America becomes dependent on commodity exports to Asia


Over the past decade, along with Chinese incredible growth, we have seen a major trend of Chinese demand for commodities, and countries in Latin America have been more than happy to feed that demand.  In the process of creating stronger economic ties with China, many of these Latin American countries have become very dependent upon the export of these commodities to China.  But, what will happen if China were to slip into a recession?  (all economic theory says that it must happen at some time)  Will a Chinese recession necessarily also mean a Latin American Recession?   In this section we will discuss all aspects of the economic relationship between Asia and Latin America










Trends in Argentina


For the past five years, Argentina has been growing not quite like China, but close. Everything indicates it will do it again this year. There are some folks out there who think that the reason this is happening is because Argentina is following the same model as China. They may be right. Whether this is a good thing is another matter.




As we know, the opinions of economists this side of the hemisphere about the Chinese model are divided. There are those who think the model is both good and sustainable (e.g., proponents of the BW2 hypothesis). There are others who think that it may be good for China, but not for the global economy, not to mention the fact that it is not sustainable. And then there is me (and whoever wants to join my cause). I personally think that, regardless of the sustainability or lack thereof of the Chinese growth model, it is not good for anyone, not even for China.


By “Chinese growth model” I mean the policy of accumulating reserves by preventing not just nominal but real exchange rate appreciation. Quite frankly, I don’t mind that the Chinese peg the nominal exchange rate to the US dollar. Any market economy is entitled to do so, for this is a matter of monetary policy choice. So, if the Chinese like a fixed exchange rate over a flexible one, let them have it. More important than the formal exchange rate per se are, in my opinion, two other ways in which China interferes with global macroeconomic rebalancing. These are: capital controls, particularly on outflows, and price controls, particularly on food and public services. It is in these areas of policy where China flunks the “market economy” test by a long shot.


For, consider what would happen if the capital account was open and the prices of wage goods and nontradables were determined by the market rather than by the government (via administrative controls and subsidies handed from the budget). Part of the excess supply of money caused by the monetization of the current and FDI account surpluses would be eliminated via portfolio outflows and the other part, by domestic inflation. In the first case, the international allocation of Chinese assets would be done by the private sector rather than by the Central Bank of China, hence resulting in less money flowing to the US Treasury and more to where is needed . In the second case, the real exchange rate would appreciate facilitating macroeconomic adjustment via a reduction in the current account surplus.

But, more importantly, there would be less microeconomic distortions in China, hence guaranteeing more efficiency in the allocation of Chinese resources. In such a world, the national and subnational governments of China would be able to redirect public resources from subsidizing wage goods to increasing social spending in areas such as health care, education, and social security, hence improving the welfare of the Chinese people.


China would probably not grow faster as a result of these policy changes, but it would certainly grow better. Right now, the Chinese economy must invest about 40% of its GDP (net of depreciation) to grow by 10% per year. This implies that the incremental output-capital ratio is 0.25: substantial, but well below China’s potential. Rise it to 0.35 by improving investment efficiency and it will be possible to increase consumption by 12 percentage points of GDP without reducing growth.




Like China, Argentina has been able to manipulate (albeit only for the past five or six years) the real exchange rate through a combination of sterilized FX intervention, capital controls, and massive subsidization of wage goods including foodstuffs (via export taxes and  moral suassion), transportation (via budgetary transfers to private sector providers), and energy and other utilities (via the freezing of tariffs). Unlike China, however, Argentina has a low saving ratio (less than 25% of GDP, which makes misallocating resources more intertemporally onerous); binding supply constraints (due to a lack of investment in key sectors such as energy); a tight labor supply (as formal workers are nearly fully employed); and an inflationary history that renders capital and price controls quite ineffective. So, if the growth model of accumulating reserves at the price of accumulating microeconomic distortions is not good for China, it must be worse for Argentina, where early signs of exhaustion are evident from the acceleration of inflation since 2005, an acceleration that market distortions and the tampering of CPI statistics cannot disguise.






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