Latin America: Recovery hits soft patch in first quarter; financial volatility returns to the region
Available data suggest that Latin America’s economy lost some steam at the start of 2018, as the region’s recovery continues to be bumpy. Regional GDP growth is expected to have come in at 1.7% annually in the first quarter, below the fourth quarter’s nearly four-year high of 2.0%. While regional growth has notably improved since a tough 2015–2016, economic slack and vulnerabilities still exist in many economies, which is keeping the recovery uneven overall.
The first quarter’s softer growth was due to slowdowns in regional giants Brazil and Mexico. Preliminary data for Mexico revealed that growth slid in the first quarter, dragged down by falling industrial output and weak services sector activity. That said, the first quarter’s figure was skewed by unfavorable calendar effects due to the timing of Easter, and a resilient external sector and healthier consumption dynamics kept activity solid overall. Although official national accounts data is still outstanding for the rest of the region, a slew of weak monthly data led FocusEconomics analysts to downgrade the Q1 GDP forecast for Brazil this month. The recovery is expected to have decelerated due to weak household spending and lackluster industrial activity.
On a brighter note, Chile, Colombia and Peru are expected to have gained steam in the first quarter, buttressing activity in the region. Higher commodity prices likely helped shore up activity in Chile and Colombia, while Peru is expected to have successfully weathered political uncertainty and benefited from healthy overseas demand. Meanwhile, available data suggests that Argentina expanded at a solid, albeit weaker, pace in Q1, moderating from Q4’s over two-year high.
Despite the first quarter’s slowdown, the region’s recovery remained on track, and growth has hovered around the highest levels seen since 2013. One of the principal drivers of the regional recovery has been low inflation and accommodative monetary policy, in part due to the past strength of most of the region’s currencies. However, a tightening cycle by U.S. Federal Reserve and global geopolitical uncertainty has renewed financial market volatility in recent weeks and has eroded the value of many of the region’s currencies.
Argentina was particularly hard-hit due to its large external imbalances, and a huge sell-off in the peso at the beginning of May resulted in extraordinary measures by policymakers to stem its decline. After three hikes by the Central Bank in just over a week, and amid depleted international reserves, the government announced on 8 May it would seek an agreement with the IMF to cover the country’s financing needs. The move should help restore confidence in the economy, but it could come at a cost. The IMF will likely demand fiscal consolidation and potentially painful economic reforms, and the agreement could hurt President Mauricio Macri politically ahead of the 2019 election.
Meanwhile, the region’s busy political cycle remains underway elsewhere. In Paraguay, Mario Abdo Benítez and his Colorado Party comfortably won the 22 April general election, maintaining the right-wing party’s longtime grip on power and ensuring continuity of the current government’s business-friendly policies. Venezuela is next to head to the polls on 20 May; however, the lack of a legitimate and fair process will likely ensure President Nicolás Maduro’s victory and the continuation of economic mismanagement. One week after, Colombia will hold presidential elections. Polls point to a victory for centre-right candidate Iván Duque, whose business-friendly stance should bode well for the economy.
Woes in Argentina fuel downgrade to regional growth
The extraordinary events in May led to a sizable cut to Argentina’s growth outlook for this year, which is reflected in the regional growth forecast. The drastic depreciation of the peso, together with higher interest rates and likely fiscal austerity, has dampened the country’s growth forecast; FocusEconomics analysts chopped Argentina’s 2018 GDP projection by 0.3 percentage points this month. This downward revision was the driving force behind a downgrade to the regional outlook, and regional GDP is now seen growing 2.2% in 2018, 0.1 percentage points below last month’s forecast. In 2019, growth is seen rising to 2.7%.
Outside of the events in Argentina, the region’s growth story is largely unchanged. The bumpy recovery should continue in the coming quarters, supported by healthy global demand, higher commodity prices and low inflation. However, spare capacity continues to linger in the region’s major players, and economic reforms are needed to improve the sustainability and quality of economic growth. Key elections in Brazil and Mexico will be critical to determining the future of economic policy in those countries, and political uncertainties are casting a shadow on the region’s broader outlook.
This month, the 2018 growth forecasts for Argentina and Venezuela were cut. Uruguay was the only economy to see its forecast upgraded, while all the remaining economies, including major players Brazil and Mexico, saw no changes to their projections.
Bolivia and Paraguay are expected to be the fastest-growing economies in the region this year, with economic growth of 3.9%. At the other end of the spectrum, Venezuela is seen contracting a significant 9.3%. The country is in a severe economic and humanitarian crisis due to a scarcity of basic goods and dollars, waning oil production and hyperinflation.
BRAZIL | Weak Q1 data emerges
A stream of downbeat data on the Brazilian economy has rolled in, suggesting that the recovery is weak. Retail sales decelerated and unemployment rose in the first quarter, boding poorly for private consumption in the period. Moreover, recent figures for the industrial sector have also been soft, with industrial production dropping in March, and the manufacturing PMI falling in April. In addition, both business and consumer sentiment dropped in April. To raise much-needed funding, the government is pushing ahead with the privatization of state utility Centrais Eletricas Brasileiras SA, more commonly known as Eletrobras, Latin America’s largest power company. On 9 May, a congressional commission voted in favor of a bill allowing the privatization, despite public opposition. Additional votes in the lower house and senate still need to be held to approve the privatization, which if implemented could boost the government’s efforts to meet fiscal targets.
The economy is seen gaining steam this year thanks to low inflation, accommodative monetary policy and a rebound in investment. Although some progress has been made in improving government accounts, tougher reforms are needed to put public finances on a sustainable path, and a market-friendly outcome in October’s elections is key to supporting the economic outlook. FocusEconomics panelists see the economy expanding 2.5% in 2018, unchanged from last month’s forecast. In 2019, the economy is seen growing 2.8%.
MEXICO | Election jitters dent sentiment
Economic activity regained its footing in the first quarter following an anemic second half of the year in 2017. An early estimate showed a jump in quarter-on-quarter growth at the outset of the year on broad-based gains across sectors. Separate data suggests that consumption dynamics improved in the quarter, with a fall in the unemployment rate, solid remittance inflows and easing inflationary pressures all pointing to a turnaround in household spending. Although manufacturing output ticked up in March after trailing strong manufacturing-exports data for months, survey data from the manufacturing sector was soft in April. Furthermore, construction activity appears to be getting a boost from pre-election public spending. Meanwhile, a busy political agenda has chilled economic sentiment; left-wing candidate Andrés Manuel López Obrador has been comfortably leading most polls ahead of the 1 July general elections. His likely victory has spooked the business community and weakened the peso, and it could throw a wrench into the final stages of NAFTA renegotiation talks.
Ebbing inflationary pressures, tighter domestic and U.S. labor markets and firmer credit growth should support household spending this year. Manufacturing exports are expected to benefit from healthy factory output in the U.S., while a successful rewriting of NAFTA would likely boost fixed investment. FocusEconomics analysts expect growth of 2.2% in 2018, which is unchanged from last month’s estimate. For 2019, analysts see growth accelerating slightly to 2.3%.
ARGENTINA | Government turns to IMF to prevent crisis
After days of financial volatility reminiscent of previous economic crises, the government announced on 8 May it was seeking IMF assistance to shore up the economy. Financial turbulence and growing concerns over Argentina’s capacity to service its large foreign-debt commitments caused the peso to lose over 10% of its value in a single day on 3 May, prompting the Central Bank to forcefully intervene. On 4 May, the government announced steep cuts in public spending and set a more ambitious fiscal deficit reduction target for 2018 to appease markets and restore confidence. The policies implemented will inevitably weigh on the recovery of the real sector, which continued to grow at a strong pace in Q1. It also represents a huge setback for President Mauricio Macri’s economic policy of gradualism, as well as his re-election bid in next year’s election.
Recent developments have generated uncertainty on the country’s economic outlook, and many of our panelists are still assessing the impact they will have. Nevertheless, panelists participating in the LatinFocus Consensus Forecast expect economic prospects to deteriorate and foresee the economy expanding 2.3% in 2018, which is down 0.3 percentage points from last month’s forecast. For 2019, growth is expected to reach 3.0%.
COLOMBIA | Data points to a pick-up in growth ahead of presidential vote
Data for the first quarter indicates that growth gained traction on the back of a rise in oil prices, signaling that the economic recovery is underway. Retail sales rebounded in January and accelerated throughout the quarter amid declining inflation and improved consumer confidence. While still in negative territory, consumer sentiment was less pessimistic on average in the quarter compared to the previous one, which likely helped buoy private consumption. Exports continued expanding at a strong pace, although they lost some ground from the final quarter. Colombia will hold the first round of its presidential election on 27 May. Centre-right candidate Iván Duque, from ex-President Álvaro Uribe’s Democratic Center (Centro Democrático), continues to lead in the latest polls and is the favorite to win.
The economy is expected to accelerate this year as oil prices climb higher. An expansion in oil exploration activities should help boost growth in the medium term. Dependence on oil exports will, however, leave the economy exposed to the same type of external shock that generated a slowdown in 2015–2016. Investment in the non-oil sector will thus be critical to achieving sustainable growth. FocusEconomics panelists expect GDP growth of 2.5% in 2018, which is unchanged from last month’s forecast, and 3.0% in 2019.
MONETARY SECTOR | Regional inflation inches down in April
A preliminary estimate for inflation, without considering the current period of hyperinflation in Venezuela, revealed that price pressures continued to decline in April. FocusEconomics estimates that inflation in Latin America (excluding Venezuela) was 5.2%, below March’s 5.3% and the lowest print since February 2013. Lower price pressures in Ecuador, Mexico, Paraguay and Uruguay drove the decline in regional inflation. Although pass-through effects from past exchange rate appreciation, along with continued economic slack, have helped tame price pressures, the recent depreciations seen in several currencies could cause price pressures to rise in the coming months.
Low price pressures have given central banks in the region room to conduct accommodative monetary policy in the past quarters, although the hiking cycle in the U.S. is quickly closing the window for low interest rates. In May, policymakers in Chile and Peru held interest rates unchanged, while the Central Bank of Colombia cut rates in April. Meanwhile, the run on the peso caused the Central Bank of Argentina to hike interest rates to an all-time high of 40.00% at the beginning of May to halt investor flight.
Regional inflation excluding Venezuela is seen rising by year-end, coming in at 5.7%. The forecast was revised up 0.2 percentage points from last month’s projection, largely due to a notable upward revision to Argentina’s inflation projection. The weak peso will likely drive up price pressures in the country, which could be exacerbated by subsidy cuts to soothe fiscal distress. In 2019, inflation is seen ending the year at 5.1%. Venezuela is experiencing an episode of hyperinflation; if we include it in the aggregate, inflation in Latin America is projected to end 2018 at 1,696% and 2019 at 102%.