Americas: Economic Review March 2011
Thomas White International
The economic repercussions to the Americas region from the massive earthquake and tsunami that devastated Japan are expected to be limited. Though Japan is a large trading partner for several countries in the region, the percentage share of Japan in their total external trade is relatively low. At the same time, some of the large manufacturers, especially in electronics and automobiles, may face slower output because of shortage in supplies of components from Japan. However, such supply chain disruptions are not expected to extend beyond a few months. Similarly, the escalation of political unrest in the Middle East and North Africa region, and the military action against Libya, have not yet caused a flare up in energy prices as feared earlier. Though retail prices of gasoline have risen in most countries, at current levels they are not considered high enough to cause any serious damage to consumer spending.
President Obama’s visit to the leading South American economies is expected to foster their trade ties with the U.S. by improving market access for their produce. The U.S now accounts for well over a third of the region’s exports, more than any other country or region. For this reason, some of the countries are keen on free trade agreements with the U.S. For the U.S. too, these trade relations will become increasingly important as the country is trying to expand its export in a big way. Latin America is one of the largest export destinations for American products and, because of the geographical proximity, the U.S. is in a better position to fend off competitors. U.S. efforts to strengthen its relations with Latin America are also seen as a move to counter the rising Chinese commercial interests in the region.
At a Glance
- United States: Better than expected labor market data for the month of February has led to renewed optimism about consumer spending growth this year. Export demand may sustain manufacturing growth, but the housing market conditions have weakened further.
- Canada: The economy faces the risk of slower growth if the unexpected political uncertainty restricts policy initiatives. The trade surplus narrowed in January as the currency remains strong.
- Brazil: The central bank is continuing its aggressive policy tightening as consumer inflation remains above its target. Manufacturing gained in February as conditions remain favorable.
- Mexico: Though consumption growth has slowed and the strong currency may restrict export growth, the Mexican government remains optimistic and may increase its GDP growth forecast.
- Argentina: Vigorous industrial growth during January and February, besides the sustained expansion in domestic spending, has encouraged upward revisions to GDP growth forecasts.
- Chile: The central bank increased the benchmark rate more than expected to contain inflationary risks, as the economy expanded faster in January on domestic consumption growth.
- Peru: The leading candidates in Peru’s presidential elections are expected to continue most of the current economic policies, if elected. The proposal for a windfall tax on miners has caused concern.
- Colombia: The country regained its investment grade rating after a decade, helped by the favorable economic outlook and the appreciable improvement in internal security.
United States: Stronger than expected labor market gains lift optimism about consumer spending growth
The U.S. economic outlook was strengthened by the better than expected February employment data, as well as the sustained growth in domestic consumption and exports. If the labor market recovery gains pace in the coming months, it is expected that the vigor in consumer spending will be sustained as recent data suggests that consumers remain willing to spend. Consumer credit outstanding increased again in January, though credit card outstanding slipped further. Confirming the trend, retail sales gained further in February, but the unexpectedly large fall in one of the consumer sentiment indices for March has caused unease. Healthy earnings and strong cash flows are expected to encourage businesses to invest in new capacities and hire more people. The GDP growth for the last quarter of 2010 was revised upwards, as business spending and inventories were higher than earlier estimates.
The U.S. manufacturing sector, which has been the driving force of the economy for the past several quarters, is expected to face some supply disruptions as several Japanese manufacturers have temporarily shut down or have lowered output after the devastating earthquake and tsunami. This will likely affect the electronics and automobile manufacturers the most, as some of the critical components are supplied almost exclusively by Japanese factories. Revenue losses from a potential decline in Japanese consumer demand may not be very significant for the large American corporations, while some manufacturers may gain from the reconstruction efforts in Japan.
Labor market data for the month of February has been very encouraging, as the economy added nearly 200,000 non-farm jobs and the unemployment rate slipped below 9 percent. The job additions for the month were substantially higher than the previous month, and more significantly, all the gains were in the private sector. The manufacturing sector added the most jobs, reflecting the strong growth in both domestic and external demand for equipment and other manufactured products. However, the labor force participation rate, or the percentage of adult population that is employed or is actively seeking jobs, has also declined. Accordingly, the total number of employed in the country has declined by nearly 7.5 million since the end of 2007. Even if February’s healthy rate of job additions is sustained, it will take several years before the jobs lost during the recession are regained.
After improving during the second half of last year, the U.S. trade deficit widened again in January as imports increased more than expected on higher energy prices, besides sustained domestic demand for industrial goods and consumer products. The volume of oil imports also increased during January, along with higher imports of automobiles and components, indicating sustained growth in domestic consumption spending. At the same time, the momentum in export growth continued, primarily led by strong global demand for capital goods and equipment.
The most recent data suggests that housing market conditions have worsened, as more affordable homes and low mortgage rates have so far failed to revive housing demand. While the high unemployment rate and tighter credit conditions have kept some potential buyers out of the market, others are wary of home prices falling further in the future. New home sales declined by more than a quarter in February, to the lowest level in several decades. Existing home sales also slipped by a tenth in February, while average home prices continue to decline. Foreclosures are on the rise, adding to the inventory of previously owned houses available on the market. Unless there is a more robust recovery in the labor market, with meaningful increases in average incomes, a sustainable housing market revival is not expected.
Canada: Unexpected political uncertainty may dampen growth outlook
Canadians will vote in early May to elect new members of the federal parliament, as the reluctance of opposition parties to support the federal budget brought down the government. The Conservative party government was in a minority in the federal parliament and could not pass the budget without the support of opposition parties. However, the proposed tax cuts and increased defense spending were unacceptable to the opposition. Though opinion polls suggest that the Conservative party is likely to improve its position if elections are held now, it is feared that the political uncertainty will likely restrict policy initiatives and may slow the pace of economic growth.
Canada’s trade surplus narrowed considerably in January, as imports expanded at a faster clip than exports on increased domestic demand for automobiles and energy. The Canadian dollar has retained its strength against the U.S. dollar, and concerns about the decline in the country’s export competitiveness remain. While accelerating imports is a welcome sign of robust domestic demand, if this trend continues, a lower trade surplus will likely reduce aggregate economic growth during the current quarter.
The Canadian economy is unlikely to face any significant repercussions from the earthquake and tsunami disaster in Japan. Though Japan is Canada’s fourth largest export market, the land of the rising sun accounts for only a very small part of total exports from Canada. Besides, Canadian exports to Japan are comprised mostly of industrial materials and coal, which may see increased demand as the reconstruction efforts in Japan start. However, some Canadian automobile and electronics manufacturers may face temporary disruptions in component supplies as it may take some time for Japanese manufactures to resume production at full pace.
In its most recent policy statement, the Bank of Canada noted that the economy is recovering slightly faster than expected. The bank also noted that while consumer and business spending remains strong, the country’s export sector is challenged by the strong currency and the relatively lower productivity gains. The bank has maintained its benchmark rate at 1 percent for a while now, as it believes inflationary risks are contained.
Brazil: Aggressive rate hikes continue as inflation remains biggest concern
After growing at 7.5 percent in 2010, the nearly $2.1 trillion Brazilian economy has overtaken Italy to become the seventh largest economy in the world, at current exchange rates. Sustained growth over the last few years has also lifted Brazil’s average income level, which now exceeds that of Mexico. Though the pace of economic expansion is expected to slow significantly from last year’s level, Brazil will likely grow faster than most large developed countries and is expected to join the five largest economies within the next few years.
Manufacturing output growth accelerated again in February, as both internal and external demand conditions remain favorable. The automobile sector continues to see fast expansion, with output growing by almost a fifth from a year ago. Exports were once again the driver, as domestic sales growth slowed in recent months, because of rising credit costs. To support manufacturers of technology products, the Brazilian government is planning to cut taxes on domestically manufactured goods in its proposed new industrial policy. Local taxes now increase the prices of electronic products like computers by nearly 10 percent, reducing the incentive for setting up domestic manufacturing facilities.
Earlier this month, Brazil’s central bank increased its benchmark rate by 50 basis, the second such rate hike this year. Consumer price inflation has accelerated for the last several months, rising to 6.13 percent annualized by mid-March. This is well above the central bank’s upper target of 5.5 percent, and the bank’s recent surveys suggest that inflation expectations continue to rise. However, credit growth has decelerated after the central bank’s earlier rate hikes and the successive increases in reserve requirements. It is expected that the central bank’s interest rate changes may turn less aggressive during the second quarter, if credit demand slows further.
Judging by the increased capital market activity, Brazilian companies are rushing to raise additional capital to expand capacity and build new facilities. Companies amassed nearly $9 billion between January and February, from new stock and bond sales. The market has already seen four IPO’s this year, while there were only 11 during the whole of last year. However, if interest rates rise further later this year, it is expected that demand for new issues may slow down.
Sustained domestic demand growth and the revival in external demand for manufactured products are expected to help Mexico maintain its economic growth momentum this year as well. Encouraged by the positive outlook, the Mexican government said it may consider an upward revision to the GDP growth forecast for the current year. Select private forecasters have raised their growth expectations to nearly 4.5 percent for this year, as compared to 5.5 percent achieved for last year. However, the pace of growth in domestic consumption has slowed in recent months as unemployment remains high even after last year’s healthy recovery in the jobs market. Besides, the Mexican peso is one of the best performing regional currencies against the dollar so far this year and further currency gains may dampen export growth. On the positive side, industrial growth in January was the fastest in more than a year.
Mexico’s central bank left its benchmark rate unchanged yet again this month, though the bank assessed that inflationary risks have increased on higher international commodity prices and adverse weather conditions, which may restrict domestic farm output. The central bank had earlier forecasted that inflation during the first half of this year would fall between 3 percent and 4 percent, which is below its target. Annualized consumer price inflation for the month of February slowed to the lowest in more than a year, despite higher prices of select farm produce. However, food prices are expected to rise further as the country’s corn output is predicted to be lower by more than 10 percent this year because of frost damage.
To resolve the dispute with the U.S. over allowing Mexican trucks to cross the border, the Mexican government has agreed to immediately reduce the tariffs on imported U.S. goods by half. In return, the U.S. government will end the existing ban and will allow Mexican trucks to ferry goods across the border. The remaining tariffs will also be removed after the U.S. issues the truck permits. The tariffs were first imposed in 2009 after earlier initiatives to settle the disagreement failed, and has since been a sore point in the extensive trade relations between the two countries.
Argentina: Growth forecasts for 2011 lifted as economic momentum remains healthy
Helped by strong growth in private consumption, the Argentinean economy expanded at a blistering pace of 9.2 percent last year, as compared to 0.9 percent for the previous year. Though the growth rate was slower than earlier estimates, it is still one of the fastest in the country’s history. From economic data released so far, the economic growth momentum remains strong this year as well. Industrial output growth during the first two months of the year has averaged nearly 10 percent, while surging imports confirm the sustained vigor in domestic demand growth. The country’s central bank expects the economy to grow at 6 percent this year, but private forecasts are more optimistic at close to 7 percent.
Work stoppages and strikes by workers demanding higher wages may disrupt export shipments from the country and slow down the economy. Strikes by workers at the country’s grain export centers disrupted shipments during last month as well as the first half of this month. While a nationwide strike by truckers was called off at the last moment, workers in other sectors may launch similar action if their demand for substantial wage increases is not met. On the other hand, if their demands are satisfied, it may worsen the country’s inflationary risks.
A group of creditor nations, known informally as the Paris Club, has reportedly rejected Argentina’s offer to settle its defaulted debt. The country had paid off most of its other bondholders last year, in an effort to regain access to international credit markets. Meanwhile, the Argentinean government said the country has been offered $3.5 billion in new credit lines from multilateral lenders like the World Bank and the Inter-American Development Bank. The government said the funds will be used to finance infrastructure projects.
Chile: Accelerating GDP growth invites unexpectedly strong interest rate hike
The Chilean economy accelerated in January, on stronger domestic consumption growth, supporting forecasts of faster economic expansion this year. The economy likely expanded by 6.8 percent in January, compared to 5.2 percent for the whole of 2010. Retail sales jumped 16 percent during the month and industrial output growth was a healthy 4 percent. External trade data for the month of February suggests that the growth momentum has sustained from the previous month. Exports increased by a fourth from the previous year, as copper prices set a new record during the month. Though copper prices have corrected subsequently, growth in export shipments may not slip substantially as Chinese demand for the metal is expected to rise further this year. However, an increase in imports due to accelerating domestic demand and higher energy prices will likely restrict Chile’s trade surplus this year.
Chile’s central bank yet again hiked its benchmark rate this month, but this time by a more than expected 50 basis points. It is widely believed that the bank expects inflationary pressures to increase in the coming months, as the economy is set to expand at the fastest rate in nearly a decade. Though consumer prices for the month of February were unchanged from a year ago, recent surveys by the central bank indicate that inflation is likely to rise well above the upper target of 4 percent by the end of this year.
The correction in copper prices and the central bank’s active intervention in the currency markets weakened the Chilean peso earlier this month. The currency recouped some of the losses after the interest rate hike and is expected to gain if the central bank speeds up its policy tightening in the coming months. However, the gains will be limited as long as the central bank continues to purchase U.S. dollars from the open market at the rate of $50 million a day.
As Peru heads for presidential elections during the first half of April, the likely policies and economic proposals of the leading candidates are attracting much attention. Alejandro Toledo, who was President between 2001 and 2006 and is widely seen as the front-runner in this election, is expected to continue his earlier policies of attracting foreign investments and seeking free-trade deals with other countries. The other leading candidates, who include the daughter of former president Fujimori, also broadly favor policies that are friendly to businesses to sustain the economy’s healthy pace of growth. However, Toledo’s recent statement that he will consider the possibility of a windfall tax on mining profits has caused concerns in the industry. The mining sector is one of the biggest employers in the country and accounts for nearly 60 percent of Peru’s exports.
Meanwhile, the central bank hiked its benchmark rate for the second time this year as inflation accelerated again in February. Consumer prices in Peru increased at an annualized pace of 2.23 percent last month, close to the central bank’s upper target of 3 percent, but are still among the lowest in the region. As domestic consumer demand remains strong, the central bank is widely expected to lift the benchmark rate further in coming months to cool inflationary risks. The central bank has also enhanced the reserve requirements for banks three times this year to restrict credit growth. On its part, the government cut the sales tax rate last month, which may also slow further gains in consumer prices. Despite the policy tightening, the GDP growth forecast for the current year has been increased to 7 percent from 6.5 percent.
Imports to Peru rose nearly a third from the previous year in January, yet again confirming the strong momentum in domestic demand growth. Imports of construction material and automobiles increased at a faster rate, while higher oil prices also contributed. Though international metal prices remain elevated, export growth was slower in January and Peru’s trade surplus narrowed from the previous month.
Colombia: Investment grade credit rating may attract increased investment flows
The appreciable improvement in internal security and the revived economic prospects have helped Colombia regain its investment grade credit rating, which the country had lost more than a decade earlier. While upgrading Colombia to the same level as Brazil and Peru, rating agency Standard & Poor’s said easier external liquidity and the development of domestic capital markets would limit the country’s sovereign debt risks. The Colombian peso gained after the upgrade on expectations of increased inflows, while bond yields slipped and the cost of credit-default swaps on the country’s debt eased. Moody’s and Fitch, the other major rating agencies, are also expected to announce similar rating upgrades in the near future.
As the investment grade rating is likely to attract increased capital inflows into the country, the Colombian government said it is prepared to manage such inflows. The government is confident that it has sufficient policy instruments to ensure exchange rate stability. Colombia has seen substantial growth in industrial investments by foreign businesses. Investments increased from slightly over $2 billion in 2002 to $10.6 billion in 2008, before declining to $7.2 billion the following year when global investment flows fell. Countries in the region, most notably Brazil, have been struggling to restrict investment inflows and the resultant currency appreciation that harms their export growth.
The Colombian central bank unexpectedly hiked its benchmark rate by 25 basis points last month, after holding the rate steady for nine months. Consumer price inflation for the month of January at 3.4 percent, moved closer to the upper end of the central bank’s target range. Though the central bank had recently stated that most of the inflation risks are due to seasonal trends, it is believed that the increased pace of economic activity encouraged the bank to lift the rate. The Colombian economy is expected to expand by 4.7 percent this year, as compared to an estimated 4 percent for 2010.
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