Brazil, Chile, Colombia and Peru are top recommendations. Neutral on Argentina, Mexico and Venezuela and underweight on Ecuador.
TOP PICKS: Presidents Luiz Inácio Lula da Silva and Alan Garcia in Brazil in April. (Photo: Ricardo Stuckert/Brazilian President's Office)BRAZIL
Brazil’s history is a continuum of commodity booms and busts, from sugar to rubber, and coffee to iron ore, Brazil always benefited from its vast mineral and agricultural wealth. The gold boom of the 16th and 17th century was one of the most prosperous times for the country, transforming the small town of Vila Rica in Minas Gerais into one of the richest cities on the planet. The town was subsequently renamed Ouro Preto, which means Black Gold. Today, Brazil is reliving another Black Gold boom as it develops its deep water oil fields.
The Ministry of Mines and Energy recently announced that international companies will be allowed to bid for the pre-salt offshore oil fields as early as next year. However, the process may be delayed since the congress needs to pass new legislation to enable the regulatory framework. The recent rise in oil prices sparked renewed interest in the offshore concessions. Brazil has almost doubled its oil production since the start of the decade, reaching 2.6 million of barrels of oil per day from an initial level of 1.4 million barrels of oil per day. This is converting Brazil into one of the biggest energy producers in the western hemisphere.
CHILE
The sudden rise in copper prices brought a much needed respite to the Chilean economy. Chile is clearly suffering the effects of the global downturn. Economic activity contracted 4.6 percent y/y in April, marking the worst downturn since 1999. Fortunately, the decline in economic activity is easing inflationary pressures. Consumer prices rose 3 percent y/y in May. This was below the market’s forecast of 3.5 percent y/y, and well within the target range of 2 percent to 4 percent set by the central bank. The easing of inflationary pressures is allowing the central bank to loosen monetary policy in a bid to jump start the economy.
However, the recession is providing the opposition with the ammunition needed to criticize government policies. Even though Finance Minister Andres Velasco won international praise for his stubborn adherence to fiscal discipline during the copper boom, opposition leader Sebastian Piñera and his economic adviser, Cristian Larroulet, criticized him for not doing enough to help small businesses. Chile clearly needs to take steps to revitalize the economy by introducing reforms to improve labor flexibility, improve education and boost productivity. Hopefully, the uptick in copper prices will provide it with some respite from the international storm.
COLOMBIA
After a sudden change of heart by President Obama on his opposition to the Free Trade Agreement, the White House appears to have cooled on the idea. Government officials indicated that the Administration would try push through the trade pact before the end of the year, but it now looks like it will revisit the issue in 2010. It is not clear whether other legislative priorities, such as addressing the U.S. economic crisis, were more important, or whether pressure from the labor unions forced the U.S. President to acquiesce. Unfortunately, Colombia is accustomed to such sudden stops and starts. Bogota always thought that the free trade pact was imminent, only to be left jilted at the altar.
Interestingly, the devaluation of the U.S. dollar against the Colombian peso is making the trade agreement a moot point. With the dollar quickly approaching the 2000 mark, Colombian exporters are losing their competitiveness. This is particularly true with regards to the manufacturing sector. Colombian textile and apparel producers are extremely price sensitive. Given that the Chinese Yuan is virtually pegged to the dollar, the appreciation of the peso is eroding their maneuverability. The Colombian central bank may need to respond by lowering interest rates in order to avert the peso from gaining too much ground.
PERU
The Peruvian economy showed signs of more deceleration. Peru’s GDP grew only 1.8 percent y/y in the first quarter, the slowest pace in more than 7 years. This was down sharply from the 6.6 percent y/y GDP growth that was posted during the fourth quarter of 2008. Exports were seriously affected by the decline in U.S. demand. Manufacturing dropped 5.1 percent y/y and fishing plunged 20 percent y/y. Peru’s mining sector also contracted during the first quarter, but the recent rise in commodity prices should offset the decline.
Fortunately, Peru’s consumer sector remains strong. Private consumption expanded 3.4 percent y/y. The banking sector is well capitalized, thus providing Peruvian households with the liquidity needed to confront the downturn. Along the same lines, the central bank is easing monetary policy to provide relief to consumers and companies. The effects of the international crisis forced us to revise down Peru’s 2009 GDP forecast to 2.7 percent y/y.
ARGENTINA
With elections only a few weeks away, and the government lagging in the polls, there is a sense that the government will need to change its behavior. The polls show that President Cristina Fernandez de Kirchner will lose her majority in the lower house and erode some of her majority in the senate. In a desperate ploy to boost his wife’s standing, former President Nestor Kirchner threw his hat in the ring. However, the government’s approval rate is hovering near 40 percent, about half of where it was a year ago.
At the same time, the economy is decelerating sharply. Automobile sales dropped 25 percent y/y in May and some economists expect the economy to contract 3 percent y/y in 2009. We still have our forecast at 0 percent growth, but will need to revise it if the data continues to show a deceleration. Moreover, the government looks like it may be forced to trim its aggressive behavior. Argentine asset prices rallied at the beginning at the beginning of June, when the Ministry of the Economy announced that it was making an early payment on the Boden 12s. Given its dwindling resources, the government is realizing it may need to tap into the capital markets to make ends meet. Therefore, it may be time to behave.
MEXICO
Mexico is enduring a barrage of international crises and domestic problems. Given the high level of integration with the United States, the credit crisis is wrecking havoc with the Mexican economy. Not only has it depressed the demand for Mexican exports, it sent remittances lower. Transfers from Mexican workers residing abroad fell 19 percent in April, the largest drop ever. The decline in remittances adversely affected many of the poorer regions, aggravating the social tensions.
To add to the economic woes, the H1N1 virus sharply depressed tourist receipts. It was bad enough that many U.S. and European households were cutting back on their vacation plans, but the swine virus was the coup de grace. The disease is also increasing medical costs, helping to aggravate the budget deficit.
Last of all, the economic downturn is providing further fuel to the narcotic wars that are ranging throughout the country. The decline in economic activity if forcing many people to turn to illegal operations. This is creating a perfect storm that will push the country into the worst recession since 1932.
VENEZUELA
Hugo Chavez is in the midst of a nationalization spree, as oil prices recover. In addition to recent takeovers in the banking and steel sectors, the Venezuelan government approved new legislation to nationalize chemical companies. Moreover, the new legislation indicated that the owners would not be allowed to take their cases to international arbitration. The move is clearly ruffling feathers throughout the region, forcing President Chavez to state that he would not nationalize any Argentine and Brazilian companies. The government’s actions are odd, given that it is also trying to attract foreign investment to help offset the decline in oil production.
In another strange move, the government approved $7 billion in new bond issues and financing. The funds will be used for further acquisitions and the modernization of the electricity sector. The government will plow $22 billion into the sector. The bond issues will be denominated in bolivars and dollars, and it could be another channel for local investors to avert capital controls. The recent rise in oil prices allowed the central bank to shift the devaluation of the bolivar to the back burner. Therefore, many local investors and businesspeople are looking for new ways to shift their capital offshore.
ECUADOR
Ecuador stubbornly continues to march to a different beat, despite being shunned by the international community. President Correa won a second term in office, winning 52 percent of the vote. With a new mandate in hand, the Ecuadorian leader successfully restructured the external debt. The government offered bondholders 35 cents on the dollar. It claims to have gained control of 80 percent of the bonds through the debt exchange and buybacks. Most of the remaining bonds consist of the 2015’s, which the government is still servicing. The rating agencies, led by Fitch, indicated that they would raise the country’s debt rating due to the successful completion of the restructuring operation.
Although Ecuador was able to engineer its debt restructuring, investors are very reticent about the government’s behavior. Capital inflows increased sharply during the second quarter, as international banks slashed credit lines. International reserves dropped 30 percent. This forced Quito to order the banks to repatriate funds in an effort to keep liquidity high.
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