The Perfect Storm in Latin America

By Christopher Hernandez & Amanda Perez

Stagflation is a worldwide epidemic which has hit particularly hard Latin America and the Caribbean (“LAC”). Prospects for any substantial improvement over the next two years are dim. The Global Economic Prospects report of June 2022 highlights the precarious economic predicament that the global economy, including LAC, it finds itself. Many LAC countries stand to lose any hope for a speedy recovery as stagflation compounds the economic uncertainties of an already fragile regional economy.

A perfect storm comprised of inflation, rising interest rates, and supply chain bottlenecks had already been stifling the region. Inflation has hit hard a region characterized by wide wage gaps and high inequality. Increases in food and fuel prices, such as in Brazil and Mexico, have contributed to these economic pressures. Countries such as Chile and Colombia, through their economic stimulus policies, have contributed to inflation by increasing demand. In Argentina, monetary financing of the deficit has resulted in the unintended consequence of pushing inflation to approximately 6 percent.

Overall, in 2021, this region had a 6.7% growth spurt. However, the growth forecast is now 2.5% in 2022 and 1.9% in 2023. While many prices of commodities exported by this region is slated to increase, these gains will be offset by surging energy costs, increased cost of fertilizer, inflation, rising interest rates and other monetary tightening policies. According to the Global Economics Prospects, the outlook for growth in LAC is 2.5 percent in 2022, 1.9 percent in 2023 and 2.4 percent in 2024. These projections are based on several factors, including tighter financial conditions, weakening external demands, and rising inflation. Brazil’s growth is expected to decline to 1.5 percent in 2022, and 0.8 percent in 2023. Mexico’s growth is expected to weaken to 1.7 percent in 2022 and 1.9 percent in 2023. Colombia’s growth is projected at 5.4 percent in 2022 and 3.2 percent in 2023. Chile’s growth is forecast at 1.7 percent in 2022 and 0.8 percent in 2023. Peru’s growth is forecast to increase by 3.1 percent in 2022 and 2.9 percent in 2023. Finally, Argentina’s growth is expected to grow to 4.5 percent in 2022 but decline to 2.5 percent in 2023.

The Global Economic Prospects report cautions that a weaker than expected growth in major trading partners could result in decreased exports and investment in LAC. The World Bank recommends several measures to reduce the risk of stagflation: counter the spike in oil and food prices by boosting the supply of key food and energy commodities; establish debt relief efforts, particularly for those vulnerable low-income countries, and accelerate the transition to low-carbon energy sources. LAC countries will be challenged to accomplish these objectives in the short-term and will need to plot a tempered approach to achieving a longer-term solution. Navigating these tumultuous waters will require steady economic policies and constant vigilance of and adaptation to those political forces that will have a profound impact on the LAC economy.

Brazilian Petrobras Announces Increase In Fuel Prices Despite Warnings From President

Despite warnings from President Bolsonaro that “Petrobras may plunge Brazil into chaos,” the oil giant announced a rate hike in its gasoline prices by 5.2% to $0.79 per liter and a 14% increase for diesel to $1.09 per liter on Friday, June 17, 2022. Even though Petrobras’ price adjustments push fuel costs closer to international prices, the company’s decision to raise prices exacerbates Brazil’s inflation issues as transportation costs already compromise 11.7% of the overall inflation rate. This price increase intensifies the dispute between Bolsonaro and Petrobras as soaring inflation rates have been hurting Bolsonaro’s popularity in the election polls, and Bolsonaro in return has been politically threatening the company. He has already fired the CEO Jose Mauro Coelho – who remains active as the search for a new CEO progresses – and has raised the prospect of a congressional investigation into his activities. Bolsonaro has also proposed a three-part plan to curb fuel prices, the first part of which that caps ICMS state taxes on fuel, electricity, public transportation, and telecommunications, has already been passed by Brazil’s congress. Amidst the decision to increase fuel prices, Petrobras’ shares fell by 9% and investor concerns that the government’s quest to contain fuel inflation will sacrifice company profits of an already underperforming company continue to grow.

Chile’s Latam Airlines Requests $2.75 Billion Exit Loan

On June 13, 2022, the largest air transportation company in Latin America born from the merger of Chile’s LAN and Brazil’s TAM airlines LATAM asked U.S. Bankruptcy Judge James Garrity for approval of a new loan of $2.75 billion to exit bankruptcy. LATAM first filed for chapter 11 bankruptcy in May of 2020. While the airline is one of three major Latin American airlines that filed for bankruptcy during the pandemic, the others, Mexico’s Groupo Aeromexico and Columbia’s Avianca SA, have already emerged from bankruptcy within the past six months. Hoping to follow suit, the company awaits the judge’s decision on the loan after his decision on June 19, 2022, to approve their restructuring plan. Securing the exit loans and the company’s ability to continue to produce funds through a post-bankruptcy $800 million equity offering will ultimately determine the fate of LATAM.

Ecuador Bonds Worst Performing In The World This Month

Ecuador’s bonds have slumped almost 10 cents to 54 cents on the dollar, making them the worst-performing sovereign bonds this month. This marks a sharp change for the Ecuadorian market as previously its bonds beat all but four other emerging markets in the months prior. While bonds plummet, political tensions soar as waves of indigenous groups’ protests blockade the country in demand for more energy subsidiaries and price controls on basic goods. This political instability brings governability into the forefront of investor minds and thus affects Ecuador’s market performance as the slump underlines the lack of confidence in a country plagued by civil unrest. This descent deeper into debt and resurgence of protests also evokes memories of the time preceding Ecuador’s last default two years ago.

Mexico’s Expected Rate Hikes At Historical High

The central bank of Mexico Banxico is expected to bear a 75 basis-point rate hike next week, followed by a second hike of the same in the coming months, and is considering an intra-borrowing cost increase. Policy makers battle above-target inflation as Banixco has raised borrowing costs by 300 basis points this year and will raise rates to 9.5% by year end, a borrowing cost high not seen since 2008. After the Federal reserve raised its borrowing costs by the most since 1994, policy makers feel pressure to tighten; however, President Andres Manuel Lopez Obrador has criticized this monetary policy as stunting growth. Despite these circumstances, investors still hold belief in Mexico and its strong peso as it proves to be an “oasis” amidst the other politically unstable Latin American countries.

Colombia Elects New Leftist President Gustavo Petro

After a tumultuous period leading up to the election, Colombian citizens frustrated by decades of poverty and inequality elected the country’s first leftist president, Gustavo Petro. 58% of Colombia’s 39 million voters awarded Petro a little over 50% of the votes, in large part bolstered by the youth electorate demanding transformation of the country. Many young people dealing with a 10% annual inflation, a 20% youth unemployment rate, and a 40% poverty rate, said they felt betrayed decades of leaders with big promises and little delivery. While there is support of Petro, many also remain skeptical of his ability to deliver on his promises and fear his past as a former rebel member of the urban guerilla group M-19 given Colombia’s history of political turmoil due to leftist guerilla warfare. Petro intends on revamping the country’s economic system by shifting to other developing industries instead of depending on oil and illegal cocaine exports. He wishes to push Colombia to the forefront of the global fight against climate change by halting all new oil exploitation and beginning dialogues with the United States about its emission of greenhouse gases polluting the Amazon rainforest. Petro also plans to instill a progressive alliance with Chile, led by leftist Gabriel Boric and, and Brazil, whose leading candidate for the upcoming presidential election is leftist Luiz Inácio Lula da Silva. He also wishes to reassess relations with Venezuela. This collation of political cultures raises red flags for the United States; however, Petro made no comments suggesting he would take a hostile stance with the U.S.

Puerto Rico’s Governor Pedro Pierluisi Signs New Labor Reform Act

On Monday, June 20, 2022, Puerto Rico’s governor Pedro Pierluisi signed the new labor reform act House Bill 1244 into law to incentivize the expansion of the island’s workforce. The bill increases employee vacation time, reduces the qualifications for the annual Christmas bonus, and increases fringe and job protections. The Fiscal Oversight and Management Board (FOMB) of Puerto Rico advised against this decision and tried to prevent his signing, warning that the reform may have adverse effects on the economy; however, Pierluisi denied the board’s right to prevent his decision and claimed that FOMB has no evidence to support the claim that law would reduce economic growth. In a time where gross salaries have been reduced on the island despite an already 5% increase in wages due to high inflation rates, small businesses may not be able to afford further pay increases, discouraging the recruitment of employees. Thus, Pierluisi believes that more benefits will motivate more people to join the workforce.