RaboResearch - Economic Research

October 5, 2017

Latin America has seen several years of difficult economic circumstances, but the fortunes seem to be improving. On the political front the region is shifting course. In this report we analyse recent economic, political and financial markets developments in the region and the outlook for the coming years. We also zoom in on the outlook of several F&A commodities.

Latin America: The only way is up
The external environment has improved and that bodes well for economic activity in Latin America in 2017-2018. The fall in commodity prices has put pressure on external balances and external buffers, but the lion’s share of countries have weathered the adverse period well. Higher inflation has also been a challenge in the past two years, but firm action by central banks has been successful in containing it. Fiscal positions have weakened across the board in the region and is problematic in some countries, such as in Brazil, Argentina and Costa Rica. Having hit rock bottom in 2016, most economies are expected to perform better in 2017, particularly so in South America. Argentina and Brazil will likely put the recession behind them.

Latin America: Trump-eting throughout the region
A large-scale protectionist package by the US could affect economies in Latin America via lower exports, foreign direct investment and remittances. Vulnerability is high across the board in the region, with Central American countries being most exposed. Our base case is that President Trump will refrain from serious protectionist measures given their large adverse effect on the US economy, already visible in the short term. In the US, protectionist measures could shave off 6 percentage points (ppts) of economic growth over four years. These cumulative effects could be as large as 1.7ppts and more than 5ppts, for Brazil and Mexico respectively.

Latin America: F&A outlook Brazil - Growing Chinese demand good for Brazilian exports
Short term dynamics hide long term structural trends. The short term outlook is defined by volatility for F&A commodities. In the long term, growing Chinese demand bodes well for F&A exports, namely soybean, animal protein, sugar and cellulose pulp. Brazil seems well placed to benefit this increasing demand for these commodities, while Argentina is also well position to benefit from the outlook for animal protein.

Latin America: The times, they are changing
Anti-establishment sentiment is growing in Latin America, just like elsewhere in the world. But, unlike the rest of the world, the region has reduced inequality in the past 15 years. In Latin America, the driver of discontent is a growing and increasingly vocal middle class. There is an increased risk of political turbulence around the many elections in 2017 and 2018, but that should subside afterwards. Recent corruption scandals reflect a strengthening of institutions. Latin America continues to shift away from populism and policy is becoming more constructive.

Latin America: FX outlook - Carry on and on
Latin American currencies have outperformed USD this year with carry providing a notable boost alongside broad-based USD selling. There has been greater divergence between currencies however with MXN a notable outperformer. As long as volatility remains low, we expect Latin American currencies to continue performing well but a surge in risk aversion could lead to rapid carry trade unwinds resulting in a sharp sell-off in Latin American currencies.