Comments on “Policy Trade-offs for

Unprecedented Times”

Mauricio Cardenas, Senior Fellow and Director, Latin America InitiativeBrookings Institution

April 22, 2009

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Comments

• Very good report

• It makes two major key points:

» Problems in LAC are only about to begin

» Policymakers should worry more about a sustained recovery

• Structures analysis around a fundamental concept (ILR)

• Challenges complacency

• But reaches excessively pessimistic conclusions

I will make 8 points

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Point 1: LAC governments should not bet on a V-shaped recovery

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Point 1: LAC governments should not bet on a V-shaped recovery

And according to the latest IMF’s projection, there are severe downside risks to LAC’s GDP growth:

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2009 GDP Projections

Sources: IMF, WEO, April 2009, JP Morgan, and RGE Monitor.

RGE April 2009 JP Morgan March 2009 WEO April 2009

Argentina -1.8% -3.0% -1.5%

Brazil -1.4% -1.4% -1.3%

Chile -0.4% -1.5% 0.1%

Colombia -0.7% 0.5% 0.0%

Mexico -4.6% -4.0% -3.7%

Peru 2.8% 3.5% 3.5%

Venezuela -2.0% -0.5% -2.2%

Latin America -2.1% -2.2% -1.5%

2009 GDP Growth Projections

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Point 2: Reserves are at record highs and external debt at record lows

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Point 3: Fiscal accounts have worsened, but not too much.

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Point 4. This crisis started differently, but now looks familiar

Source: IMF, WEO, April 2009

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The paper’s key contribution: Focus on Precarization and Liquidity

International Liquidity Ratio

(+) International Reserves

(-) All public sector maturing debt (domestic and external)

(-) Stock of sterilization instruments

(-) Short term external liabilities of the private sector

Determinants:

Initial debt levels, effective level of reserves, debt maturities, future fiscal deficits

Missing: Current accounts, FDI, and new lending.

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Point 5. A note of optimism on new issues and FDI

Source: IMF, WEO, April 2009

3Total of equity, syndicated loans, and international bond issuances.

-4

-2

0

2

4

6

8

-4

-2

0

2

4

6

8

1990 92 94 96 98 00 02 04 06 08 10 12 14

Private direct investment Private portfolioOther private Official flowsNet financing flows

Balance of Payments Financing: Latin America and the Caribbean(Percent of GDP)

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Point 6. Nonfinancial Firms are not excessively leveraged, and banks are making significant profits

Source: IMF, WEO, April 2009

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Point 7. Assumptions and Results

The maturity structure of public debt is assumed to deteriorate, but:

“On April 14, Colombia sold $1 billion worth of sovereign bonds (offering of additional 2019 bonds with a yield of 7.375 percent)

On April 21, Peru offered up to 200 million soles ($65 million) in sol-denominated sovereign bonds on the local market. The bonds will be a reopening of the outstanding Aug. 12, 2031 bond.

Brazil issued a sovereign bond in January worth $1.025 billion. The bond, due in 2019, came with an interest coupon of 5.875% for an effective yield of 6.127%. The government may reopen its Global 2019 overseas bond later this year.”

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Point 7. Assumptions and Results (cont.)

The paper says: “A general implication that emerges from these scenarios is that in the absence of policies, in some cases liquidity ratios could arguably reach dangerous thresholds that could lead to a crisis.”

The question is what is that dangerous threshold. We start at 200%. When should we begin to worry (adjust)? Now?

ILR’s seem to be doomed to fall:

• Automatic fiscal stabilizers

• Fiscal stimulus measures

• Financial precarization

• Monetary expansion

So, determining the reasonable level is crucial

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Point 8. Conclusion

Measure the impact of ILR’s on key economic variables (financial and real).

A reduction in the ILR is desirable (the purpose of having reserves)

The question is how much?