Pablo Sanguinetti
Ex vicepresidente de Conocimiento, CAF
This article was also published in El País
The COVID-19 pandemic has led to an unprecedented economic crisis. The world’s main economies are in a sharp recession, which will inevitably impact Latin America.
In fact, we had not seen such a harmful combination of factors in the region, ranging from the trade contractions caused by the closure of Asian factories, to the collapse of the price of commodities—especially energy—and the scarcity of external financing, since the 2008 crisis.
A sign of the seriousness of the situation is that, since early January, the bloc of emerging countries has accumulated capital outflows of approximately USD 85 billion, far higher than during the 2008 crisis and other episodes of financial volatility over the past decade.
It is important to understand that the necessary social distancing and lockdown measures have been of significant economic cost. With activity grinding to a stop, particularly in the sectors that create the most jobs—namely services, construction, trade and tourism—families and businesses are expected to see a drop in their income, as well as lower investment and purchasing power.
To counter this, the region’s governments are considering immediate emergency measures in terms of their monetary, financial and fiscal policies, as well as exchange rates. On the one hand, central banks implement monetary policies that aim to prevent companies from becoming insolvent and cease payment to employees, avoid mass layoffs, and help businesses keep payments to suppliers. At the technical level, these measures focus on lowering interest rates and increasing liquidity in domestic currencies, through special facilities.
Exchange rate measures include direct interventions in foreign exchange markets to reduce exchange rate volatility and accelerated depreciation (e.g. in Brazil), or the use of financial instruments to reduce currency price uncertainty. Colombia’s central bank, for instance, announced the launch of USD 1 billion in foreign exchange forwards in an effort to bring stability to the market.
On the financial side, interest and capital payments on corporate debts are also being restructured. Public and development banking is also chipping in to support local businesses. Ecuador’s BIESS, for example, is refinancing a variety of its credit lines, while Uruguay’s Siga announced increased funds to SME loan programs, and Colombia’s Bancoldex pledged a liquidity line of credit to an assortment of tourism and aviation companies.
These measures are being supplemented by tax breaks, the reach of which may be greater and more expeditious. In the face of the current health emergency, it is imperative to bolster the public health sector’s capabilities in order to protect the population.
Measures also include aid to the productive sectors and the segments of the population most affected by the crisis, safeguarding their operability and purchasing power. In an effort to help business, governments are also deferring a portion of corporate, payroll and value added tax payments, while expanding electronic transfer systems and rolling out unemployment insurance and pensions to the poorest demographics.
Considering the high rate of informal jobs in Latin America, it is necessary to support and reach out to the lowest-earning segments and most vulnerable productive sectors, namely MSMEs, through mechanisms such as direct transfers. It will also be necessary to include freelance workers and professionals providing personal services, as they lack access to unemployment insurance, have little savings capacity, do not receive social transfers like the most vulnerable groups do.
The authorities face enormous challenges in achieving the expected objectives as few countries in the region have room to advance fiscal stimulus programs able to tackle the scale of the current crisis. Many countries are being forced to undergo budget consolidation processes to restore or ensure the sustainability of their debt, which reduces their room to maneuver. In this regard, many of the measures represent expenditure advances or reallocations of budget items, rather than additional stimulus.
Also, a slower domestic economic activity will translate into a substantial drop in tax revenue, further reducing opportunities to implement such necessary measures as tax breaks or spending expansion. Thirdly, panic in the international financial markets is expected to curb borrowing, thus restricting safeguard measures, especially in countries with underdeveloped domestic financial markets and that rely mostly on external financing.
In this scenario, short-term actions taken by international agencies will prove vital. Institutions such as the IMF and the World Bank, as well as several regional banks including the IDB and CAF, have announced an array of new loans to deal with the COVID-19 pandemic, in addition to reallocating the existing credit lines. CAF has launched a USD 2.5-billion emergency credit line for countries in the region.
In short, high uncertainty prevails as to the resilience of local economies and their capacity to bounce back in the face of the pandemic. However, local authorities must take strong and swift action to prevent these disruptions from causing much more permanent damage to the economy.
