The Latin American Economies... & The Great Recession Dr. Robert J. Sonora Visiting Professor of Economics Department of Macroeconomics and Economic Development University of Zagreb Zagreb, Croatia and Associate Professor of Economics School of Business Fort Lewis College Durango, CO USA March 14, 2013 Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 1 / 87
1 Overview 2 Prelimaries/History Aside Characteristics of a Crisis The US: Great Depression & The S & L Crisis Developing Countries/Emerging Markets Seeds of the 2007 -? Crisis Response 3 Latin America Commonalities Pre-Crisis Regional Snapshot Argentina Brazil Chile Mexico 4 Summary Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 2 / 87
Overview Countries I will concentrate: Argentina Brazil Chile Mexico others Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 4 / 87
Prelimaries/History Tulip Bubble Let s bring the whole together: You had two Dutch Professors We are in Spain We are all talking about financial crises I will talk about Latin America Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 6 / 87
Prelimaries/History Tulip Bubble Sixteenth and Seventeenth Century Dutch bankers lent money to Spanish Explorers Guaranteed by gold (collateral) brought back from El Dorado They did find gold Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 7 / 87
Prelimaries/History Tulip Bubble Gold came back to Europe flowed to the Netherlands M S Dutch looked for a place to invest, so they bought Tulip bubbles (flower seeds) There was a typical asset bubble, bulbs value grew to many times a house One day one guy says this is crazy and sells all his bulbs, people think he must know something, they sell POP! The Netherlands went into a deep recession Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 8 / 87
Prelimaries/History Aside The Netherlands It should be noted that many financial instruments we use today were invented in Amsterdam: stocks, futures, other derivatives Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 9 / 87
Prelimaries/History Characteristics of a Crisis Characteristics Liberalization of capital/financial markets: bank capital, risky behavior, moral hazard, forebearance Systemic Risk: Political/Economic Asset bubble Inflation rising nominal interest rates Recession Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 10 / 87
Prelimaries/History The US: Great Depression & The S & L Crisis Great Depression Brief look at the (not so) Great Depression: Lessons Learned? Aftermath of the Recession of 1907 Creation of Federal Reserve System: Central Bank of US Deregulation of financial market and new financial innovations margin lending stock market Real technology shock drought & irrational exuberance: could farmers repay loans? Bubble burst Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 11 / 87
Prelimaries/History The US: Great Depression & The S & L Crisis Great Depression Result Unemployment Inflation < 0 RGDP Loss of confidence in Banks bank run/panic? Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 12 / 87
Prelimaries/History The US: Great Depression & The S & L Crisis Aside: The FED Goals Maximize: Employment and Economic Growth Minimize Unemployment and inflation Initial Tools Discount rate (direct to member banks) Federal Funds Rate (interbank loans) Reserve Requirements Act as lender in the last resort Discovered Open Market Operations (1920s) Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 13 / 87
Prelimaries/History The US: Great Depression & The S & L Crisis Great Depression First test for the new FED, their response Fear of bank run banks run out of money? FED worried about inflation and shut banks out of loans M S UR RGDP π < 0 real interest rates (r t = i t π t) Recession exacerbated by FED behavior FED Chairman Bernanke is one THE experts on the Depression Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 14 / 87
Prelimaries/History The US: Great Depression & The S & L Crisis Great Depression Result? Lead to heavier regulation of financial markets: Glass-Steagall Act Greater understanding of the impacts of monetary (nominal) policy on real economic activity Fast Forward... Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 15 / 87
Prelimaries/History The US: Great Depression & The S & L Crisis Too Big To Fail and S & L Crisis Continental Illinois (198x): Deregulation, Bad and risky loans, Systemic crisis, too big to fail S & L Crisis (1986): Deregulation S & Ls, Borrowed short, lent long, commercial real estate bubble, Higher SR interest rates, Recession defaults 750 failures & taxpayer $124 billion Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 16 / 87
Prelimaries/History Europe and Japan Europe and Japan (1990s) Europe (1991-92): Movement towards single currency: (a.) EMS/EMU: managed floating exchange rates (b.) external shock, The Wall (c.) Germans fear π i D i D (d.) UK in recession & speculative attack on UK, sharp depreciation of UK (e.) UK and Denmark leave ERM, Sweden floats kröne near death of European Experiment Japan (1995 -??) (a.) Deregulation Risky loans Real estate bubble (b.) Bank capital deposits defaults lending (c.) Japan $440b in taxpayer money & 10 year recession Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 17 / 87
Prelimaries/History Developing Countries/Emerging Markets Latin American Debt Crisis: 1980s Deregulation of LA financial markets LA viewed with a lot of high expectations ret LA > ret US : loans in 70s rose at 20.5% per year US banks lent to LA countries: primarily Brazil, Argentina, Mexico Government budget deficits and loose monetary policy π LA External (i.e. US) debt $75 billion in 1975 $315 billion in 1983 Recession (Oil Crunch) hit π US i US LA debt service 1982 Mexico defaulted Sharp depreciation of Latin American currencies & IMF austerity introduced Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 18 / 87
Prelimaries/History Developing Countries/Emerging Markets SE Asian Crisis (1996) Liberalization of financial markets capital requirements inflows of foreign capital Falling interest rates borrowing debt accumulation Fixed exchange rate regime Risk and debt capital outflows sharp depreciation Thailand Malaysia S Korea Taiwan Indonesia Philippines... Russia Argentina Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 19 / 87
Prelimaries/History Developing Countries/Emerging Markets Baht and Won Exchange Rate Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 20 / 87
Prelimaries/History Developing Countries/Emerging Markets Mexico & Argentina Peso Crises Mexico (1994) (a.) NAFTA liberalization of financial and goods and services markets (b.) $US denominated government bonds (tesobonos) issued to finance government debt (c.) Fixed exchange rate (d.) Country risk: Assassination and insurrection in Chiapas Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 21 / 87
Prelimaries/History Developing Countries/Emerging Markets Mexico Figure : Mexican Peso - $US Exchange Rate Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 22 / 87
Prelimaries/History Developing Countries/Emerging Markets Mexico & Argentina Peso Crises Argentina (2000) (a.) Deregulation of financial markets and $ARG 1 =$US 1 dollarization capital requirements (b.) Crosshairs of SE Asia crisis Exports (c.) With fixed exchange rate, peso appreciated to the real (Brazil) ARG largest trading partners Net Exports (d.) Recession debt accumulation risk (external debt 50% GDP) interest rates (e.) peso confidence depreciation of peso, external debt Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 23 / 87
Prelimaries/History Developing Countries/Emerging Markets Argentina Figure : Government Debt to GDP Ratio Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 24 / 87
Prelimaries/History Seeds of the 2007 -? Crisis Hints There were hints of a recession in 2006 and 2007 (NBER: 12/2007-6/2009) Unemployment Housing starts Housing price 0 Inverted yield curve: i LR < i SR But not crisis... until Lehman Bros Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 25 / 87
Prelimaries/History Response FED Response and Interest Rates Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 26 / 87
Prelimaries/History Response GOV Response and Interest Rates: ARRA Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 27 / 87
Prelimaries/History Response European Response Almost the opposite to US, as you are aware: Austerity (Relatively) Tight monetary policy Political squabbling, to put it mildly Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 28 / 87
Prelimaries/History Response Core Risk Premia 10Y Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 29 / 87
Prelimaries/History Response PIIGS Risk Premia (Germany) 10Y & What to make of the Italian 5 Star Party? euro? Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 30 / 87
Prelimaries/History Response PIIGS Output Gap: ln(y t /ȳ t ) Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 31 / 87
Prelimaries/History Response Aside: Detroit = Greece? Recent events in the City of Detroit Once hub of American auto industry easy money increased competition from SE Asia and Europe Signed questionable public worker labor contracts Broke, bonds are junk State of Michigan will take over Detroit Debt $7.8 billion higher than previously expected Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 32 / 87
Countries I concentrate primarily on the biggest economies: Argentina Brazil Chile Mexico... and others Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 34 / 87
Commonalities What of Latin America? Latin America is not a country... but there are similarities (a.) Large natural resource endowments (b.) Corruption (c.) Chávez is, well, was, not an outlier: Extremist governments (left and right) (d.) Similar development strategies in 1960-70s: Import Substitution see (a.) (e.) Optimism followed by pessimism followed by... (f.) Structural reforms, economic integration and liberalization: closed open: NAFTA, FTA, MERCOSUR monetary policy: π = 3% because of high inflation Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 35 / 87
Commonalities Differences (a.) Different political regimes: relatively right (Chile and Mexico) & relatively left (Argentina and Brazil) (b.) OECD membership: Chile and Mexico (c.) BRIC country: Brazil (d.) Really close ties to US: Mexico (NAFTA) (e.) ARG-BRA-CHL close trading partners (MERCOSUR) Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 36 / 87
Pre-Crisis Latin America (a.) Economies strong (b.) Commodity prices up, oil and others (c.) FDI up (d.) Structural Reforms (e.) Increased trade (f.) Improved banking/financial/stock market system (g.) Borrowing costs Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 37 / 87
Regional Snapshot Growth Real GDP Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 38 / 87
Regional Snapshot GDP Deflator: Inflation Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 39 / 87
Regional Snapshot Number Unemployed Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 40 / 87
Regional Snapshot Real Exchange Rate RER stronger currency, adjusted for prices Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 41 / 87
Regional Snapshot Current Account Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 42 / 87
Regional Snapshot Capital Account Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 43 / 87
Regional Snapshot Monetary Policy: Growth Monetary Base M1 = µmb, µ > 1, µ = money multipler Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 44 / 87
Regional Snapshot Monetary Policy: Discount Rate Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 45 / 87
Regional Snapshot Financial Derivatives Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 46 / 87
Regional Snapshot Sovereign Debt/Risk: Short Run Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 47 / 87
Regional Snapshot Sovereign Debt/Risk: Long Run Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 48 / 87
Argentina Argentina Many boom and bust cycles Many banks owned by Spanish banks In 1920s Argentinian economy was, more or less, on par with Canada Close trade ties with Brazil and Chile Good steak Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 49 / 87
Argentina Argentina: Output Growth, Inflation, and Unemployed Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 50 / 87
Argentina Argentina: Exchange Rates and Official Reserves EXR depreciation of ARG peso Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 51 / 87
Argentina Argentina: Balance of Payments Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 52 / 87
Argentina ARG-BRA: Trade and Exchange Rates EXR appreciation of ARG peso Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 53 / 87
Argentina Argentina: Government Debt-GDP Ratio Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 54 / 87
Argentina Argentina: Monetary Aggregates and Multiplier multiplier = M1/MB Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 55 / 87
Argentina Argentina: Interest Rates Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 56 / 87
Argentina Argentina: Balance of Payments Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 57 / 87
Brazil Brazil Member of the B(razil)R(ussia)I(ndia)C(nina) countries, up-and-coming developing economies (though this has fizzled somewhat, should be the C countries now) Frequently dabs in expansionist economic policy: π π e Increasing industrialization and agribusiness (e.g. soy farming in Amazon) Close trade ties with Argentina and Chile Newly found oil wealth Good music Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 58 / 87
Brazil Brazil: Output Growth and Inflation Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 59 / 87
Brazil Brazil: Price Adjusted Real GDP/Person Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 60 / 87
Brazil Brazil: Monetary Policy Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 61 / 87
Brazil Brazil: Trade and Exchange Rate Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 62 / 87
Brazil Brazil: Reserves and Capital Account Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 63 / 87
Brazil Brazil: Change Stock Market Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 64 / 87
Chile Chile Political Violence (1950-60s) Bauxite Right wing dictator (coup: 1956(?) Pinochet) Chicago Boys : Free Market Reforms more like redistribution However, led to actual free market reforms Close trade ties with Argentina and Brazil Been relatively stable, aside from the odd earthquake Good wine Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 65 / 87
Chile Chile: Output Growth, Inflation, Unemployment Rate Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 66 / 87
Chile Chile: Expenditure Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 67 / 87
Chile Chile: Expenditure Share Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 68 / 87
Chile Chile: Trade Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 69 / 87
Chile Chile: Sector Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 70 / 87
Mexico Mexico So Far from God, So Close to the United States Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 71 / 87
Mexico Mexico (a.) Oil (b.) Basically one party rule: PRI (c.) Punctuated by 6 year political business cycles (d.) Experimented with liberalization and fixed exchange rates (e.) (Recent) Drug war (f.) Adopted restrictive monetary policy: explicit inflation target (g.) Good food Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 72 / 87
Mexico Mexico: Gap and Inflation Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 73 / 87
Mexico Mexico: Short and Long Term Interest Rates, Yield Curve Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 74 / 87
Mexico Mexico: Monetary Policy Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 75 / 87
Mexico Mexico: Bank Health Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 76 / 87
Mexico Mexico: Exchange Rate Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 77 / 87
Mexico Mexico: Trade Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 78 / 87
Mexico Mexico: Terms of Trade Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 79 / 87
Mexico Mexico: Sector Production Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 80 / 87
Mexico Mexico: Real Min Wage and Remittences Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 81 / 87
Summary (a.) History of Crises in Latin America (b.) But also everywhere else (c.) Latin American Countries are different (d.) Early on Brazil was best situated (e.) Later Mexico (f.) Argentina reverted to old self... Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 83 / 87
Summary Response (a.) Monetary policy was expansionary mitigated effects (b.) Central banks lent more to member banks (c.) Expansionary fiscal policy (d.) currency depreciation Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 84 / 87
Summary Aftermath of Crisis (a.) Relative to US risk, like the rest of the world (b.) Fall in commodity/oil (MX & VZ) prices (c.) US recession World recession When the US sneezes, the world catches a cold (d.) FDI was reasonably stable (e.) Generally did OK Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 85 / 87
Summary Dr Robert Sonora is an Associate Professor of Economics at Fort Lewis College. Currently he is a Visiting Professor of Economics in the Faculty of Economics and Business at the University of Zagreb, Croatia as a Fulbright scholar. He has Masters degrees from the University of Essex in the UK and The Ohio State University. He earned a PhD from Ohio State on macroeconomic integration in a single currency area and thus retains some skepticism about the success of the euro in it s present form. Currently his research include: open economy macroeconomics, monetary economics, intra-national macroeconomics, international trade, transition economics and sport economics. He is Director of the Office of Business and Economic Research at Fort Lewis College. Sonora (EFZG/FLC) The Latin American Economies March 14, 2013 86 / 87