How the pandemic has uncovered Latin America’s biggest operational risks: political fragmentation, corruption and ineffective policy formulation.
A study published by The Economist Intelligence Unit (EIU) recently evidenced the operational risk in Latin America after it suffered one of the steepest recessions due to the Covid-19 pandemic. The report’s focus was to inform investors of the emerging risks the region will face, and to provide them a tool to accurately identify and mitigate them. EIU concluded that the greatest operational risk present in this region is the political risk, more specifically the political ineffectiveness. political risk, more specifically the political ineffectiveness. Now, on top of that, Latin America’s (and the world’s) focus is tackling the pandemic, rolling out vaccines, and most importantly getting economic activity back to pre-pandemic levels. But one should keep in mind that Latin America is not so easy to work with, considering its history. Unlike Europe or the United States, Latin America is really struggling to formulate the adequate fiscal and monetary policies to achieve economic growth and put an end to the pandemic.
A contextualization is important Restrictions in Latin America are rising once again, vaccine rollout has been slow, and the limits on the capacity to extend fiscal support are concerning. With only 8% of the world’s population, this region has suffered nearly 1/5 of the recorded cases, and almost 30% of the deaths. Prospect is poor, and the economy has been hit very hard. But, before the pandemic arrived, Latin America was already facing a crisis- and therefore its recovery differentiates from Europe’s and the United States’. When a country is trying to mitigate the effects an event such as a global pandemic has had on its economy, the political structure and economic strength they had before is fundamental. Before the pandemic, Latin America was already suffering from political instability, which has been a consistent issue throu ghout its history. Additionally, the economy of most LATAM countries was based on exportation of goods, but it was not a very strong one.
Latin America was then hit with a second crisis, which was the covid-19 pandemic. The pandemic created an upsurge of social protests due to the unresolved issues that have never been addressed by the governments. Additionally, since this second crisis (being the pandemic) is an international one, exporting goods became a challenge. Therefore, these countries could no longer rely on selling abroad and opening their economy. The debt in almost every Latin country has increased by at least 35 percentage points in terms of GDP according to The Economist study. Social unrest has been prominent with people demanding increased spending in the benefits for the public sector. The countries that were once importing Latin America’s goods are also struggling economically due to covid.
When trying to tackle a crisis, there are two fundamental steps that must be taken. The first one is carried out by the Central Bank. When a crisis occurs, fiscal policies must be implemented to alleviate the consequences in the short term. The central bank therefore must keep the interest rates as low as possible and create a sense of positive expectations for the future in order to incentivize consumers to spend more. An expansionary fiscal policy is also necessary, which is when the government reduces taxes or increases expenditure that leads to an increase in either people’s disposable income and real assets and/or cash flow in the economy.
The problem is that only an estimated 1/6th of the population in Latin America pays taxes, and with fiscal support playing a very big role towards recovery, the situation starts getting out of hand. Policymakers lack room for policy implementations, and if policymakers don’t take the correct fiscal measures, they will create creditworthiness concerns that lead to further economic instability. And although this is hypothetical, there are some facts that evidence why the proper fiscal policy can’t be achieved due to lack of resources.
As said previously, labor informality was already a risk in Latin America; it has been the reality of most of its citizens for a long while. The pandemic has only increased this problem, since unemployment rates have reached even higher levels. The movement restrictions have disrupted education, which has therefore limited the entrance of skilled labor into the economy. High unemployment rate leads to lower wages, which lowers consumption levels. And on top of that, the uncertainty the pandemic has created has increased the negative expectations of the future, which further hinders consumption levels. Consequently, due to the poor outlook of the labor market, companies are less likely to invest because of the rigid labor markets, the little political appetite for labor reforms, and the low skilled workers.
So, how come the biggest operational risk listed in the report wasn’t the economic one? It turns out that Latin America is its own ‘destructor’. This is where the second step comes into play. Besides alleviating the crisis economically, there should be a re-structuring of the economy. All these economic drawbacks could have been avoided, or at least reduced, if they had focused on implementing effective policies and electing competent governments. One would’ve thought that nations learn from their past, and that history is there to teach them to avoid the mistakes they’ve already made. Unfortunately, it seems as if Latinxs, as the town of Macondo once did, suffer from a rare disease called ‘the quicksand of forgetfulness’. And the following are the symptoms, which have been a result of lack of education, opportunities and the concentration of power in the wrong hands:
Symptom number 1: political fragmentation. 2021 is a major election year for Latin America, with presidential elections being held in Ecuador, Peru and Chile. With an overwhelming amount of evidence regarding the negative effects of multiple military coups, dictatorships and rebel groups caused by political polarization, it would be reasonable to think that they have learned from their mistakes. But, as of 2021, the Economist Intelligence Unit indicates that in Peru, Mexico and Uruguay political polarization is increasing, which is undermining stability and favoring populism.
Symptom number 2: corruption. Cases of corruption rarely seem to be out of the news in Latin America. But amid a global pandemic, where your population is struggling financially and government aid is essential, one would expect the corruption scandals that usually make headlines to fade. But once again, Latin American governments have proved us wrong. From the uncontrolled increase in the price of body bags for cadavers in Ecuador, the investigation of almost half of all the governors of Colombia for mismanagement of funds to alleviate the effects of the crisis, to irregular contracts in the purchase of material for protection in Peru by the Police, it is clear that not even Covid-19 can stop this disease.
Symptom number 3: ineffective policy formulation. Many Latin American presidents jumped straight into closing borders and imposing national lockdowns once they understood the danger of Covid-19. Others, such as Brazil’s Jair Bolsonaro and Mexico’s Andres Manuel Lopez Obrador, decided to turn their back against the danger the pandemic imposed, dismissed the disease and even promoted not following social distancing. But it turns out that neither of those strategies worked. By closing the country and imposing lockdowns, you are economically suffocating all the informal workers and the companies which the government taxes to receive revenues. And by not imposing a lockdown, you are asphyxiating the health system and wiping out the possibility of controlling the virus.
Thanks to all the recurring problems that have not been resolved by governments, Latin American countries will most likely be facing one of the biggest recessions in history. Now, it all comes down to whether the correct leaders are elected, and the precise policies will be implemented to eventually reverse the economic downhill that is on itshorizon. Each crisis is an opportunity to change the economy for the better- to make the economy more digital, technological and stable. Latin America has a lot of potential to offer. Its population is everyday becoming more educated, and entrepreneurship is rising. The question now is whether Latin America will finally break free from ‘the quicksand of forgetfulness’, or sink?