If I were to synthesize the current situation of the Brazilian economy in one sentence, I would say: “it is suffering from a combination of ‘productivity anemia’1 and ‘public sector obesity2’". On the one hand, the mediocre performance of productivity in Brazil in recent decades has limited its GDP growth potential. On the other, the gluttony for expanding public spending has become increasingly incompatible with such limits in the potential expansion of GDP, particularly since the former has not been achieving socioeconomic results that match such appetite.
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Latin America is up against a momentous year on multiple fronts. On one hand, game-changing national elections in six countries, including three of its largest – Brazil, Mexico and Colombia – are poised to reshape the political scenario in the region. In parallel, the economic agenda is front and center of countries’ efforts to overcome imbalances, implement reforms and accelerate growth. As a backdrop to all this, an important feminist movement is unfolding on the heels of a year marked by discussions on gender equality, with critical implications on both the political and economic spheres.
The Brazilian economy pays a price in terms of productivity foregone because of its lack of trade openness. A trade opening process would bring an adjustment impact that could nonetheless be mitigated with public policies that facilitate labor mobility and job migration. Benefits from trade opening would also hinge on policy improvements in complementary areas, such as infrastructure investments, business environment and others.
The IMF released last July 24 its latest assessments of the current account balances for the 30 largest economies in its External Sector Report 2018 (ESR). There was no major change in 2017 relative to previous years and the reconfiguration of surpluses and deficits that has prevailed since 2013 was essentially extended. However, there are reasons to expect more abrupt alterations ahead, as the U.S. fiscal easing under high employment conditions unfolds. Given the context of ongoing U.S.-led trade wars, as well as the recent bout of Chinese exchange rate depreciation, one may wonder about the prospects of currencies also becoming subject to war or rather to what Citi has called “currency bullying”.
The addition of a fourth US rate rise to the Federal Reserve’s 2018 dot-plot graph after the June meeting of the Federal Open Market Committee sparked a bout of portfolio outflows from emerging markets. This followed a fleeting upswing at the beginning of the month that fell short on reversing the unwinding of exposure and sell-off of assets in May (Chart 1). Country differentiation has been accentuated, with exchange rate devaluation pressures and capital outflows occurring more notably in economies exhibiting higher vulnerability to sudden stops in foreign finance.
The spike in US bond yields since mid-April in tandem with the strengthening of the dollar sparked a retrenchment of capital flows to emerging markets (EM), accompanied by a sell-off of assets in some cases. Argentina and Turkey suffered from strong and potentially disruptive exchange rate depreciation pressures in May, with financial markets calming down only after bold domestic policy moves (interest rate hikes in both countries and, in the case of Argentina, a decision to seek a new loan from the International Monetary Fund - IMF).
The April issue of the IMF’s “World Economic Outlook (WEO)” included a chapter on how globalization has helped knowledge from technology leaders spread faster than before. Cross-border technological diffusion has not only contributed to rising domestic productivity levels in advanced and emerging economies, but also facilitated a partial reshaping of the technological innovation landscape, with some recipients becoming new significant sources of research and development (R&D) and patents. It behooves us to understand what would it take for such change in the innovation landscape to be even broader.
In its March 2018 meeting, the Federal Reserve raised the target range for federal funds rate by a quarter point to 1.5-1.75 percent and Fed officials are now projecting a steeper path of hikes for the next two years. Recent inflation data would hint at the Fed staying firmly on track for another 25bp rate hike in June. As producer price inflation hit a seven-year high and a tightened labor market is exercising upward pressure on wage growth, there is no wonder expectations have slid toward Fed officials lifting rates for a total of four times this year.