Latin America in a Global Context - Economic Briefing July 2005

Downward revision to Latin American Growth Outlook

With the first half of the year almost complete, the impact of the anticipated slowdown of the global economy from last year’s dynamism is palpable. Nevertheless, while not as buoyant as last year, the global economy is expanding at a faster than average rhythm, with virtually no signs of a cool down in non-Japan Asia. In Japan, the outlook is beginning to stabilize following on a series of downward revisions in the past months. While the economy will remain sluggish, recent data suggest that private consumption is expanding at a more robust pace than expected and could support the economy amid dwindling export growth. Meanwhile, the U. S. economy is showing incipient signs of weakness as investment failed to offset more moderate consumer spending. The outlook for Latin America was lowered for the first time, as first quarter growth for the two economic heavyweights of the region, Brazil and Mexico, came in below expectations.

First quarter growth revised upward in the United States

According to final estimates released on 29 June, gross domestic product (GDP) increased at an annual rate of 3.8% in the first quarter 2005.  First quarter growth was thus even ahead of expectations prior to the release of the advance estimate, which had shown GDP growing at a lesser 3.1%.  The first quarter reading was in line with the 3.8% growth rate observed in the fourth quarter last year.  While the overall reading remained unchanged compared to the prior quarter, the economy experienced a notable slowdown on the domestic side, which was offset by an improved contribution from the external sector.  In the first quarter, consumption growth slowed markedly, in particular of durable consumer goods, which dropped from a 3.9% expansion in the fourth quarter to 1.8% growth in the first quarter.  Hopes that investment would offset the anticipated slowdown in consumer spending were quelled.  In fact, fixed investment growth dropped from the 10.5% expansion in the fourth quarter to a 6.6% expansion in the first, as businesses cut equipment and software spending.  Finally, even though revised substantially downward from the advance estimates, imports still expanded at a quicker pace than exports, which lowered the overall growth rate by 0.58 percentage points.  Without the negative impact of the external sector, GDP would have grown by 4.4%.

U.S. Manufacturing industry still growing but loosing momentum

The latest economic data released for the United States suggest that economic growth continued to be healthy in the second quarter but is unlikely to have accelerated compared to the 3.8% gross domestic product (GDP) expansion reported for the first quarter.  In May, industrial production increased 0.40% in seasonally adjusted terms over the preceding month, contrasting the 0.29% contraction observed in April.  A year-on-year comparison points to a lower contribution from the industrial sector with the trend indicating further deceleration.  Compared to the same month last year, industrial output increased 2.7%, which was below the 3.0% annual growth registered in April.  Moreover, the annual average growth pace dropped from 4.2% in April to 4.0% May, the second consecutive decline.  However, the latest reports from the Institute for Supply Management (ISM) are moderately encouraging.  The ISM reports that the manufacturing sector grew for the 25th consecutive month in June.  Moreover, after six consecutive months of declines, the Purchasing Managers' Index (PMI) picked up from 51.4% in May to 53.8% in June.  A reading above the 50% threshold indicates that the manufacturing industry is expanding.  According to the June report, stronger new orders and slower price increases in manufacturing exhibited the most positive developments in several months and indicate that the 'soft patch' is drawing to an end.  However, high energy costs and a stronger US$ still pose major concerns to purchasers.

Consumer confidence surges in June but rising energy costs could dampen sentiment again

While the developments in the manufacturing industry are only moderately encouraging, consumers, the key determinants of economic growth, are increasingly upbeat.  The latest gauges suggest that confidence appears to be rebounding from the declines observed since the beginning of the year.  The University of Michigan’s index of consumer sentiment increased from 86.9 in the May survey to 96.0 in June.  The May reading had marked a two-year low.  While the index is still well short of the confidence peaks registered last year, the 9.0 percentage point surge in June was the highest since January 2004.  The actual confidence level also blasted expectations of a more moderate rise.  In part, the June increase in consumer sentiment reflects a slide in gasoline prices during the survey period.  With oil prices accelerating again – the price for West Texas Intermediate (WTI) hit a new record high of US$ 60.54 on 27 June – the gain in consumer confidence could be short lived.  In fact, the report states that by late June, consumers had scaled back their expectations, as concerns mounted that higher oil prices would slow the pace of economic growth which could have negative impact on new job creation.  Furthermore, consumers expect higher oil prices to increase the cost of living.  However, even with the oil price hitting new highs, the decline in sentiment has been relatively small.  Furthermore, buying plans for consumer durables rose to their highest level in five years in the June 2005 survey.

Japanese government revises first quarter growth figures downwards

The positive surprise of Japanese first quarter economic growth last month was somewhat dented when the government reported the second preliminary estimates for national accounts in the January to March period.  According to the revised data, the economy expanded only 4.9% annually, contrasting the government's initial estimate of a 5.3% pace.  Nevertheless, the revised reading blasted initial expectations prior the first release, which had the economy growing by 2.4%, still less than half the actual expansion.  In the fourth quarter last year, the economy had grown by 0.2%, which was revised upwards from flat growth reported earlier.  The acceleration over the fourth quarter had been expected, as consumption was anticipated to rebound amid better income and employment conditions following the weak consumption figures for the October-December quarter, when a series of typhoons had plagued private consumption.  In fact, private consumption was the main source for the stronger-than-expected expansion in the first quarter, as growth rebounded from a 1.4% annual contraction in the fourth quarter to a 4.6% expansion in the first.  Gross fixed investment also recovered strongly to a 5.1% expansion, following on a 0.1% contraction in the fourth quarter.  However, the healthy investment growth in part reflects the postponement of construction spending that was delayed towards the end of last year amid adverse weather conditions. 

Trade balance narrows in May amid sluggish exports and surging imports

The rebound in the domestic demand was able to compensate for sluggish exports in the first quarter.  However, concerns are mounting whether the momentum on the domestic side of the economy is sufficient to pick up the slack in the external sector.  In May, the trade balance narrowed to 297 billion yen (US$ 2.7 billion), which was down 68.3% over May last year.  The narrowing trade balance reflects both sluggish exports and surging imports.  Exports expanded a paltry 1.4% over the same month last year, continuing the deceleration trend observed since the beginning of this year.  In part, less resilient global demand accounts for the sluggish export growth.  However, exports to China actually declined 0.1% over May 2004, which may indicate that Japanese companies are relocating manufacturing facilities to serve their Chinese clients directly.  Imports, in contrast, surged 18.6% amid higher prices for oil and other raw materials.  If sustained, the increase in oil prices and other raw materials could erode corporate profits and discourage companies from raising investment. 

Outlook for Asia remains bright as buoyant Chinese and Indian economies compensate for sluggish Japan

Growth prospects for Asia remain bright.  The current Consensus Forecast estimate for economic growth in the entire Asian region, including Japan, stands at 3.7% this year.  Without the Japanese weight pulling down the growth estimate, the region should expand at a much quicker 6.4% clip, which is a full percentage point below last year’s 7.4% expansion but still impressive before the background of a general global economic slowdown.  In particular, the region’s economic giants, China and India, continue to grow at full throttle.  The Consensus Forecast for output growth in China was even raised another 0.1 percentage points respectively.  China experienced the second consecutive upgrade, as attempts of the Chinese government to cool the economy prove less effective than anticipated.  As a result, the economy is anticipated by Consensus Forecast panellists to expand 8.6% this year, less than a full percentage point below last year’s sizzling 9.5% pace.

Growth outlook for Latin America revised downward as …

The outlook for Latin American economic growth pales against the figures for China.  However, measured by the region’s more moderate growth standard, Latin America’s economies will expand at a robust pace this year, according to this month’s Consensus Forecast.  Even though Consensus Forecast panellists revised the growth forecast for the Latin America downward for the second consecutive month, the region’s output is expected to expand by 4.0%, which is well below last year’s 5.9% expansion that was fuelled by an exceptional export growth in the wake of strong demand for commodities.  Nevertheless, together with the same growth rate in 2000, this year’s expansion would represent the highest rate since 1994.

This month’s downward revision reflects a deterioration in sentiment about the growth outlook for Brazil.  Owing to its weight in the regional average the 0.2 percentage point downward revision of the regional behemoth, was sufficient to offset upward revisions to Peru and Venezuela.  The remaining economies are seen unchanged over last month’s forecast.

… Brazil outlook suffers from suffocating interest rates

Consensus Forecast panellists lowered the growth forecast for Brazil by 0.2 percentage points over last month to 3.3%.  The downward revision represents the third consecutive month of deteriorating sentiment.  The Central Bank seems set to rein in inflationary expectations but at the cost of suffocating domestic growth, as real interest rates are now among the highest in the world.

Peru and Venezuela benefit from strong commodity prices

On a positive note, growth prospects for both Peru and Venezuela have improved.  The Peruvian economy surprised positively, as the anticipated slowdown of the external sector, in the wake of a less dynamic global demand, proved less pronounced than expected.  Meanwhile, Venezuela is profiting from increasing oil prices.  The price for West Texas Intermediate even briefly exceeded the US$ 60 threshold and most observers expect the oil price to remain high amid continued strong demand increases in Asia.  The resulting boost to government income from rising oil prices is helping raise spending, the driver behind the current strength in the economy.  The government efforts also appear to be spilling over to activity in the private sector.