Section Four
1996 Regional PerspectivesLATIN AMERICA AND THE CARIBBEAN
Mixed results characterized economic performance in the countries of Latin America and the Caribbean (LAC) in 1995. While the aggregate regional economy grew by only 0.8 percent, sharp distinctions persisted among the countries of the region. The December 1994 peso crisis in Mexico led to a substantial 6.9 percent decline in gross domestic product (GDP) in 1995. In Argentina and Uruguay, the main countries affected by "spill-over" effects from the Mexican crisis, the economies contracted by 4.4 and 2.5 percent, respectively.
However, the rest of the region weathered the effects of the Mexican crisis quite well. Figure 4-3 indicates that aggregate regional growth-- excluding Argentina and Mexico--reached 4.3 percent. Brazil, the region's largest economy, with approximately 40 percent of the regional GDP, grew at a moderate 4.2 percent.
Figure 4-3 The GDP in Caribbean countries grew only slightly slower on average--3.6 percent in 1995. The two most populous countries, Haiti and the Dominican Republic, were among the fastest growing, with GDP rising above 4 percent in both.
The "containment" of the peso crisis to a relatively small group of countries was the major economic news in the region in 1995. By mid year, international capital markets were once again accessible to most countries, albeit at higher interest rates. Substantial efforts at macroeconomic stabilization occurred in Mexico, stabilizing financial markets and helping to promote the recovery of investor and consumer confidence. In Argentina, both an adjustment of the fiscal stance and an orderly restructuring of the banking system combined to foster a climate more conducive to financial flows, which, by year's end, had returned international reserves and monetary aggregates to their pre-crisis levels. The credibility of the Real Plan in Brazil also contributed to a sharp increase in capital inflows from abroad, including strong flows of foreign direct investment. Among the other large countries, only Venezuela, where confidence in policies waned and investment stagnated, experienced a run on reserves, culminating in a devaluation of 41 percent in December.
Inflation, which in the past tended to be exacerbated by macroeconomic crises, fell in most countries in 1995, with the median inflation rate dropping to 12.3 percent from 16.8 percent in 1994. Throughout the region, countries with historically high inflation rates have sucessfully contained inflation over the past several years; that success was maintained in 1995. An exception to the regional pattern was Mexico, where the severe depreciation of the peso contributed to a sharp rise in inflation.
Events of the past year have shown that the region's economies are now sufficiently differentiated--and world financial markets sufficiently sophisticated--that adverse developments in one country need not pull others down. This realization, if accompanied by continued pursuit of prudent macroeconomic policies, should serve to reduce volatility and increase stability in the region.
The crisis did, however, underline significant fragility and vulnerability in many of the region's financial and banking systems--not only in Mexico but also in Argentina and a number of other countries. With Bank support, countries are examining the main problems in these sectors and are formulating reform programs. Much work remains ahead, however.
In both Mexico and Argentina, the weak position of the banking system contributed to the poor GDP performance. Investors--international and domestic--feared that a collapse of important banks could result in major economic dislocations, massive and costly bailout programs, and a resurgence of inflation. In the case of Argentina, the weakness of the banking system tested the convertibility program and, in particular, the exchange-rate regime. The economic program survived the crisis intact, possibly strengthened from the government's commitment to it under adverse conditions.
In Brazil, the weakness of the banking system--and especially of state-owned banks-- has added significant uncertainty to the public deficit picture. Central bank schemes to provide liquidity to private banks in distress and treasury obligations to recapitalize public banks will add significant amounts to public debt over the 199596 period.
An important component of the Venezuelan program is to recapitalize and strengthen the banking system. This program has a series of elements, including strengthening the regulatory framework, reprivatizing banks previously taken over by the government, and liquidating those banks deemed nonviable.
Challenges Ahead
Looking beyond recent developments, the longer-term challenges facing the Latin America and Caribbean region include the following:
Increasing and sustaining economic growth. The Latin America and Caribbean region is capable of achieving a growth rate of 6 percent by the turn of the century--under reasonable assumptions about the evolution of the external environment and of appropriate domestic policies. Increased domestic savings rates will be crucial for more robust growth to occur. One of the important lessons of the Mexican crisis is that domestic savings matter greatly. They are important because they help finance the accumulation of capital and, thus, facilitate growth, and because high domestic savings are associated with lower current-account deficits. Latin America, however, has traditionally had very low saving rates: In 1980, for example, the region saved on average only 19 percent of its GDP; by 1994 this ratio was basically unaltered. This contrasts sharply with fast-growing regions of the world that save 35 percent or more of GDP. Most policymakers now recognize that raising domestic savings is one of the fundamental challenges faced by the region.
Factors enhancing the region's international competitiveness will also be important. These underline the necessity of continued and sustained trade liberalization, including through trade-creating regional arrangements such as mercosur, the regional trade agreement between Argentina, Brazil, Paraguay, and Uruguay. mercosur has been one of the more successful trade agreements in the region, if not in the developing world as a whole. It has continued to foster free trade, as marked by the recent associate membership of Chile and the anticipated associate membership of Bolivia. The region, at a minimum, must sustain the robust export performance of 1995, when the nominal value of total exports increased by 22.7 percent over 1994. In Mexico and Argentina, exports responded particularly well to the new economic circumstances, growing at 33.2 percent and 30.1 percent, respectively, in 1995. During the next eighteen months, a rapid recovery of these economies will require maintaining the momentum in export expansion, as well as a significant increase in the level of internal demand. A more significant regional challenge is to complement traditional trade in primary products with fast growth in manufactures. There is also scope for productivity increases through port reform and privatization, as well as the application of international quality standards.
Reducing poverty and inequality. Poverty in Latin America and the Caribbean increased substantially during the debt crisis of the 1980s, but stabilized with the resumption of growth in the early 1990s. Robust rates of economic expansion in recent years in countries like Chile and Peru, the payoffs from economic reforms in Argentina and elsewhere, and the decrease in civil strife in parts of Central America have all helped to reduce poverty.
Nevertheless, poverty and inequality constitute the "Achilles heel" of Latin American development. About one fourth of the region's population lives on less than $1 a day. The poorest 10 percent-to-20 percent live in rural areas (and are often indigenous people). This rural poverty tends to be concentrated in remote areas with low agricultural productivity and few nonfarm jobs. Most of the increase in poverty in the region over the past ten to fifteen years, however, has been in the cities, and as such is a relatively new and intractable phenomenon. Poverty in the region is also closely related to the distribution of income, which is still very skewed in most countries.
Reducing urban poverty will require increasing employment opportunities for the urban poor; extending access to urban services; making social safety nets more effective in urban areas; increasing the productivity of the informal economy; increasing labor-force participation rates; and reforming municipal administration. Reducing rural poverty will require eliminating regulatory barriers to enable the agricultural sector to take advantage of trade liberalization. Increasing the access of the rural poor to land and social services is another important requirement for rural poverty reduction.
Promoting human-resource development. Building human capital is another major challenge confronting the countries of the region. With an average of 5.2 years' education for the adult population, the region lags about two years behind countries at comparable development levels elsewhere. In addition to expanding access to educational opportunities for the poor, there is a critical need to improve the quality of education, particularly at the primary level. About 100 million people in the region are without basic health services, and about 2.2 million babies are born every year without any medical assistance. As a consequence, the occurrence of disease is significantly higher than might be expected given the region's average income level.
Reforming and modernizing the state. Repeated economic crises have taken a heavy toll on public sector institutions. The effects of austerity have been compounded by economic mismanagement. A number of governments in the region have recently implemented policy reforms designed to reduce the role of the state in economic activities. However, major improvements in the efficiency of government services as they affect the lives of ordinary people--particularly the quality and coverage of social services--remain to be attained. Among the challenges are strengthening the management of public finance, building effective legal and regulatory functions, reforming the judiciary, and improving the civil service. A regionwide process of governmental decentralization is already under way. This has enormous promise, but difficult questions remain concerning the modalities of fiscal decentralization and the matching of revenues and expenditures at the local level.
Bank Operations, Fiscal 1996
As part of a coordinated effort to strengthen portfolio quality, the Bank is paying closer attention to simplifying projects, focusing conditions only on actions essential for successful project implementation, and working with clients to improve project impact and sustain-ability. Following a visit by Bank President James Wolfensohn to the Northeast of Brazil in July, 1995, a joint commission was established with the Government of Brazil to recommend ways of improving the effectiveness of Bank- financed operations in Brazil, with a special focus on the Northeast. The commission is identifying possible ways of addressing some of the persistent problems that have impeded the development impact of projects from being fully realized in four areas: education, health, rural development, and the environment.
In addition, business-process innovations currently under way in the Bank's Latin America and the Caribbean Regional Office are likely to enhance the development effectiveness of the region's portfolio (see Box 4-4).
BOX 4-4. PROCESS CHANGES BEGUN IN THE LATIN AMERICA AND THE CARIBBEAN REGION
In fiscal 1996, the Latin America and the Caribbean Regional Office of the World Bank implemented a series of innovations designed to enhance implementation and effectiveness of Bank-assisted projects and responsiveness to client needs; decentralize responsibility to line managers and staff; and strengthen professional and technical expertise.
Highlights of the process innovations undertaken during the fiscal year include:
Revised country-assistance strategy. Performance benchmarks will be spelled out in advance for individual countries and important sectors. In helping countries to attain the development objectives, greater decisionmaking authority and accountability have been delegated to country departments and managers within the Region.
Changes in country departments. Effective April 1, 1996, the former Country Department II (la 2) was replaced by separate departments for Mexico and Central America. The bulk of the Mexico department staff, including the department director, is being transferred to the field (in an expanded resident mission based in Mexico City). This is intended to improve the Bank's ability to tailor its lending and nonlending services to Mexico's evolving needs; quicken response time for both projects and analytical work; facilitate better management of existing projects; and draw upon local expertise. In addition, a Sector Leadership Group has been created to serve both new departments. This group will bring technical resources (with the exception of those housed in the Human Capital Development Group) to bear on specific initiatives at the request of country departments.
Human Capital Development Group. The Human Capital Development Group is a Regionwide pilot initiative that involves pooling the Region's human-resource staff--in the areas of education, health and nutrition, poverty reduction, and gender concerns--into one discrete unit. The goal is to integrate better the Regional human-resource sector knowledge and technical skills with the work of all the country departments. As with staff in the Sector Leadership Group, staff in the Human Capital Development Group will be deployed on an as-needed basis for project and analytical work in specific countries.
NGO liaison. The Region held two regional Bank-NGO meetings to strengthen collaboration, particularly in the areas of poverty reduction. One outcome of the first meeting was the establishment of NGO liaison officers in resident missions. Liaison officers are responsible for facilitating closer relations between the Bank and grassroots organizations on all aspects of the Bank's country activities. In particular, they will work to improve the flow of information between the Bank and grassroots groups, help increase NGO participation in Bank projects and economic and sector work, and explore new avenues for collaboration.Program highlights. In fiscal 1996, a total of fifty-four new projects, totaling $4.4 billion in new commitments, was approved. As part of an effort by the Bank's Regional Office to improve loan quality and simplify operations, the average project size declined to $82 million, down from $85 million in fiscal 1995 and $101 million in the year before that.
In addition to a substantial program of infrastructure lending, the lending program included support to strengthen financial systems, as well as a range of projects to assist in improved environmental management. The Bank lent $500 million for banking reform in Argentina, part of a program seeking to increase confidence in the banking system through a restoration of solvency and consolidation in the private banking sector. The Bolivia program included four projects to develop the regulatory and legal framework to support the country's capitalization program, including the institutional capacity to carry out financial sector reforms. To help ensure that future economic growth is also environmentally sustainable, Bank projects are incorporating innovative approaches to environmental assessments, such as regional and sectoral studies, and participation by nongovernmental organizations (NGOs). Some infrastructure projects include support for technical assistance and training to improve environmental assessment capabilities of borrowers.
Table 4-14 The Regional Office is also undertaking an extensive program of lending for both education and health. Several of these operations were in Argentina, including the Decentralization and Improvement of Secondary Education and Polymodal Education Development Project, which facilitated the decentralization of secondary education to the provinces, and the Higher Education Reform Project, which aimed at improving the quality of higher education through a new resource-allocation system, and by strengthening planning and managerial capacities. The Health Sector Reform Project in Brazil seeks to assist with policy reforms and improve the delivery of care under the national health-care program, the sole source of publicly supported care for the poor. A series of basic education projects was undertaken in Dominica, the Dominican Republic, Grenada, Guyana, Panama, and Trinidad and Tobago, which includes initiatives to enhance access and quality, strengthen institutional capacities for management reform, improve teacher training, refurbish facilities, and develop curricula. In Haiti, the Bank's accelerated program in response to the economic crisis included an employment-generation project.
Table 4-15 One recent innovation in lending is taking place in Brazil, where the Bank is supporting fiscal adjustment, privatization and concessioning, and administrative reforms at the subnational level--particularly in states with strong fiscal management and project-implementation capacities. Honduras received a loan supporting the implementation of its public sector reform program. This program includes modernizing public management systems and strengthening financial management. Several projects devoted substantial attention to strengthening the regulatory frameworks of specific sectors, particularly with respect to recent privatizations. They included the Power Market Development Project (Colombia), the Railroads Restructuring and Privatization Project (Brazil), the Private Sector Development Project (Guyana), and the Second Basic Health Care Project and the Water Resources Project (Mexico).
The regional lending program includes a large amount of cofinancing activity--$2.1 billion for twenty-six projects. The Inter-American Development Bank (IDB) provided the largest amount of cofinancing--$1.6 billion. The Health Sector Reform Project (Brazil) provides a vivid example of close collaboration between the Bank and the IDB. This $750 million project (supported by $300 million in Bank funds and $350 million from the IDB) was jointly identified and appraised by the two institutions. It is being managed by one administrative unit (composed of Bank and IDB personnel), with joint supervisory efforts. Even the loan agreements by the two institutions are essentially identical, with corresponding conditionality matrices and procurement procedures.
Economic and Sector Work
The Regional Office maintained its efforts to improve the impact of the Bank's program of economic and sector studies as instruments of analysis and dialogue with governments, adopting a range of formats and styles as appropriate. The trend has been away from general country economic memoranda toward more issue- focused analyses of economywide and sectoral topics. A recurring theme is the challenge of efficient management at the subnational level, both provincial and state (in the cases of Argentina, Brazil, and Mexico, for example), as well as the regional and municipal levels. An assessment of state creditworthiness in Brazil was undertaken as a basis for assisting with fiscal adjustment and structural reform programs at the state level. In Argentina's Tucuman province and in Mexico's Chiapas state, the Bank undertook studies (in the case of Tucuman jointly with the IFC, and in the case of Chiapas together with the IFC and Inter-American Development Bank) to design strategies for stronger private sector involvement in these regions. In Tucuman, the resulting action plan is now being implemented with support from the Bank and the IFC. Again in Argentina, another study in cooperation with the IFC was carried out to identify reforms for Cordoba province. Substantial work has also been undertaken on the managerial implications of democratization and decentralization, particularly in the case of Colombia.
The program of poverty assessments continued, bringing the total number completed to twenty-five. These documents have helped to provide a framework for the design of country-specific poverty-reduction strategies. Unemployment has become a serious political and social issue in several countries. Thus, in Argentina, a detailed quantitative look at the structure of unemployment was carried out, and the links between unemployment and collective bargaining arrangements were explored. Work is under way on labor-market characteristics at both the national and regional levels in a number of countries.
As is customary every second year, the Bank hosted the Consultative Group for Caribbean Economic Development. In preparation for this June 1996 meeting, a program of analytic work was undertaken, focusing on growth, trade, public sector management, and poverty. Following the successful format of the previous meeting of the group, representatives from the private sector were again invited to participate in all aspects of the meeting, which ranged from individual country sessions to Caribbean Business Forum and Tourism and Informatics Promotion conferences.
1996 Regional Perspectives
Africa
East Asia and Pacific
South Asia
Europe and Central Asia
Middle East and North Africa
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