Facing Receding Tailwinds, Latin America and the Caribbean Need to Propel Domestic Engines of Growth

April 17, 2013

  • Latin America is expected to grow by 3.5% in 2013
  • Domestic Demand and Service Sector Central to Carve Region’s Growth Path
  • Productivity Reforms can lead to higher growth and sustained social progress

WASHINGTON, April 17, 2013 – The formidable global tailwinds that facilitated robust economic growth and social inclusion in Latin America and the Caribbean (LAC) over the past decade are receding. A new global context of excess liquidity, slower growth in China, and sluggish economic activity and high public debt in the developed world, points to the need for Latin America to do more on its own in order to go back to growth rates similar to those enjoyed in the past decade.

According to the latest semiannual report Latin America and the Caribbean as Tailwinds Recede: In Search of Higher Growth,"  by the World Bank’s Office of the Chief Economist for the region, this year the LAC is already expected to grow by 3.5 percent, an improvement from last year’s 3 percent but still below the 5 percent average before the 2008/09 crisis or the 6 percent in 2010.  

Rates range from as low as 0.1 and 1.0 percent for Venezuela and Jamaica, respectively, to 6 percent for Peru, nearly 9 percent for Panama, and above 11 percent for Paraguay. Bolivia, Chile and Colombia will continue to beat the regional average with growth projections between 4 and 5 percent, while Argentina and Brazil will likely fall below the regional average, despite bouncing from rates below 2 percent in 2012 to close to 3 percent in 2013.

These growth rates are good but they are insufficient to sustain the recent pace of social progress that Latin Americans experienced in the last decade,” said World Bank’s Chief Economist for the region, Augusto de la Torre. “Accordingly, the policy emphasis is shifting from external to domestic engines of growth, and from macro and financial stability concerns to growth-enhancing reforms. As global tailwinds subside, the ability of Latin American countries to grow above 3.5 percent depends critically on themselves.”

How can the region propel its domestic engines of growth? Answering this question starts with understanding the specificities of LAC’s growth pattern, its limitations, and its strengths, the report explains.  While much is said about South East Asia’s growth model (based on manufacturing exports, high savings, and competitive exchange rates), the fact is that Latin America’s circumstances stand already in sharp contrast with that. Two key factors help define that distinction:

  • A domestic demand-driven growth. Between 2004 and 2011, domestic demand in South America and Mexico rose from an average of less than 98 percent to about 105 percent of GDP, while in South East Asia it actually fell slightly, by 1 percentage point, to 94 from 95 percent of GDP.  The external counterpart of its domestic demand-driven growth is Latin America’s tendency to generate current account deficits (as opposed to strong surpluses associated with South East Asia’s export-led growth), which have been largely financed by foreign direct investment.
  • A rising importance of the service sector. Conventional wisdom suggests that without a strong manufacturing sector, a country’s growth is impaired. The truth is that the competitiveness of manufacturing is closely tied to that of services. Moreover, in the case of Latin America, its service sector is adding value and actually employing highly educated workers. 

Current circumstances suggest that Latin America’s path to strong growth should continue to make a smart use of foreign capital to substitute for low savings and to improve the quality of investment already high in several LAC countries.

“In today’s Latin America, the quest for export competiveness based on cheap labor and undervalued exchange rates looks politically unfeasible and economically suboptimal,” said de la Torre, “if competiveness beyond natural resource-intensive goods is to be developed without sacrificing living standards, productivity is the name of the game.”

LAC’s achievements in the 2000s have been significant, including macroeconomic stability, solid growth, poverty reduction, and a fairer income distribution. The challenge for economic policy going forward is to preserve and build on past gains, consolidating the dividends of a socially inclusive growth, and doing so without the assistance of global tailwinds.

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