External Fragility or Deindustrialization: What is the Main Threat to Latin American Countries in the 2010s?

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Roberto Frenkel, Martin Rapetti

Abstract

In this paper we evaluate whether the surge of capital inflows to Latin American countries after the 2007-08 global financial crisis poses a threat for these economies. Recent IMF’s documents have warned that capital inflows could lead to boom-and-bust cycles ending up in external and financial crises as in the past. We provide evidence that the external conditions of these economies are far more robust than in periods prior to crises. The evidence that Latin American countries are not showing signs of external fragility does not imply, however, that the current flow of capital does not pose a threat for them. In our view, capital inflows could harm economic development in the region by weakening the expansion of modern tradable activities. We show that capital inflows have induced an appreciation of real exchange rates and a deterioration of tradable sector profitability. Signs of deceleration of growth in manufactures and tradable services have started to emerge.

Published on 6 Sep 2012 in World Economic Review No 1, 2012