Brexit: Limited Implications for Latin America

By Arturo C. Porzecanski*

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Photo Credit: Elionas2 / Pixabay / Creative Commons

The June 23rd British referendum result – a 52-to-48 percent vote to leave the European Union (EU) – has roiled the world’s leading financial markets, but contrary to many opinions issued in the referendum’s wake, the economic and financial implications of Brexit for Latin America have been either mild or favorable.  Hard line Brexit statements made earlier this month by UK Prime Minister Theresa May, and various rebukes from policymakers on the Continent, have had financial-market repercussions for the pound.  Most notably, sterling has fallen sharply, and it is now down more than 15 percent from its high on the day of the fateful vote, plummeting to three-decade lows against the dollar.

  • The market reaction initially led to a mostly regional (UK and Europe) correction in stock prices. Even this was short-lived: for example, the FTSE 250, an index of domestically focused UK firms, at first dropped by 14 percent but recovered fully by early August – and has since been trading above the pre-referendum level.  Moreover, the UK recession many feared did not materialize, at least not during 3Q16.
  • Financial markets priced in fairly quickly the conclusion that the Brexit shock would lead to greater dovishness among the world’s major central banks. Most relevant to Latin America and the emerging markets (EM) generally, the Brexit helped to persuade the U.S. Federal Reserve to delay its tightening until at least the end of 2016.  While Latin America’s trade and investment ties to Europe are not insignificant, the region’s major economies are far more dependent on the health of the U.S. economy and on the mood in the U.S. financial markets, and secondarily on trends in China.
  • If the UK and the Eurozone had stumbled and were headed for a recession, however, one likely casualty of Brexit would have been a noticeable drop in world commodity prices, with strong implications for the major economies of Latin America. While commodity prices have softened somewhat (non-oil commodities have averaged 2¼ percent lower since the Brexit vote, and oil has traded 7½ percent below), confirmed expectations of loose monetary conditions in the U.S. and Europe during 3Q16 have more than compensated.  This is why most EM stocks, bonds and currencies have rallied, with the parade led by the Brazilian Real (BRL), so far the best-performing of 24 EM currencies tracked by Bloomberg (up about 20 percent year-to-date).

The medium-term implications of Brexit for Latin America will depend on how much “noise” emanates from London, Brussels and other European capitals during the negotiation process (likely, 2Q17-2Q19).  Prime Minister May has now made three statements that define her bargaining position: Article 50 (exit) negotiations will begin by next March; the imposition of migration controls on EU citizens coming to the UK is non-negotiable; and the UK will no longer be under the jurisdiction of the European Court of Justice.  The latter two points mean that Britain cannot remain a member of the single market, and is therefore committed to forging a customized free-trade agreement with the EU, which could sow uncertainty and thus depress economic growth in Europe and beyond.

The most probable scenario – slow and halting Brexit negotiations, with progress hard to achieve until close to the end (in 2019) – will encourage uncertainty and speculation among economic agents and thus will be a drag on economic growth especially in the UK, and much less so in the rest of the EU.  However, it need not generate the kinds of waves that will reach, never mind derail, Latin America’s economic trajectory.  It is much more likely that what does or does not happen in Buenos Aires, Brasilia, Caracas or Mexico City, and above all in Washington, DC – courtesy of the Fed, the White House, and the U.S. Congress, in that order – will overshadow just about any headlines generated by the Brexit negotiations in Europe.  There is room for Latin America to clock higher GDP growth numbers in the years ahead when compared to the disappointing regional averages of 1 percent growth in 2014, zero growth in 2015, and a contraction of about -0.6 percent in the current year (as per IMF estimates).  This assumes that the Fed’s tightening is gradual (namely, no more than 0.25 percent increases in the Fed’s target rate per trimester) and that the UK’s divorce proceedings are not overly hostile.  This scenario foresees that creditworthy governments, banks and corporations in Latin America will retain access to the international capital markets on reasonable terms, despite some initial retraction in investor interest ahead of, and right after, the resumption of the Fed tightening cycle.

 October 17, 2016

*Dr. Porzecanski is Distinguished Economist in Residence at American University and Director of the International Economic Relations Program at its School of International Service.

Malvinas-Falklands: Just More Demagoguery

Photo credit: blmurch / Foter.com / CC BY

Photo credit: blmurch / Foter.com / CC BY

The UK’s recent referendum in the Malvinas-Falklands suggests that neither side in the dispute is serious about finding a lasting solution.  Few observers were surprised that the overwhelming majority of the islands’ residents – all but three of the 1,517 persons casting ballots – would vote to “retain their current political status as an Overseas Territory of the United Kingdom.”  Since the war in 1982, London’s decision to station 8,000 troops (more than four times the local population) and decentralization of control over fisheries have enabled islanders to enjoy one of the hemisphere’s highest standards of living.  The UK government has encouraged a blossoming of British identity on the islands.

British and Argentine political leaders couldn’t resist the opportunity to demagogue the results of the referendum.  Prime Minister David Cameron said the islanders are “British through and through and that is how they want to stay,” and he warned that Argentina should take “careful note” because “we will always be there to defend them.”  In a series of 27 tweets in two hours, President Cristina Fernández de Kirchner ridiculed the referendum.  “An English territory more than 12,000 kilometers away?” she asked.  “The question is not even worthy of a kindergarten of three-year-olds.”  She called the residents of the islands a “transplanted population.”  Foreign Minister Hector Timmerman threatened legal action against firms helping explore for oil around the islands, and both houses of the Argentine Congress voted unanimously to condemn the referendum.  Washington has stayed on the sidelines despite its strategic alliance with London and tensions with Buenos Aires.

Both countries have changed greatly since 1982, and the chance that the rhetoric will escalate into greater tensions seems remote.  But nationalism, symbolism and opportunism continue to dominate the Malvinas-Falklands issue 30 years after a war and in the second decade of a new century.  With their economies in bad shape, the current governments in both London and Buenos Aires may welcome the international distraction.  The prospect of rich offshore oil deposits around the islands has raised the stakes, with both countries accusing the other of wanting the islands merely for their natural resources.  Argentina, moreover, seems intent on pushing its neighbors into supporting its stance on the islands, exposing them to the contradiction between the two important principles at play – a historical claim of sovereignty versus a current referendum of clear popular will rejecting it.  Of the two corners that the UK and Argentina have painted themselves into, Argentina’s is more complex and will require a more patient, long-term approach involving, perhaps, United Nations mediation.  Kirchner has expressed hope that the new Pope could act as a mediator in the Falklands-Malvinas dispute, yet his Argentine nationality and past comments that the islands belong to Argentina make that implausible.  It is clear that putting the issue on the front burner and trying to drag the rest of the continent into the debate has not served Buenos Aires’ interests well.  The UK’s referendum is unhelpful, but President Kirchner still has room to tone down the rhetoric and threats, and avoid letting a tactical setback lead to a strategic blunder.  Chances of that happening are better under her successor, and the next election isn’t until 2015.

 

Argentina Foreign Policy – National Pride or Domestic Consumption?

Photo by Jonathan Huston

The stridency of Argentina’s foreign policy over the past two years suggests an effort by President Cristina Fernández de Kirchner to capitalize on elements of authentic nationalism and harness them into a durable political tool at home.  Buenos Aires has dialed up the pressure on the Falklands-Malvinas dispute with the United Kingdom by seeking regional support and calling for a boycott.  The nationalization of the holdings of Spain-based oil giant Repsol has also soured relations with several European states.  Recently, the Argentine government has assailed the impounding of an historical frigate, the Libertad, in Ghana by agents of an investment fund that owns defaulted Argentine sovereign debt, labeling them “vultures.”  Argentina has ramped up criticism of U.S. restrictions on its agricultural exports, as the two countries trade accusations in the World Trade Organization.

The conventional wisdom in Washington has been that President Fernández de Kirchner is picking fights abroad to distract attention from economic and political problems at home.  Following its record $100 billion default in 2001, Argentina remains locked out of most international financial markets despite deals to discount and reschedule much of that debt.  Inflation is high and capital flight is so serious that the government has imposed strict controls on sending dollars out of the country – a measure unpopular with the middle and upper classes.  These problems have taken a toll on the president’s popularity, as have intimations that she might change the Constitution to permit her to run for a third term.

The view from Washington misses a couple key points.  Many of these nationalist moves have been wildly popular – above all the Repsol decision.  To attribute them to President Fernández de Kirchner alone ignores deep feelings in Argentina that the country deserves greater respect than it gets, as well as the fact that since the peso crisis, rejection of the sort of “carnal relations” that President Carlos Menem had with Washington (in his own words) in the 1990s has grown strong.  The current foreign policy orientation harkens to a much longer tradition, from Peronism and beyond.  There is little chance that issues such as the Malvinas or the Libertad are going to make Argentines forget about everyday economic challenges.  Rather, they are a manifestation of an Argentine narrative in which the country is denied its rightful place in international politics and trade – and in which it is being held unfairly in the penalty box for the peso crisis.  The United States support for the billionaire investors and hedge fund managers who bought deeply discounted bonds but are demanding full payment, and Washington’s subsequent vote against loans Buenos Aires needs from international financial institutions, are playing into nationalist themes.  Fernández de Kirchner’s foreign policy rhetoric taps into resentment; she is hardly responsible for creating it.