- The pandemic has increased populist policies in Latin America, including Chile.
- Emerging economies face downside from past tepid fiscal reform efforts.
- As expansionary fiscal policies rise and easy monetary policies ebb, the global risk-free rate will likely trend higher.
The intersection of populism and the pandemic in Latin America
Sustainable economic recovery remains far off in Latin America amid elevated infection rates. The pandemic has influenced not only fiscal policies but also political outcomes. Populist policies have gained support. It is getting harder for governments to establish some credibility, as they turn to utilizing fiscal and monetary support and the external backdrop becomes less supportive of emerging economies.
In Peru, the results of the June 6 elections are still being contested. Leftist candidate Pedro Castillo has won the most votes in the presidential run-off election but is facing legal challenges from right-wing rival Keiko Fujimori.
In Chile, households appear willing to eat away at their nest eggs. Lawmakers are considering a bill that will allow Chileans to withdraw their entire pension savings. The country's pension system is widely considered to be one of the best in the world, but populism seems to be putting an end to that. This will likely add to the public sector's future liabilities. In addition, Chile's center-right ruling coalition suffered a loss in mid-May elections. Voters elected a left-leaning special assembly to draft a new constitution. This may pave the way for a political agenda to increase spending. Separately, the lower house approved in May a reduction of the value-added tax for some products.
In Colombia, tax reform efforts failed to materialize, leading the Standard & Poor's rating agency to cut the country's rating to junk. While the corporate sector looks more willing to accept higher taxes to prevent another junk rating, recent anti-government protests may slow progress.
Commodity prices and fiscal policies
Many emerging economies are also key commodity exporters. Although these countries tend to outperform as commodity prices rise, they do their best when commodity price inflation is driven by demand. They do not benefit as much when a plunge in supply pushes prices higher. It is hard to be convinced a commodity super cycle is looming, even as prices appear resilient.
The state of fiscal balance sheets is another point of discussion in the EM world. As in developed countries, EM budget deficits have widened, and debt levels have risen during the pandemic. However, developed countries have central banks with credibility, older people willing to save, and international investors willing to buy. Since the early 2000s, there have been few reform efforts in EM, as many have instead ridden on China's economic ascendence and global liquidity.
Going forward, global liquidity may not contract, but the increasing role of fiscal policy — which comes with less accommodative monetary policy — is likely to raise the global risk-free rate. Relatively low growth rates and deteriorating fiscal finances do not make many EM countries attractive to investors. Countries with disciplined fiscal and/or monetary policymakers can still attract foreign capital. But weak growth and the required policy discipline have highlighted social issues. In addition, over the medium term, rising U.S. interest rates will continue to pressure EM central banks, especially those in countries that depend on external flows.
For informational purposes only. Not an investment recommendation.
This material is provided for limited purposes. It is not intended as an offer or solicitation for the purchase or sale of any financial instrument, or any Putnam product or strategy. References to specific asset classes and financial markets are for illustrative purposes only and are not intended to be, and should not be interpreted as, recommendations or investment advice. The opinions expressed in this article represent the current, good-faith views of the author(s) at the time of publication. The views are provided for informational purposes only and are subject to change. This material does not take into account any investor’s particular investment objectives, strategies, tax status, or investment horizon. Investors should consult a financial advisor for advice suited to their individual financial needs. Putnam Investments cannot guarantee the accuracy or completeness of any statements or data contained in the article. Predictions, opinions, and other information contained in this article are subject to change. Any forward-looking statements speak only as of the date they are made, and Putnam assumes no duty to update them. Forward-looking statements are subject to numerous assumptions, risks, and uncertainties. Actual results could differ materially from those anticipated. Past performance is not a guarantee of future results. As with any investment, there is a potential for profit as well as the possibility of loss.
Diversification does not guarantee a profit or ensure against loss. It is possible to lose money in a diversified portfolio.
Consider these risks before investing: International investing involves certain risks, such as currency fluctuations, economic instability, and political developments. Investments in small and/or midsize companies increase the risk of greater price fluctuations. Bond investments are subject to interest-rate risk, which means the prices of the fund’s bond investments are likely to fall if interest rates rise. Bond investments also are subject to credit risk, which is the risk that the issuer of the bond may default on payment of interest or principal. Interest-rate risk is generally greater for longer-term bonds, and credit risk is generally greater for below-investment-grade bonds, which may be considered speculative. Unlike bonds, funds that invest in bonds have ongoing fees and expenses. Lower-rated bonds may offer higher yields in return for more risk. Funds that invest in government securities are not guaranteed. Mortgage-backed securities are subject to prepayment risk. Commodities involve the risks of changes in market, political, regulatory, and natural conditions. You can lose money by investing in a mutual fund.
Putnam Retail Management.