By Federico Bonaglia, Deputy Director, OECD Development Centre, and Sebastian Nieto Parra, Head of Latin America and the Caribbean Unit, OECD Development Centre
This blog is part of a series on tackling COVID-19 in developing countries.
The necessary containment measures against COVID-19 have engendered an unprecedented global economic crisis, combining supply and demand side shocks. Now, the pandemic is affecting Latin America and the Caribbean (LAC) and countries are bracing for the ripple effects. Just months ago, many countries in the region experienced a wave of mass protests driven by deep social discontent, frustrated aspirations, persistent vulnerability and growing poverty. The crisis will exacerbate these problems.
Beyond the magnitude of the impacts on already weak health systems – some 125 million people still lack access to basic health services – the overwhelming socioeconomic impact of the crisis could disproportionately fall on vulnerable and poor households if ambitious policy responses are not put in place.
First, the downturn could be disastrous in a region that ended 2019 with no economic growth. The sharp decline of global demand is affecting exports, with a deterioration of terms of trade for several countries. While the collapse in oil prices can be a relief to the oil-importing Central American economies, it will affect fiscal and external accounts of several South American countries, as well as Mexico and Trinidad and Tobago. Chile and Peru will suffer from the decline in copper prices.
On the supply side, activity has come to a halt due to containment measures but also disruptions in global value chains and imports of intermediate inputs, particularly affecting Brazil and Mexico. The decline in tourism, commerce or transport could be steep, significantly affecting smaller and less diversified economies, including many Caribbean countries. The global tourism economy could shrink between 45-70% in 2020.
Rising international volatility and uncertainty are weighing-in too. Large financial outflows are causing currency depreciation and reducing the value of financial assets in debt and equity markets. The situation will likely worsen. UNCTAD’s most recent estimates suggest foreign direct investment (FDI) could decline globally by 30-40% in 2020-21.
Second, the recession could wreak havoc amidst already deteriorating social conditions. Many companies could go bankrupt, particularly micro, small and medium enterprises (MSMEs), which represent 99% of firms and 60% of formal employment in the region. The job loss could be colossal, hurting the vulnerable middle class (people living on USD 5.5-13 a day in 2011 PPP prices) who make up 37% of the population. These citizens are already caught in a social vulnerability trap that reduces resilience: a vicious circle of informal jobs, little or no social protection and, and low and volatile savings.
Almost two thirds of workers in the region are informal and most of them have no safety net to face an economic setback. Many are own-account workers, working in the subsistence economy, living day-by-day, and are at risk of slipping back into poverty. While major social assistance programmes cover most poor households, they only reach 40% of vulnerable households. Moreover, 61% of vulnerable informal workers do not benefit from any form of social protection and are unable to mitigate risks such as quarantine or rising healthcare spending. Here lies one of the main challenges of this crisis for the region: avoiding a widespread expansion of poverty, which already affects 25% of the population. First estimates from ECLAC project that poverty in Latin America could go from 185 million to 220 million people in 2020.
Innovative policies to contain the impact of the crisis on the most vulnerable
Latin American and Caribbean countries are delivering policy responses that support the most vulnerable individuals, households and firms, including internal migrants. Several governments have announced monetary and fiscal measures. For instance, central banks in Brazil, Colombia, Mexico and Peru, have reduced interest rates or adopted liquidity measures to uphold domestic demand and facilitate business. However, the exchange rate pass-through to inflation makes these policies temporary and limited. Countries like Argentina, Brazil, Colombia and Peru have announced temporary expansion of some of their cash transfer and in-kind programmes, and additional transfers to reach vulnerable people not covered by existing programmes. Some financial intermediaries are postponing credit payments for the most vulnerable firms and households. To help business and household cash flows, Argentina, Brazil, Chile, Colombia, Costa Rica, Dominican Republic, El Salvador, Paraguay and Peru have announced the deferral or temporary reduction of certain tax payments, as well as temporary payment cancellations for selected public utilities or the suspension of social security contributions.
It is essential to constantly evaluate the implementation and effectiveness of these measures and to re-adjust if necessary, especially those aimed at the poorest and vulnerable population. From mid-March 2020, most countries moved away from targeted assistance to more universal cash and in-kind transfers, after assessing that their existing tools and programmes were not enough to reach the broader vulnerable population. Moving forward, governments must use the momentum to design and invest in more inclusive social-protection systems, expanding coverage to informal workers and protecting them from future shocks. Investing in social protection is investing in inclusive growth.
Reform and rebuild the social pact to ensure a long-term and sustainable recovery
The mass protests of 2019 revealed the need to rebuild the social pact and public trust. However, the political capital to address these challenges was low. Yet, in contrast to the 2008 financial crisis, the current crisis may present an opportunity to create consensus among citizens around major pending reforms, and to recover common values, such as intergenerational solidarity and social responsibility – a strong antidote to the invisible virus that is populism. To this end, clear national strategies, involving the voices of all relevant actors, must take into account how the Coronavirus crisis is exacerbating the existing development traps.
The crisis is highlighting the need for more financing for public services, particularly healthcare. From 2006 to 2018, the share of population in Latin America and the Caribbean satisfied with the quality of healthcare services fell from 57% to 42%, well below the OECD (70%). This decline is a manifestation of the institutional trap: despite efforts to improve public services, public institutions are failing to respond to citizens’ demands, deepening distrust and dissatisfaction.
Tax and expenditure systems need to be reformed to strengthen fiscal positions and place people at their centre. For tax, options include increasing marginal direct personal income tax, property taxes, environment related taxes, and eliminating tax expenditures. These measures should contribute to increasing progressivity and tax collection (standing at 22.8% of GDP vs. 34.3% of GDP in OECD countries in 2017). In terms of expenditures, governments should support income security for the most vulnerable, enabling them to plan, cope with risks and transition to the formal economy. They should also strengthen investment to promote financially and environmentally sustainable MSMEs with better insertion in local and global value chains to overcome the regional productivity trap.
Global action needed to face the crisis
A coordinated and coherent international approach, involving multilateral banks, bilateral public and private actors and international organisations, is urgent. “We need a level of ambition similar to that of the Marshall plan”, in which Latin America and the Caribbean must have a voice. We need an exceptional financial package to translate policies into action, particularly for countries entering the COVID-19 crisis with on-going international discussions for the management of their public debt, such as Argentina and Ecuador. This is the time to unleash the power of international co-operation in the region – underpinning financial measures with mechanisms for knowledge-sharing, policy dialogues and technological transfers, to spur a lasting, sustainable recovery and a reinvigorated multilateral system.