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Wednesday, November 29, 2006

Chile, Argentina and the Demographic Dividend

I have already put up a short post on Chile and the demographic dividend earlier this year. Perhaps now is a good moment to take another look at this argument in the Latin American context. (A reasonable explanation about what the demographic dividend involves can be found here).

Basically from my median ages chart (a short introduction to why median ages are important can be found here) I have identified three countries in Latin America who should experience some kind of DD process in the years ahead: Brazil, Argentina and Chile.

Looking at today's news Chile still seems to be continuing nicely on course, as anticipated by the theory:

Chilean industrial production expanded at its fastest pace in five months in October, which may discourage the central bank from cutting lending rates as the economy emerges from a slowdown.

Manufacturing expanded 4.7 percent in October after contracting 2.6 percent the previous month, the government-run National Statistics Institute reported today in Santiago. Joblessness fell to 7.4 percent in October, its lowest level in eight months.

``This reduces the probability we're going to have a decline in interest rates,'' said Raimundo Valdes, an analyst at Santander Investment Inc. in Santiago. ``Private consumption and internal demand are going to be the drivers behind growth next year.''

The rebound in industrial production and an increase in spending on capital goods are signs investment is growing, which may help pull the country out of its worst slowdown since 2003, Valdes said. The economy will probably grow 5.7 percent next year after expanding just 4.4 percent this year, he said.

Now obviously we are yet to see Asian-style growth rates in Latin America, but still this sustained period of comparatively high growth is encouraging. If we turn to Argentina, we find that the situation is not that different:

Breaking the Boom and Bust Cycle?

The fastest-growing economy in Latin America is likely to do it again in 2007, but can this growth last? Argentina has been growing at nearly 9% for four years and we expect a similar, albeit more subdued, performance next year at 7%. However, sustainable growth has proven elusive for Argentina over the past half-century as the economy went through severe boom and bust cycles. While economic growth keeps roaring ahead, it is important to ask whether Argentina has graduated from its history of spectacular boom and bust cycles.

The Argentine economy has sustained four years of growth near 9%, and we see no crash in 2007. However, we see significant vulnerabilities on the growth front, given that much of it hinges on continued consumer confidence, subsidized by the negative real interest rates. As the government fights self-induced inflation and as questions abound regarding the ability of the energy complex to meet demand next year, it is easy to be pessimistic. Yet, we feel that in the near term, the broad macro backdrop is less vulnerable this time around than it has been for nearly a decade — investment has rebounded, as has the capital stock, after having been stagnant during the five years through 2004. Combined with a supportive global backdrop and absent a surprise on the energy front, the Argentine growth machine should be able to continue firing on most, if not all cylinders into 2007.

(Daniel Volberg Morgan Stanley GEF).

So Argentina may well be at last breaking out of the boom-bust cycle, the interesting question would be why? Clearly the political picture is not greatly improved:

Casi la mitad de los países del mundo tienen gobiernos que pueden calificarse de democráticos, pero las "democracias plenas" son sólo 28, según "El Mundo en 2007", un informe especial de la revista inglesa The Economist .

Casi el doble de esa cifra, 54 países en total, constituyen a partir del puesto 29 las "democracias imperfectas", por falta de participación ciudadana y cultura política. Entre ellas figura la Argentina, ubicada en el puesto 54 del ranking.
(My thanks to my Argentinian friend Fran for this link, you can find the latest edition of the Economist Intelligence Unit Democracy Index here.

The dark cloud on the Argentina horizon which many point to would seem to be energy infrastructure. On this topic
Luis Arcentales and Daniel Volberg recently conducted an analysis of the energy sector in Argentina with the following outcome

Energy tipping point?

Argentina’s handling of the energy situation has also come under heavy criticism. Oil, natural gas and electricity — the three main components in the energy sector — all have significant problems in Argentina. With the dearth of private investment in the sector due to price freezes instituted at the time of crisis in 2002, Argentina’s energy sector would appear to be the country’s Achilles’ heel. While our focus is on the macro, we thought it would be worthwhile to provide our initial thoughts on the energy risks and challenges for Argentina in 2007. After all, the single greatest challenge we suspect to our call for another year of strong growth in Argentina is a mishap on the energy front.

We doubt that the oil sector is likely to be a major problem in the coming year.

Argentina is an oil exporter, and while the government taxes crude oil exports heavily at 45% in order to maintain low domestic prices, we do not see any major cataclysms in 2007. In fact, we project that if production and consumption grow at the 2004-05 average levels, Argentina will remain an oil exporter until 2010. That said, there is a need for investment in exploration if Argentina is to keep a viable energy export sector.

Natural gas is another area that we doubt is likely to be a major problem in 2007, despite the fact that domestic prices are frozen at roughly one-fifth of current world market levels. Argentina imports a portion of its gas needs from Bolivia at market prices, and so the price freeze amounts to a hefty subsidy on the part of the government.

Another complicating factor in analyzing the gas sector is that gas in Argentina must be transported via pipelines, and thus supply is not very flexible. Thus, Argentina is a net exporter of gas at the same time that the Buenos Aires region is heavily dependent on the Bolivian supply. We project that at 2005 growth levels in production and consumption, Argentina will become a gas importer in 2008. The gas sector experienced problems in 2004 when Argentina had to redirect gas exports destined for Chile to satisfy growing domestic demand. However, investment since then has increased capacity, and a major gas pipeline system, the Gasoducto del Nordeste (GNA), is under construction and scheduled to come online in 2009 or 2010.

The sector we believe Argentina watchers should monitor the closest is electricity generation, but once again our preliminary results indicate that 2007 should not be a crisis year. Argentina has nuclear, hydro-electric and thermal (oil, gas and coal) electricity generation capacity, with thermal generation capacity accounting for roughly half of the total. The complicating factor when it comes to analyzing electricity generation is the volatile nature of demand and the limited publicly available data on actual fluctuations. Since the system is vulnerable during peak demand, we build several scenarios by assuming different proportions of peak strength relative to annual demand. We base our estimates on informal consultations given by our energy analysts, Subhojit Daripa and Rudy Tolentino.

We find that there is a possibility for problems during the course of 2007, suggesting that they might come during the winter (July or August), but this depends on the current public investment in generation capacity, the revival of the Yacyretá project experiencing delays, as well as the pace of demand growth. In fact, there are public and private investment projects scheduled to come on-stream during 2007, 2008 and 2010 that should expand generation capacity by 15% in 2010 and by nearly 20% in 2011. Thus, if there are no major delays, Argentina should be able to avoid blackouts, even if by a rather small margin.

So at the end of the day Argentina may continue to walk forward on both legs. Brazil is the third country on my list, and as I was arguing earlier in the week, also seems to fit the general pattern (you can find more systematic posting on Brazil over at my new Brazil Economy Watch).

What we would seem to have here is a relatively interesting coincidence between theory (the demographic dividend idea) and empirical data, which would rather tend to confirm the theory. Note that I am not arguing that the demographic situation provides a complete picture, but simply that it is one component in economic growth and development (as should be expected from Solow-type growth theory), and indeed that this component should have a rather heavier weighting than most are inclined to assign it (as should its converse, the Demographic Penalty, which we can of course see at work in Japan, Germany, Italy etc as Claus Vistesen rams home yet one more time today).

1 comment:

Anonymous said...

A very interesting analyisis. One can only hope that Latin America is finally on a sustainable path to growth...