Americas Economy Trends Update January 2015
Cheaper Oil to Benefit U.S.; Latin America Lags on Lower Commodity Prices
The steep fall in international oil prices has significantly altered the economic prospects of most countries in the region in recent months. While consumers across the region are likely to gain from cheaper pump prices, the U.S. and Canada are expected to see the most improvement in domestic demand. U.S. consumer sentiment has surged recently, as the stronger labor market has also helped make consumers more optimistic. However, lower oil prices are likely to be a net negative for Canada as the country is already seeing a decline in energy exports. The Canadian labor market has also weakened recently as energy sector companies have started reducing their workforces and scaling back new investments.
In Latin America, Brazil is expected to see a stagnant economy in 2015 as well. The country’s trade account slipped into a deficit in 2014, as prices of major exports such as iron ore declined. Subdued demand from China and recession in neighboring Argentina hamper the export prospects for Brazil this year. For Mexico, the negative effect of lower oil prices is likely to be more contained as the country’s hedging policy limits the decline in government revenues. Stronger U.S. demand for manufactured goods should help Mexico offset the potential job losses in the energy sector. Colombia has launched additional fiscal stimulus to counter the losses from oil exports. The export prospects of Chile and Peru have dimmed as copper prices slipped further this month, but both countries are rolling out fiscal and monetary measures to help domestic demand.
At a Glance
United States: Helped by the steep fall in fuel prices and exceptionally low borrowing costs, the U.S. economy appears to have entered a phase of healthy growth. The pace of expansion for the second and third quarters of 2014 exceeded expectations, and most data points remained positive during the last quarter as well. The World Bank now expects the U.S. economy to grow 3.2 percent this year, which would be the fastest growth among developed countries.
Canada: The decline in oil prices could reduce the pace of Canada’s economic growth in 2015, but the country’s economy is likely to remain relatively healthy. Rising U.S. consumer demand should benefit the manufacturing sector in Canada’s central region. The Canadian dollar has declined nearly 10 percent against the U.S. dollar, which should help improve the price competitiveness of Canadian manufacturers.
Brazil: Weak external demand continues to challenge the Brazilian economy as the country reported a trade deficit in 2014, its first in over a decade. Exports declined more than expected in December, the fall accentuated by the continuing weakness in commodity prices. A meaningful improvement in export outlook is not expected in 2015 as demand from some of Brazil’s major trade partners is likely to remain low.
Mexico: While the Mexican economy will likely be negatively affected by lower oil prices, the decline should not be as severe as some of the other energy exporting countries. Nevertheless, lower oil prices could lead to job losses in the country’s energy sector and delay the much awaited reforms. At the same time, stronger U.S. consumer demand continues to lift the outlook for exports of manufactured goods from Mexico.
Chile: The outlook for the Chilean economy has deteriorated as copper prices have slipped further at the start of 2015. Copper prices have declined nearly 25 percent from the beginning of last year, denting the export prospects of Chile, which is the world’s leading producer. However, an increase in government spending has supported domestic demand and has lowered the unemployment rate in recent months.
Peru: The Peruvian economy slowed significantly during 2014 as international commodity prices weakened and the trend is expected to continue in 2015 as well. The pace of economic expansion dropped below 3 percent for the first nine months of 2014, compared to 5.8 percent for the previous year. To prevent further economic decline, the government announced a fiscal stimulus package and is increasing infrastructure spending this year.
Colombia: Though Colombia is one of the major oil exporters in Latin America, its government is confident that lower oil prices will not lead to a sharp decline in 2015 GDP growth. While acknowledging that the fall in oil export revenues could bring down the growth rate this year, when compared to 2014, the government believes the country’s diverse economy will limit the downside
UNITED STATES: ECONOMY GAINS PACE AS CONSUMER SENTIMENT STRENGTHENS
Helped by the steep fall in fuel prices and exceptionally low borrowing costs, the U.S. economy appears to have entered a phase of healthy growth. The pace of expansion for the second and third quarters of 2014 exceeded expectations, and most data points remained positive during the last quarter as well. As the domestic environment is expected to remain favorable, the World Bank and other forecasters have lifted their estimate for U.S. GDP growth in 2015. The World Bank now expects the U.S. economy to grow 3.2 percent this year, which would be the fastest growth among developed countries.
Though retail sales for the month of December were below expectations, U.S. consumer sentiment has continued to rise in recent months. An index of consumer sentiment measured by the University of Michigan is now at its highest level in over a decade. Average gasoline prices in the country are now at a five-year low and should result in meaningful cost savings for most households. As there are no major elections or policy changes to upset sentiment, it is now widely expected that consumers will spend their fuel savings on other goods and services.
Further gains in the labor market could provide an additional boost to consumer demand, if wage growth also picks up in the coming months. Average monthly job additions during the second half of 2014 were above expectations, and the most since the 2008 financial crisis. The unemployment rate has also slipped to a multiyear low, though wage growth has been only marginal so far. Average wages could increase at a faster pace as the market tightens this year. However, select states such as Texas and North Dakota where oil production was the major driver of labor market gains in recent years could see job losses if oil prices remain low for an extended period.
While mortgage rates have slipped further, it is unlikely that the U.S. housing market will sustain the growth pace in 2015. Slower construction activity after the housing market decline has reduced current supplies, and builders have also been more cautious in building inventory. This has resulted in rapid price gains in some of the most active markets, and many potential buyers have been priced out. In addition, despite the recent efforts by federal agencies to reduce the down payment for mortgages, credit standards remain tighter than they were before the crisis.
The Federal Reserve is widely expected to start hiking its target rate during the second quarter of this year. However, declining consumer prices and further weakness in global economic conditions could delay the rate hike to later in the year. In the statement released after the December meeting, the Fed was more optimistic in its economic growth outlook. At the same time, the statement also detailed concerns about risks to global growth.
CANADA: GROWTH RATE TO MODERATE ON LOWER OIL EXPORT REVENUES
The decline in oil prices could reduce the pace of Canada’s economic growth in 2015, but the country’s economy is likely to remain relatively healthy. Oil production in Canada’s northern region is likely to fall as the cost of production, especially from oil sands, is much higher than for other methods of extraction. Crude oil exports declined nearly 10 percent in November from a year ago, in revenue terms. Canadian oil producers have not yet reduced production, but could be forced to do so if prices remain low in the coming months. In any case, new investments in oil exploration and production are likely to fall as producers look for cost savings.
However, rising U.S. consumer demand should benefit the manufacturing sector in Canada’s central region. The Canadian dollar has declined nearly 10 percent against the U.S. dollar, which should help improve the price competitiveness of Canadian manufacturers. Lower fuel prices could also boost domestic consumption in Canada, and help both the manufacturing and services sectors. However, domestic demand is likely to remain restricted in the short term as the country’s job market has weakened. The economy lost jobs in November and December, and the unemployment rate worsened marginally. Retail sales in October were nearly unchanged from the previous month.
The Bank of Canada continues to maintain its benchmark rate unchanged, though the bank has become less optimistic about the growth outlook. However, even after the strong rebound in recent years, the country’s housing market remains buoyant. Average home prices for 2014 rose nearly 7 percent through November, easily outpacing the gains for the previous year. The central bank has repeatedly stated its concerns about price gains in the housing sector, which the bank estimates is overvalued by 20 percent to 30 percent. However, if the labor market weakens further and wage gains stall, the housing market could also be negatively affected even if mortgage rates remain at record lows.
BRAZIL: ECONOMIC GROWTH TO REMAIN STAGNANT ON WEAK COMMODITIES
Weak external demand continues to challenge the Brazilian economy as the country reported a trade deficit in 2014, its first in over a decade. Exports declined more than expected in December, the fall accentuated by the continuing weakness in commodity prices. A meaningful improvement in export outlook is not seen in 2015 as demand from some of Brazil’s major trade partners is likely to remain low. Though economic growth in China, the largest importer of Brazil’s goods, has stabilized, its demand for commodities is yet to see a rebound. Meanwhile, Brazil’s neighbor and third largest trade partner Argentina is in a recession and shipments to that country are likely to decline further. Subdued export demand has also dragged down industrial output in recent months.
Nevertheless, domestic demand has so far been relatively healthier as retail sales expanded at a moderate pace in October and November of 2014. Still, some of the gains were likely due to year-end sales promotions, and spending cuts by the government could limit consumer demand in 2015. To regain investor confidence, the Brazilian government has promised to reduce the fiscal deficit by controlling public spending. The government announced cuts in pension and unemployment benefits, and also reduced the subsidy on loans from a state-controlled development bank. In addition, the government has also said it could reverse some of the tax cuts to raise additional revenues.
The economic growth forecast for 2015 has been lowered to 0.4 percent, according to a survey of economists by Brazil’s central bank. Higher than expected inflation and the currency decline forced the central bank to hike interest rates in December. Inflation at the end of 2014 was close to the 6.5 percent upper end of the central bank’s target range. Further rate hikes are expected this year as the central bank remains cautious of rising inflation expectations. Rating agencies Standard & Poor’s and Moody’s have lowered their outlooks for Brazil, citing weak growth and the wide fiscal deficit.
MEXICO: STRONGER U.S. DEMAND FOR MANUFACTURED GOODS TO PARTLY OFFSET FALL IN OIL REVENUES
While the Mexican economy will likely be negatively affected by lower oil prices, the decline should not be as severe as some of the other energy exporting countries. Unlike other energy producing countries, Mexico has a policy of protecting its oil revenues from large price swings through hedging. Despite the upfront costs, this policy worked in the country’s favor during the last oil price decline after the global financial crisis. Credit rating agency Moody’s believes the Mexican government has secured its budgeted revenue receipts for 2015 from oil production through hedging. Hence, despite the expected fall in oil export revenues in 2015, Moody’s has not lowered its outlook for the country.
Nevertheless, lower oil prices could lead to job losses in the country’s energy sector and delay the much awaited reforms. Like other oil producers, Mexico’s government-owned energy company is expected to reduce new investments. As a result, the oil field service companies have reportedly started cutting their workforces in the country. The Mexican government has been trying to reform the energy sector by opening up exploration and production to foreign companies. Lower prices are likely to dull the interest of foreign companies in Mexican energy assets.
At the same time, stronger U.S. consumer demand continues to lift the outlook for exports of manufactured goods from Mexico. Though exports in November declined from the previous month, the overall trend remains positive. Automobile exports from Mexico surged to a new record in 2014, according to an auto industry group, after shipments to the U.S. increased more than 20 percent in December. The Bank of Mexico continues to hold its benchmark rate at a record low, but the bank has indicated the possibility of a rate hike in 2015 should the U.S. Federal Reserve start increasing interest rates.
CHILE: FALL IN COPPER PRICES WEAKENS ECONOMIC OUTLOOK
The outlook for the Chilean economy has deteriorated as copper prices have slipped further at the start of 2015. Copper prices have declined nearly 25 percent from the beginning of last year, denting the export prospects of Chile, which is the world’s leading producer. Total mineral exports from the country during 2014 were the lowest in four years and a quick recovery is unlikely as global industrial demand remains subdued. The country’s central bank has estimated that the economy expanded 1.7 percent last year, but is more hopeful for 2015 when the bank expects growth of 2.5 percent to 3.5 percent.
An increase in government spending has supported domestic demand and has lowered the unemployment rate in recent months. Chile’s jobless rate declined to 6.1 percent in November, as the loss of jobs in the mining sector was offset by increased hiring in sectors such as healthcare and other services. The government had announced a nearly 10 percent increase in public spending for 2015, to be funded by higher taxes.
Meanwhile, the central bank continues to hold its benchmark rate steady as wage growth remains robust. Though consumer prices declined in December, the strengthening labor markets pushed up average wages by 7 percent in November, from a year ago. However, according to the survey of economists and traders conducted by the central bank, the benchmark rate is likely to be lowered further during the first half of 2015.
PERU: FISCAL AND MONETARY STIMULUS TO COUNTER WEAK EXPORT DEMAND
The Peruvian economy slowed significantly during 2014 as international commodity prices weakened and the trend is expected to continue in 2015 as well. The pace of economic expansion dropped below 3 percent for the first nine months of 2014, compared to 5.8 percent for the previous year. Output growth slowed again in October and November, according to the country’s statistics agency. The decline was primarily due to weak external demand and Peru’s trade account was in deficit for most of 2014. In addition to copper, Peru is also a leading exporter of gold, silver, lead and zinc.
To prevent further economic decline, the government announced a fiscal stimulus package and is increasing infrastructure spending this year. Reductions in corporate and personal income taxes are the major feature of a nearly $4 billion stimulus package announced in November. Weak commodity prices are forcing mining companies to delay or even cancel new capital investments. To counter this, the government has proposed to partially finance infrastructure projects in basic sectors such as transportation, education and healthcare. These new projects are estimated to have a total outlay of close to $7 billion.
In addition, the central bank announced a surprise interest rate cut and new measures to limit exchange rate volatility. After holding steady for three months, the central bank lowered its benchmark rate in January as inflation expectations have moderated. Consumer inflation was above 3 percent in December, but the central bank expects it to decline to nearly 2 percent, the midpoint of the bank’s target range. The bank has also set limits on trading in currency derivatives to limit exchange rate volatility. The Peruvian sol depreciated more than 5 percent against the U.S. dollar in 2014.
COLOMBIA: DESPITE OIL PRICE SLUMP, GOVERNMENT REMAINS OPTIMISTIC ON GROWTH
Though Colombia is one of the major oil exporters in Latin America, its government is confident that lower oil prices will not lead to a sharp decline in 2015 GDP growth. While acknowledging that the fall in oil export revenues could bring down the growth rate this year, when compared to 2014, the government believes the country’s diverse economy will limit the downside. Less than 20 percent of the government’s revenue comes from energy production and the government is prepared to run a wider budget deficit this year. The country’s economic growth is expected to moderate to 4.2 percent, from 4.7 percent estimated for 2014. If this forecast is achieved, Colombia will remain one of the fastest growing economies in the region.
The decline in oil prices and the strengthening of the U.S. dollar against other currencies have pulled down the Colombian peso in recent months, and should help exports from the country. In addition to oil, Colombia’s biggest export, the country ships farm produce, precious metals and garments to overseas markets. Stronger consumer demand in the U.S., Colombia’s largest trading partner that accounts for nearly 40 percent of all export shipments from the country, should also help improve the outlook for exports.
Colombia’s central bank kept its benchmark rate unchanged during the last quarter of 2014, citing healthy domestic demand. The relatively faster economic growth, when compared to other economies in the region, is another factor that has influenced the bank’s policy decision recently. While no interest rate changes are expected until 2016, the central bank has sufficient flexibility to ease rates if the economy decelerates more. The central bank has also ended its U.S. dollar purchases, which were started in 2012 to prevent currency appreciation as well as to build sufficient currency reserves.
ARGENTINA: ECONOMY EXPECTED TO DECLINE IN 2015
The Argentinean economy is expected to be one of the worst performers in the region in 2015, as the country continues to face several challenges. While weaker global demand and lower commodity prices have led to a fall in exports, domestic demand also remains restricted. The subdued growth outlook for Brazil, Argentina’s largest trading partner, could further weaken the outlook for exports this year. The Argentinean government could also face difficulties in refinancing some of the bonds that are due for repayment, as international investors are likely to remain cautious after the country defaulted again in 2014.
The country’s economy likely contracted in 2014 and the International Monetary Fund expects another 1.5 percent fall in 2015. GDP declined during the third quarter of 2014, and the trend is likely to have continued during the fourth quarter when external demand and commodity prices were weaker. To help support domestic demand, the government reduced retail fuel prices in December.
Argentina’s efforts to raise funds from bond issues have so far failed to attract enough investors. As the country is effectively banned from international bond markets after the most recent default, the government offered $3 billion worth of bonds under its domestic laws in December. However, it could sell only 10 percent of the total offer. Argentina has nearly $12 billion of sovereign debt maturing this year and it will be difficult for the government to refinance in the current environment.
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