1. Macroeconomic Challenges for Latin America: Where do we Stand? Prepared for Presentation at the XXX Meeting of the Latin American Network of Central Banks and Finance Ministries, IADB, Washington DC Ernesto Talvi Director of CERES and Non-Resident Senior Fellow, Brookings Institution October 22 nd, 2009

2. OUTLINE I.Introductory Remarks II. Phase 1: “Indian Summer” (2007.I – 2008.II) III. Phase 2: “Winter” (2008.II – 2009.I) IV. Phase 3: “Spring” (2009.I) V. Policy Challenges and a Final Thought

3. Phase 3: Spring Phase 2: Winter Phase 1: Indian Summer Phases of the Global Financial Crisis 15 30 45 60 75 90 105 120 Jan-07 Mar-07 May-07 Jul-07 Sep-07 Nov-07 Jan-08 Mar-08 May-08 Jul-08 Sep-08 Nov-08 Jan-09 Mar-09 May-09 Jul-09 S&P Financial S&P Industrial -76.7 -61.3 Phase 2 130.4 61.0 Phase 3 Variation in % -28.0 13.2 Phase 1 S&P Financial S&P Industrial

4. 30% 35% 40% 45% 50% 55% 60% 65% 70% 75% 80% 85% 90% 95% LAC-7CAC-7 Openness (Exports + Imports, in % of GDP, 2007) Remittances (Remittances Inflows, in % of GDP, 2007) 0% 1% 2% 3% 4% 5% 6% 7% 8% 9% 10% 11% 12% LAC-7CAC-7 Latin America and Central America: Structural Differences Commodity Prices (Correlation Coefficient between Commodity Prices and Terms of Trade, in logs, Mar.90 – Jun.09) LAC-7 is the simple average of the seven major Latin American countries, namely Argentina, Brazil, Chile, Colombia, Mexico, Peru and Venezuela. These countries represent 93% of Latin America’s GDP. CAC-7 is the simple average of the seven major Central American countries, namely Costa Rica, Dominican Republic, El Salvador, Guatemala, Honduras, Nicaragua and Panama. 1.1% 11.1% 52% 91% -80% -60% -40% -20% 0% 20% 40% 60% 80% 100% LAC -7CAC-7 92.4% -70.8% 92.1% -29.5% Levels Differences

5. OUTLINE I.Introductory Remarks II. Phase 1: “Indian Summer” (2007.I – 2008.II) III. Phase 2: “Winter” (2008.II – 2009.I) IV. Phase 3: “Spring” (2009.I) V. Policy Challenges and a Final Thought

6. Phase 1: Indian Summer Phases of the Global Financial Crisis: Indian Summer 15 30 45 60 75 90 105 120 Jan-07 Mar-07 May-07 Jul-07 Sep-07 Nov-07 Jan-08 Mar-08 May-08 Jul-08 Sep-08 Nov-08 Jan-09 Mar-09 May-09 Jul-09 S&P Financial S&P Industrial Variation in % -28.0 13.2 Phase 1 S&P Financial S&P Industrial

7.  In fact, one year and a half into the US financial crisis, Latin America was experiencing all the symptoms of overheating: Macroeconomic Impact on Latin America of the Global Financial Crisis: Indian Summer Strong Capital InflowsStrong Capital Inflows Booming Asset PricesBooming Asset Prices Currency AppreciationCurrency Appreciation High Growth RatesHigh Growth Rates Inflationary PressuresInflationary Pressures  In the first phase of the crisis, the net impact of external factors turned out to be expansionary for Latin America

8. Latin America (LAC-7) LAC-7 is the simple average of the seven major Latin American countries, namely Argentina, Brazil, Chile, Colombia, Mexico, Peru and Venezuela. These countries represent 91% of Latin America’s GDP. Central America (CAC-6) US Financial Crisis Russian Crisis Beginning of the Boom 238 103 17 164 0 25 50 75 100 125 150 175 200 225 250 1991199319941995199619981999200020012003200420052006 2008 0 2 4 6 8 10 12 14 16 18 20 1991199319941995199619981999 2000 200120032004200520062008 US Financial Crisis Russian Crisis Beginning of the Boom 5.5 2.9 12 18.3 CAC-6 is the simple average of Costa Rica, El Salvador, Guatemala, Honduras, Nicaragua and Panama. Phase 1 - Indian Summer: Capital Inflows (Last 4 quarters, billions of USD, Mar-08 prices) Phase 1 (Δ) Capital Inflows Financial Inflows FDI Inflows Dec-06 3.6% 0.9% 2.7% 4.0% 2.8% 1.2% In % of GDP Capital Inflows Financial Inflows FDI Inflows Dec-06 13.7% 5.7% 6.8% 3.1% 2.8% 0.2% In % of GDP Phase 1 (Δ)

9. LAC-7 is the simple average of the seven major Latin American countries, namely Argentina, Brazil, Chile, Colombia, Mexico, Peru and Venezuela. These countries represent 93% of Latin America’s GDP. CAC-7 is the simple average of the seven major Central American countries, namely Costa Rica, Dominican Republic, El Salvador, Guatemala, Honduras, Nicaragua and Panama. Variation Dec.06- Jul.08: -17% US Financial Crisis 70 80 90 100 110 120 130 140 199019911992199319941995199619971998199920002001200220032004200520062007 Variation Oct.02-Dec.06: -27% Variation Dec.90-Jun.98: -25% Variation Jun.98-Oct-02: 68% Beginning of the Boom Russian Crisis (LAC-7) Latin America Central America (CAC-7) 85 87 89 91 93 95 97 99 101 103 105 1990199219941996 1998 200020022004 2006 Russian Crisis Variation Dec.90-Jun.98: -6% Beginning of the Boom US Financial Crisis Variation Sep.03-Dec.06: -5% Variation Jun.98-Sep.03: 7% Variation Dec.06- Aug.08: -7% (Bilateral RXR vis a vis the USD, Dec-90=100) Phase 1 – Indian Summer: Real Exchange Rate

10. * Year ended in Jun-08 (Real GDP, annual variation) LAC-7 is the simple average of the seven major Latin American countries, namely Argentina, Brazil, Chile, Colombia, Mexico, Peru and Venezuela. These countries represent 91% of Latin America’s GDP. -2% -1% 0% 1% 2% 3% 4% 5% 6% 7% Average Growth 91-97: 4.6% Average Growth 98-02: 0.7% Average Growth 03-06 : 5.6% US Financial Crisis Beginning of the Boom Russian Crisis 19911992199319941995199619971998199920002001200220032004200520062007 6.7% 6.6% 2008* 6.4% CAC-7 is the simple average of Costa Rica, Dominican Republic, El Salvador, Guatemala, Honduras, Nicaragua and Panama. Latin America (LAC-7) Central America (CAC-7) US Financial Crisis Beginning of the Boom Russian Crisis 7.0% 6.9% 6% -2% -1% 0% 1% 2% 3% 4% 5% 6% 7% 19911993199519971999 2001200320052007 6.0% Average 91-98: 4.6% Average 99-02: 3.3% Average 03-06: 5% Phase 1 – Indian Summer: Economic Activity

11. 3% 4% 5% 6% 7% 8% Jan-06 Apr-06 Jul-06 Oct-06 Jan-07 Apr-07 Jul-07 Oct-07 Jan-08 Apr-08 Jul-08 7.9% 4.0% US Financial Crisis 14.0% 5.6% 3% 5% 7% 9% 11% 13% 15% Jan-06 Mar-06 May-06 Jul-06 Sep-06 Nov-06 Jan-07 Mar-07 May-07 Jul-07 Sep-07 Nov-07 Jan-08 Mar-08 May-08 Jul-08 US Financial Crisis LAC-7 is the median of the seven major Latin American countries, namely Argentina, Brazil, Chile, Colombia, Mexico, Peru and Venezuela. These countries represent 93% of Latin America’s GDP. CAC-7 is the simple average of the seven major Central American countries, namely Costa Rica, Dominican Republic, El Salvador, Guatemala, Honduras, Nicaragua and Panama. (CPI, inflation last 12 months) (LAC-7) Latin America Central America (CAC-7) Phase 1 – Indian Summer: Inflation +3.9% +8.4%

12.  In fact, one year and a half into the US financial crisis, Latin America was experiencing all the symptoms of overheating:  The policy response in the ‘Indian Summer Phase’ of the global crisis was a combination of tight monetary policy cum expansionary fiscal policy (which maintained the expansionary bias of the previous years) Macroeconomic Impact on Latin America of the Global Financial Crisis: Indian Summer Strong Capital InflowsStrong Capital Inflows Booming Asset PricesBooming Asset Prices Currency AppreciationCurrency Appreciation High Growth RatesHigh Growth Rates Inflationary PressuresInflationary Pressures  In the first phase of the crisis, the net impact of external factors turned out to be expansionary for Latin America

13. Phase 1 – Indian Summer: Monetary Policy Response *Excludes Argentina and Venezuela LAC-7 is the simple average of the seven major Latin American countries, namely Argentina, Brazil, Chile, Colombia, Mexico, Peru and Venezuela. These countries represent 91% of Latin America’s GDP. CAC-4 is the simple average of Costa Rica, Dominican Republic, Guatemala and Honduras. ene-07 mar-07 may-07 ago-07 sep-07nov-07 ene-08 mar-08 may-08 Central America (CAC-4, CB Reference Rate and Nominal Exchange Rate, in % and Jan-07=100) Latin America (LAC-7*, CB Reference Rate and Nominal Exchange Rate, in % and 02-Jan-07=100) Interest Rate Exchange Rate Interest Rate Exchange Rate 80 85 90 95 100 105 6.0% 6.5% 7.0% 7.5% 8.0% 8.5% 9.0% 9.5% ene-07 feb-07 mar-07 abr-07 may-07 jun-07 jul-07 ago-07 sep-07 oct-07 nov-07 dic-07 ene-08 feb-08 mar-08 abr-08 may-08 jun-08 jul-08 80 85 90 95 100 105 feb-07 abr-07 jun-07 jul-07 oct-07 dic-07 feb-08 abr-08 jun-08 jul-08 7.5% 8.0% 8.5% 9.0% 9.5% Interest Rate Exchange Rate Interest Rate

14. Phase 1 – Indian Summer: Fiscal Policy Response LAC-7 is the simple average of the seven major Latin American countries, namely Argentina, Brazil, Chile, Colombia, Mexico, Peru and Venezuela. These countries represent 91% of Latin America’s GDP. Financial Crisis -3.1% -2.2% -3.5% -3.0% -2.5% -2.0% -1.5% -1.0% -0.5% 0.0% Latin America (LAC-7**, Structural Fiscal Balance, % of GDP) **Excludes Venezuela -1.8% -1.6% -1.4% -1.2% -1.0% -0.8% -0.6% Dec-04 Mar-05 Jun-05 Sep-05Dec-05 Mar-06 Jun-06 Sep-06 Dec-06 Mar-07 Jun-07 Sep-07Dec-07 Financial Crisis -1.7% -1.1% -0.9% Central America (CAC-7, Structural Fiscal Balance, % of GDP) CAC-7 is the simple average of Costa Rica, Dominican Republic, El Salvador, Guatemala, Honduras, Nicaragua and Panama. -0.5% Dec-04 Mar-05 Jun-05 Sep-05Dec-05 Mar-06 Jun-06 Sep-06Dec-06 Mar-07 Jun-07 Sep-07Dec-07

15. OUTLINE I.Introductory Remarks II. Phase 1: “Indian Summer” (2007.I – 2008.II) III. Phase 2: “Winter” (2008.II – 2009.I) IV. Phase 3: “Spring” (2009.I) V. Policy Challenges and a Final Thought

16. Phase 2: Winter Phase 1: Indian Summer Phases of the Global Financial Crisis: Winter 15 30 45 60 75 90 105 120 Jan-07 Mar-07 May-07 Jul-07 Sep-07 Nov-07 Jan-08 Mar-08 May-08 Jul-08 Sep-08 Nov-08 Jan-09 Mar-09 May-09 Jul-09 S&P Financial S&P Industrial -76.7 -61.3 Phase 2 Variation in % -28.0 13.2 Phase 1 S&P Financial S&P Industrial

17.  … which put an abrupt end to the expansionary cycle: Macroeconomic Impact on Latin America of the Global Financial Crisis: Winter Severe International Credit CrunchSevere International Credit Crunch Currency DepreciationCurrency Depreciation RecessionRecession DisinflationDisinflation Collapse in Capital Flows and Asset PricesCollapse in Capital Flows and Asset Prices  During the ‘Winter Phase’, the global economic and financial conditions suffered a severe deterioration…

18. LAC-7 is the simple average of the seven major Latin American countries, namely Argentina, Brazil, Chile, Colombia, Mexico, Peru and Venezuela. These countries represent 91% of Latin America’s GDP. CAC-5 is the simple average of Costa Rica, Dominican Republic, El Salvador, Guatemala and Panama. 100 200 300 400 500 600 700 800 900 1,000 Jan-07 Apr-07 Jul-07 Oct-07 Jan-08 Apr-08 Jul-08 Oct-08 Jan-09 CAC-5 EMBI+ LAC-7 133 97 85 Phase 1 LAC-7 CAC-5 EMBI+ Variation in bps 519 431 434 Phase 2 Sovereign Bond Spreads (EMBI+ and Latin EMBI, in bps) Phase 2 – Winter: International Financial Conditions Sovereign Bond Prices (EMBI+, Bond Price Equvalent*; 01-Jan-07 = 100) *Assumes an 11% cupon and 10 year maturity 65 70 75 80 85 90 95 100 105 Jan-07 Mar-07 May-07 Jul-07 Sep-07Nov-07 Jan-08 Mar-08 May-08 Jul-08 Sep-08Nov-08 Jan-09 Mar-09 -3.6% -0.8% 0.1% Phase 1 LAC-7 EMBI+ CAC-5 Variation in % -16.5% -18% -16.5% Phase 2 LAC-7 CAC-5 EMBI+

19. LAC-7 is the simple average of the seven major Latin American countries, namely Argentina, Brazil, Chile, Colombia, Mexico, Peru and Venezuela. These countries represent 91% of Latin America’s GDP. CAC-6 is the simple average of Costa Rica, El Salvador, Guatemala, Honduras, Nicaragua and Panama. Latin America (LAC-7) Central America (CAC-6) Phase 2 – Winter: Capital Inflows (Last 4 quarters, billions of Mar-08 USD and % of GDP*) 0 25 50 75 100 125 150 175 200 225 250 Dec-03Sep-04 Jun-05 Mar-06 Dec-06 Sep-07 Jun-08 Mar-09 238 (7.6%) 0 2 4 6 8 10 12 14 16 18 20 Dec-03 Sep-04 Jun-05 Mar-06 Dec-06 Sep-07 Jun-08 Mar-09 18.3 (15.4%) 11.9 (11.0%) -67% -35% US Financial Crisis Phase 2Phase 1Phase 2Phase 1 103 (3.6%) 12 (12.3%) Phase 2 Capital Inflows Financial Inflows FDI Inflows Phase 1 Δ in % of GDP 4.0% 2.8% 1.2% -4.0% -3.5% -0.5% Phase 2 Capital Inflows Financial Inflows FDI Inflows Phase 1 -4.4% -4.1% -0.2% Δ in % of GDP 3.1% 2.8% 0.2% 79 (3.6%) * % of GDP between brackets

20. 99 100 101 102 103 104 105 106 107 108 Dec-06 Feb-07 Apr-07 Jun-07 Aug-07 Oct-07 Dec-07 Feb-08 Apr-08 Jun-08 Aug-08 Oct-08 Dec-08 Feb-09 Latin America (LAC-7) LAC-7 is the simple average of the seven major Latin American countries, namely Argentina, Brazil, Chile, Colombia, Mexico, Peru and Venezuela. These countries represent 93% of Latin America’s GDP. CAC-5 is the simple average of Costa Rica, Dominican Republic, Guatemala, Honduras and Nicaragua. Phase 2Phase 1 86 89 92 95 98 101 104 107 110 113 116 Jan-07 Mar-07 May-07 Jul-07 Sep-07 Nov-07 Jan-08 Mar-08 May-08 Jul-08 Sep-08 Nov-08 Jan-09 Mar-09 Central America (CAC-5) Phase 2 Phase 1 (Bilateral NXR vis a vis the USD, Dec-06=100) Phase 2 – Winter: Nominal Exchange Rate 115 89 107 102 30.7% 5.2%

21. Source: JPMorgan. **Source: WEO -2% -1% 0% 1% 2% 3% 4% 5% 6% 7% 1991199219931994199519961997199819992000200120022003200420052006200720082009 Russian CrisisBeginning of the Boom US Financial Crisis Forecast Sep-09* Average 71-06: 3.4% 4.8% -1.9% Average Growth 91-97: 4.6% Average Growth 98-02: 0.7% Average Growth 03-06: 5.6% 4.7% Russian Crisis Beginning of the Boom 4.4% 4.5% US Financial Crisis -0.6% Forecast Oct-09**(LAC-7) Latin America Central America (CAC-7) (Real GDP, annual variation) LAC-7 is the simple average of the seven major Latin American countries, namely Argentina, Brazil, Chile, Colombia, Mexico, Peru and Venezuela. These countries represent 91% of Latin America’s GDP. CAC-7 is the simple average of Costa Rica, Dominican Republic, El Salvador, Guatemala, Honduras, Nicaragua and Panama. Forecast Apr-08* Forecast Apr-08** Phase 2 Phase 1 Phase 2 Phase 1 -2% -1% 0% 1% 2% 3% 4% 5% 6% 7% 199119931995 1997 19992001 2003200520072009 Average Growth 91-98 : 4.6% Average Growth 99-02: 3.3% Average Growth 03-06: 5.0% Phase 2 – Winter: Economic Activity

22. 14% 5.6% 5.0% 7% 9% 11% 13% 15% Jan-07 Mar-07 May-07 Jul-07 Sep-07 Nov-07 Jan-08 Mar-08 May-08 Jul-08 Sep-08 Nov-08 Jan-09 Mar-09 LAC-7 is the median of the seven major Latin American countries, namely Argentina, Brazil, Chile, Colombia, Mexico, Peru and Venezuela. These countries represent 93% of Latin America’s GDP. 5% (CPI, inflation last 12 months) Latin America (LAC-7) Central America (CAC-7) 3% 4% 5% 6% 7% 8% Jan-06 Apr-06 Jul-06 Oct-06 Jan-07 Apr-07 Jul-07 Oct-07 Jan-08 Apr-08 Jul-08 Oct-08 Jan-09 Apr-09 7.9% 4.1% US Financial Crisis 5.7% Phase 2Phase 1 Phase 2 Phase 1 CAC-7 is the simple average of Costa Rica, Dominican Republic, El Salvador, Guatemala, Honduras, Nicaragua and Panama. Phase 2 – Winter: Inflation -2.1% -9.0%

23.  … which put an abrupt end to the expansionary cycle:  In contrast with the Russian Crisis, the macro policy response was countercyclical: looser monetary policy and expansionary fiscal policy Macroeconomic Impact on Latin America of the Global Financial Crisis: Winter Severe International Credit CrunchSevere International Credit Crunch Currency DepreciationCurrency Depreciation RecessionRecession DisinflationDisinflation Collapse in Capital Flows and Asset PricesCollapse in Capital Flows and Asset Prices  During the ‘Winter Phase’, the global economic and financial conditions suffered a severe deterioration…

24. Phase 2 – Winter: Monetary Policy Response LAC-7 is the simple average of the seven major Latin American countries, namely Argentina, Brazil, Chile, Colombia, Mexico, Peru and Venezuela. These countries represent 91% of Latin America’s GDP. CAC-4 is the simple average of Costa Rica, Domincan Republic, Guantemala and Honduras *Excludes Argentina and Venezuela 8.0% 8.5% 9.0% 9.5% 10.0% 95 100 105 110 115 120 125 16-sep-0816-oct-0816-nov-0816-dic-0816-ene-0916-feb-09 Exchange Rate Interest Rate Exchange Rate 16-sep-0816-oct-0816-nov-0816-dic-0816-ene-0916-feb-09 95 100 105 110 115 120 125 Exchange Rate 7.5% 8.0% 8.5% 9.0% 9.5% Interest Rate Central America (CAC-4, CB Reference rate and Nominal Exchange Rate, in % and Sep-16-08=100) (LAC-7*, CB Reference rate and Nominal Exchange Rate, in % and Sep-15-08=100) Latin America

25. (Announced Fiscal Stimulus Plans, 2009, % of GDP) 0.9% 1.3% 1.4% 2.5% 2.8% 0.0%0.5%1.0%1.5%2.0%2.5%3.0% Brazil Argentina Mexico Peru Chile Source: Banco de España Average: 1.8% 0.0% 2.7% 2.8% 4.7% 0%1%2%3%4%5% Domincan Republic El Salvador Guatemala Costa Rica Panama Average: 2.6% Own calculations based on national and international sources Central America Phase 2 – Winter: Fiscal Policy Response

26. LAC-7 is the simple average of the seven major Latin American countries, namely Argentina, Brazil, Chile, Colombia, Mexico, Peru and Venezuela. These countries represent 91% of Latin America’s GDP. *Excludes Argentina and Venezuela Monetary Policy (LAC-7*, Interbank Interest Rate and Nominal Exchange Rate, in % and Jul-98=100) Interest Rate Exchange Rate Interest RateExchange Rate Russian Crisis: Macroeconomic Policy Response Fiscal Policy (LAC-7, Structural Fiscal Balance, % of GDP) -3.1% -1.2% -3.5% -3.0% -2.5% -2.0% -1.5% -1.0% -0.5% 0.0% Dec-96 Mar-97 Jun-97 Sep-97 Dec-97 Mar-98 Jun-98 Sep-98 Dec-98 Mar-99 Jun-99 Sep-99 Russian Crisis 20% 22% 24% 26% 28% 30% 32% 34% 36% 38% 40% Jul-98Ago-98Sep-98 98 100 102 104 106 108 110 112 114 116 118

27.  … which put an abrupt end to the expansionary cycle:  In contrast with the Russian Crisis, the macro policy response was countercyclical: looser monetary policy and expansionary fiscal policy Macroeconomic Impact on Latin America of the Global Financial Crisis: Winter Severe International Credit CrunchSevere International Credit Crunch Currency DepreciationCurrency Depreciation RecessionRecession DisinflationDisinflation  At the peak of the crisis in March 2009, Latin America was haunted by the specter of: a long and deep recessiona long and deep recession potentially severe liquidity problemspotentially severe liquidity problems ballooning fiscal deficits with sharp increases in public debtballooning fiscal deficits with sharp increases in public debt Collapse in Capital Flows and Asset PricesCollapse in Capital Flows and Asset Prices  During the ‘Winter Phase’, the global economic and financial conditions suffered a severe deterioration…

28. External Factors Economic Fluctuations in Latin America: The Role of External Factors * (LAC-7; real GDP, annual growth rate) World Growth International Financial Conditions Commodity Prices LAC-7 is the simple average of the seven major Latin American countries, namely Argentina, Brazil, Chile, Colombia, Mexico, Peru and Venezuela. These countries represent 91% of Latin America’s GDP. * Izquierdo, A., Romero, R. and Talvi, E. (2008): “Booms and Busts in Latin America: The Role of External Factors”, IADB and CERES Working Paper Latin America Tequila Crisis Asian / Russian Crises Dot-Com Crisis Beginning of the Boom -6% -4% -2% 0% 2% 4% 6% 8% 10% 19921993199419951996199719981999 2000 200120022003200420052006 Actual Fitted

29. External Factors Economic Fluctuations in Latin America: The Role of External Factors * (CAC-5; real GDP, annual growth rate) World Growth International Financial Conditions Commodity Prices CAC-5 is the simple average of Costa Rica, Dominican Republic, El Salvador, Guatemala and Panama. * Based on the methodology of Izquierdo, A., Romero, R. and Talvi, E. (2008): “Booms and Busts in Latin America: The Role of External Factors”, IADB and CERES Working Paper 0% 1% 2% 3% 4% 5% 6% 7% 8% 9% 19982000200220042006 Russian Crisis Dot-Com Crisis Beginning of the Boom Fitted Actual 19992001200320051997 Central America

30. EXTERNAL FACTORS Commodity Prices International Financial Conditions Industrial Countries Growth *Based on Izquierdo, A. and Talvi, E. (coords.) (2009), “Policy Trade-Offs for Unprecedented Times: Confronting the Global Crisis in Latin America” Medium Term Macroeconomic Outlook for Latin America: Winter Scenario* **Recovery to Dec-06 levels Global Commodity Prices Pre-Crisis Level Source: IMF and Bloomberg (2006 = 100) Jun-08 Mar-09 -47.3% Dec-13 Peak Trough P. to T. Recovery** 75 85 95 105 115 125 135 20062007200820092010201120122013 **Recovry to pre-asian crisis levels (400 bps) Jun-07 Dec-08 512 Dec-13 Sovereign Bonds Spread Source: JPMorgan Pre- Asian Crisis Level (EMBI +, bps) Trough Peak T. to P. Recovery** 100 150 200 250 300 350 400 450 500 550 600 20062007200820092010201120122013 Source: Own calculations based on WEO and JPMorgan, Oct-08. US Economic Activity (2006 = 100) **Recovery to pre-crisis levels 99 100 101 102 103 104 105 106 20062007200820092010201120122013 Pre-Crisis Level Mar-08 Jun-09 -3.5% Jun-12 Peak Trough P. to T. Recovery**

31. GDP Growth (annual growth rate) Economic Activity (GDP 2006 = 100) **Recovery to pre-crisis levels LAC-7 is the simple average of the seven major Latin American countries, namely Argentina, Brazil, Chile, Colombia, Mexico, Peru and Venezuela. These countries represent 91% of Latin America’s GDP. CAC-5 is the simple average of Costa Rica, Dominican Republic El Salvador, Guatemala and Panama. Economic Activity: Winter Scenario* *Based on Izquierdo, A. and Talvi, E. (coords.) (2009), “Policy Trade-Offs for Unprecedented Times: Confronting the Global Crisis in Latin America” 95 100 105 110 115 20062007200820092010201120122013 Pre-Crisis Level Average1991-2007: 3.3% Average 2003-2007: 5.8% -3% -2% -1% 0% 1% 2% 3% 4% 5% 6% 7% 20062007200820092010201120122013 Avg. 2009-13: 0.1% Peak Trough P. to T. Recovery** Dec-08 Dec-10 -5.1% Dec-13 Latin America (LAC-7) -1% 0% 1% 2% 3% 4% 5% 6% 7% 8% 20062007200820092010201120122013 Avg. 2009-13: 1.0% Average 1991-2007: 4.8% Average 2003-2007: 5.8% 98 103 108 113 118 123 20062007200820092010201120122013 Central America (CAC-5) Pre-Crisis Level Peak Sep-08 Trough Dec-10 P. to T. -1.9% Recovery** Jun-12

32. Public Debt (% of GDP) Fiscal Balance (% of GDP) LAC-7 is the simple average of the seven major Latin American countries, namely Argentina, Brazil, Chile, Colombia, Mexico, Peru and Venezuela. These countries represent 91% of Latin America’s GDP. CAC-5 is the simple average of Costa Rica, Dominican Republic El Salvador, Guatemala and Panama. Fiscal Position: Winter Scenario* *Based on Izquierdo, A. and Talvi, E. (coords.) (2009), “Policy Trade-Offs for Unprecedented Times: Confronting the Global Crisis in Latin America” Latin America (LAC-7) Central America (CAC-5) -6% -5% -4% -3% -2% -1% 0% 1% 2% 20062007200820092010201120122013 -5.0% 1.6% -3.7% 32% 55% -2.7% -4.1% 49% ‘Winter’ Scenario -5% -4% -3% -2% -1% 0% 1% 2% 20062007200820092010201120122013 30% 35% 40% 45% 50% 55% 20062007200820092010201120122013 Pre-crisis Level -5.3% Pre-crisis Level +23% Pre-crisis Level +12% -2.1% 0.6% 37% 28% 33% 38% 43% 48% 53% 58% 20062007200820092010201120122013

33. (LAC-7, ILR) Latin America: International Liquidity Ratio Normal International Financial Conditions 80% 90% 100% 110% 120% 130% 140% 20082009201020112012 ‘Winter’ Scenario LAC-7 is the simple average of the seven major Latin American countries, namely Argentina, Brazil, Chile, Colombia, Mexico, Peru and Venezuela. These countries represent 91% of Latin America’s GDP. Liquidity Indicators: Winter Scenario* *Based on Izquierdo, A. and Talvi, E. (coords.) (2009), “Policy Trade-Offs for Unprecedented Times: Confronting the Global Crisis in Latin America” Definition RtRtRtRt B t+1 ST ILR t = International Liquidity Ratio in t B ST t+1 ILR t = R t International Reserves in t= Total Public Debt Amortizations + Short Term External Private Debt Amortizations (in the next 12 months) = where

34. Key Challenges At The Peak of The Crisis: IDB / RES Main Proposals* * Izquierdo, A. and Talvi, E. (coords.) (2009), “Policy Trade-Offs for Unprecedented Times: Confronting the Global Crisis in Latin America”  The challenge is thus to anticipate gathering problems early on to act in a timely fashion, and to design a set of policies that prevent countries from entering into financially fragile territory that might expose them to a liquidity crisis and a major economic collapse  Precarious access to credit markets for many emerging market governments calls for multilaterals to step in and play a key role as a lenders-of-last resort, akin to the role that credible governments, such as the US government, play domestically

35. OUTLINE I.Introductory Remarks II. Phase 1: “Indian Summer” (2007.I – 2008.II) III. Phase 2: “Winter” (2008.II – 2009.I) IV. Phase 3: “Spring” (2009.I) V. Policy Challenges and a Final Thought

36. Phase 3: Spring Phase 2: Winter Phase 1: Indian Summer Phases of the Global Financial Crisis: Spring 15 30 45 60 75 90 105 120 Jan-07 Mar-07 May-07 Jul-07 Sep-07 Nov-07 Jan-08 Mar-08 May-08 Jul-08 Sep-08 Nov-08 Jan-09 Mar-09 May-09 Jul-09 S&P Financial S&P Industrial -76.7 -61.3 Phase 2 130.4 61.0 Phase 3 Variation in % -28.0 13.2 Phase 1 S&P Financial S&P Industrial

37.  Moreover, the G-20 initiatives deactivated potentially severe liquidity problems for the region… Macroeconomic Impact on Latin America of the Global Financial Crisis: Spring  During the ‘Spring Phase’ of the crisis, global economic and financial conditions improved significantly

38. G-20 Initiatives: Financial Assistance for Emerging Markets Recapitalization of the IMF (US$ 500 bn)Recapitalization of the IMF (US$ 500 bn)  Increase in multilaterals lending capacity with a special focus on liquidity provision and crisis prevention New Special Drawing Rights (SDR) allocation (US$ 250 bn)New Special Drawing Rights (SDR) allocation (US$ 250 bn) New support for trade finance (US$ 250 bn)New support for trade finance (US$ 250 bn) IMF Flexible Credit Line (FCL) and High-Access Precautionary Arrangements (HAPAs)IMF Flexible Credit Line (FCL) and High-Access Precautionary Arrangements (HAPAs)  New (and more flexible) financial instruments Recapitalization of Development Banks (U$S 100 - 300 bn)Recapitalization of Development Banks (U$S 100 - 300 bn)

39. ILR t = Reserves t / (Public Debt Amortizations t+1 + Short Term External Private Debt) Liquidity Indicators post G-20 Initiatives ILR with Multilateral Support (LAC-7, International Liquidity Ratio) 80% 90% 100% 110% 120% 130% 140% 150% 20082009201020112012 Threshold Without Multilateral Support With Multilateral Support FCL = U$S 111.9 billion FED = U$S 60 billion LAC-7 is the simple average of the seven major Latin American countries, namely Argentina, Brazil, Chile, Colombia, Mexico, Peru and Venezuela. These countries represent 91% of Latin America’s GDP. *These countries already requested the FCL. Mexico USD47bn (1000%) and Colombia USD10.4bn (900%) FCL Assumptions (1000% of Quota) Mexico* Brazil Colombia* Peru 47.0 bn 45.0 bn 10.4 bn 9.5 bn FCL112 bn Source: Barclays

40.  Moreover, the G-20 initiatives deactivated potentially severe liquidity problems for the region…  … which together with the improvement in the global economic and financial conditions, significantly changed the macroeconomic outlook for Latin America Macroeconomic Impact on Latin America of the Global Financial Crisis: Spring  The recession is now expected to be relatively short and a rebound is expected in 2010, and the fiscal and debt outlook improved substantially  During the ‘Spring Phase’ of the crisis, global economic and financial conditions improved significantly

41. EXTERNAL FACTORS Commodity Prices International Financial Conditions Industrial Countries Growth **Recovery to Dec-06 levels Global Commodity Prices Pre-Crisis Level Source: IMF and Bloomberg (2006 = 100) Jun-08 Mar-09 -47.3% Dec-13 Peak Trough P. to T. Recovery** Jun-07 Dec-08 512 Dec-13 Sovereign Bonds Spread Source: JPMorgan Pre- Asian Crisis Level (EMBI +, bps) Trough Peak T. to P. Recovery** US Economic Activity (2006 = 100) Pre-Crisis Level **Recovery to pre-crisis levels Source: Own calculations based on WEO and JPMorgan, Oct-08. Mar-08 Jun-09 -3.5% Jun-12 Peak Trough P. to T. Recovery** Medium Term Macroeconomic Outlook for Latin America: Spring Scenario * ‘Winter’ Scenario 100 150 200 250 300 350 400 450 500 550 600 20062007200820092010201120122013 ‘Winter’ Scenario ‘Spring’ Scenario ‘Winter’ Scenario ‘Winter’ Scenario ‘Winter’ Scenario ‘Winter’ Scenario ‘Spring’ Scenario 99 101 103 105 107 109 111 113 20062007200820092010201120122013 Mar-08 Jun-09 -3.9% Sep-10‘Spring’ Jun-08 Mar-09 -50.6% Sep-10‘Spring’ ‘Spring’ Scenario 75 85 95 105 115 125 135 20062007200820092010201120122013 Jun-07 Dec-08 512 Sep-10‘Spring’ *Based on Izquierdo, A. and Talvi, E. (coords.) (2009), “Policy Trade-Offs for Unprecedented Times: Confronting the Global Crisis in Latin America” **Recovery to pre-asian crisis levels (350 bps). In the case of spring scenario the recovery is to 300 bps

42. GDP Growth (annual growth rate) Economic Activity (GDP 2006 = 100) **Recovery to pre-crisis levels LAC-7 is the simple average of the seven major Latin American countries, namely Argentina, Brazil, Chile, Colombia, Mexico, Peru and Venezuela. These countries represent 91% of Latin America’s GDP. CAC-5 is the simple average of Costa Rica, Dominican Republic El Salvador, Guatemala and Panama. Economic Activity: Winter Scenario* *Based on Izquierdo, A. and Talvi, E. (coords.) (2009), “Policy Trade-Offs for Unprecedented Times: Confronting the Global Crisis in Latin America” Latin America (LAC-7) Central America (CAC-5) ‘Winter’ Peak Trough P. to T. Recovery** Pre-Crisis Level Sep-08 Sep-09 -3.8% Sep-10 ‘Spring’Scenarios ‘Winter’ Scenario Sep-08 Sep-10 -5.1% Jun-13 -3% -2% -1% 0% 1% 2% 3% 4% 5% 6% 7% 2006200720082009201020112012 2013 Average 2003-2007: 5.8% ‘Winter’ Peak Trough P. to T. Recovery** Pre-Crisis Level Scenarios ‘Winter’ Scenario 95 100 105 110 115 120 125 130 135 20062007200820092010201120122013 Sep-08 Dec-10 -1.9% Jun-12 ‘Spring’ Sep-08 Jun-09 -0.8% Mar-10 -1% 0% 1% 2% 3% 4% 5% 6% 7% 8% 2006200720082009201020112012 2013 Average 1991-2007: 4.8% Average 2003-2007: 5.8% ‘Spring’ Scenario 95 100 105 110 115 120 125 130 20062007200820092010201120122013 Average1991-2007: 3.3% ‘Spring’ Scenario

43. Public Debt (% of GDP) Fiscal Balance (% of GDP) LAC-7 is the simple average of the seven major Latin American countries, namely Argentina, Brazil, Chile, Colombia, Mexico, Peru and Venezuela. These countries represent 91% of Latin America’s GDP. CAC-5 is the simple average of Costa Rica, Dominican Republic El Salvador, Guatemala and Panama. Fiscal Position: Winter Scenario* *Based on Izquierdo, A. and Talvi, E. (coords.) (2009), “Policy Trade-Offs for Unprecedented Times: Confronting the Global Crisis in Latin America” Latin America (LAC-7) Central America (CAC-5) -6% -5% -4% -3% -2% -1% 0% 1% 2% 20062007200820092010201120122013 ‘Winter’ Scenario -5.0% 1.6% ‘Spring’ Scenario -2.6% 0.3% -3.7% ‘Winter’ Scenario 32% 55% -2.7% -4.1% 49% ‘Winter’ Scenario -5% -4% -3% -2% -1% 0% 1% 2% 20062007200820092010201120122013 0.6% -0.8% -3.2% ‘Spring’ Scenario 30% 35% 40% 45% 50% 55% 20062007200820092010201120122013 37% 39% ‘Spring’ Scenario 39% 28% 33% 38% 43% 48% 53% 58% 20062007200820092010201120122013

44. OUTLINE I.Introductory Remarks II. Phase 1: “Indian Summer” (2007.I – 2008.II) III. Phase 2: “Winter” (2008.II – 2009.I) IV. Phase 3: “Spring” (2009.I) V. Policy Challenges and a Final Thought

45. POLICY CHALLENGES FOR LATIN AMERICA  This improved outlook implies a shift in the monetary and fiscal policy focus towards: Gradually undoing expansionary fiscal policies set in motion during the ‘Winter Phase’, in a manner consistent with an intertemporal sound fiscal policy and safe levels of public debtGradually undoing expansionary fiscal policies set in motion during the ‘Winter Phase’, in a manner consistent with an intertemporal sound fiscal policy and safe levels of public debt Exchange rate / inflationary impact of renewed capital inflows and rising commodity pricesExchange rate / inflationary impact of renewed capital inflows and rising commodity prices  Looking ahead: Chilly Spring or Hot Summer?

46. LOOKING AHEAD: CHILLY SPRING OR HOT SUMMER? Chilly Spring  Countries should prepare themselves by concentrating on self-insurance (reserve accumulation and rescheduling of debt maturities) and strengthening fiscal positions while capital market conditions remain favorable for the region  Possibly higher US interest rates might imply tighter credit conditions for EMs in the foreseeable future Hot Summer  Excess world savings imply a very low real interest rate scenario cum high capital inflows to EMs

47. Fiscal Balance (Last 4 quarters, % of GDP) Current Account (Last 4 quarters, % of GDP) Twin Deficits in the US -1.2% -3.2% -13.1% -14% -12% -10% -8% -6% -4% -2% 0% 2% 4% 1997199819992000200120022003200420052006 200720082009 US Financial Crisis -5.2% -4.9% -3.1% -7% -6% -5% -4% -3% -2% -1% 0% 19971998199920002001 200220032004 20052006200720082009 US Financial Crisis -1.9% -6.0%

48. LOOKING AHEAD: CHILLY SPRING OR HOT SUMMER? Chilly Spring  Countries should prepare themselves by concentrating on self-insurance (reserve accumulation and rescheduling of debt maturities) and strengthening fiscal positions while capital market conditions remain favorable for the region  Possibly higher US interest rates might imply tighter credit conditions for EMs in the foreseeable future Hot Summer  Countries should manage the capital flow bonanza concentrating on:  Excess world savings imply a very low real interest rate scenario cum high capital inflows to EMs More aggressive countercyclical monetary and fiscal policyMore aggressive countercyclical monetary and fiscal policy Achieving structural fiscal surpluses and public debt reduction to safe levelsAchieving structural fiscal surpluses and public debt reduction to safe levels Channeling world savings into socially productive investmentsChanneling world savings into socially productive investments

49. A Final Thought

50. (in basis points, t = 0) Sovereign Bond Spreads 200 400 600 800 1000 1200 1400 1600 1800 2000 0918273645546372819099108117 Venezuela Current Crisis (01-Sep-08 = 100) Argentina Current Crisis (01-Sep-08 = 100) Latin EMBI Current Crisis (01-Sep-08 = 100) Latin EMBI Russian Crisis (20-Jul-98 = 100) Current Crisis Russian Crisis 2.8%17.7% 8.7%15.1% Argentina 1.1% Venezuela 3.0% Countries with Strong Fundamentals (2007) 5.8%16.4% Average 2.1% Current Account Reserves 1.9%14.3% Latin America (LAC-7) Pre-Current Crisis (2007)1.9% Fiscal Balance Macroeconomic Fundamentals (% of GDP) -3.0%12.7%Pre-Russian Crisis (1997)-0.9% Latin America’s Resilience during the Global Crisis: Strong Fundamentals or International LOLR?

51. Macroeconomic Challenges for Latin America: Where do we Stand? Prepared for Presentation at the XXX Meeting of the Latin American Network of Central Banks and Finance Ministries, IADB, Washington DC Ernesto Talvi Director of CERES and Non-Resident Senior Fellow, Brookings Institution October 22 nd, 2009