1. Ernesto Talvi, CERES Alejandro Izquierdo, IADB Coordinators Prepared for Presentation at the XXIX Meeting of the Latin American Network of Central Banks and Finance Ministries, IADB, Washington DC, April 22 nd, 2009.

2. I.Latin America and the Global Crisis: Predominant Views II.Macro Dynamics in Latin America Under Two Hypotheses on the Global Economy III.Policy Trade-offs for Unprecedented Times: A Liquidity Approach OUTLINE

3. LATIN AMERICA AND THE GLOBAL CRISIS: PREDOMINANT VIEWS  As a result of the global crisis Latin America suffered a drastic deterioration in the external environment:

4. Source: JPMorgan United States May-08 Mar-09 08 Q3 08 Q4 09 Q109 Q3 20082009 09 Q2 External Factors: Industrial Countries Growth (GDP; yoy and qoq saar) 1.5% 2.1% 1.1% -2.5% -3.0% -2.0% -1.0% 0.0% 1.0% 2.0% 3.0% 100.1 Average US Post - WWII Recession* 98.5 98.9 99.3 99.7 tt+1t+2t+3 Peak -1.6% Trough (GDP, real terms) *Own calculations based on NBER dating. Current US Recession (GDP, real terms) Peak Trough -3.5% 96 97 98 99 100 101 102 08.II08.III08.IV09.I09.II09.III May-08 Forecast Current Forecast

5. * EU-15 includes Austria, Belgium, Cyprus, Finland, France, Germany, Greece, Ireland, Italy, Luxembourg, Malta, Netherlands, Portugal, Slovenia and Spain. Source: JPMorgan (GDP, real terms) United States Peak Trough -3.5% 96 97 98 99 100 101 102 08.II08.III08.IV09.I09.II 09.III May-08 Forecast Current Forecast EU-15* Japan 90 92 94 96 98 100 102 08.I08.II08.III08.IV09.I09.II09.III09.IV Peak Trough May-08 Forecast Current Forecast -9.7% 95 96 97 98 99 100 101 102 103 08.I08.II08.III08.IV09.I09.II09.III Current Forecast Peak Trough May-08 Forecast 96 97 98 99 100 101 102 08.II08.III08.IV09.I09.II09.III09.IV -3.9% May-08 Forecast Current Forecast Peak Trough -4.3% Industrial Countries External Factors: Industrial Countries Growth

6. 50 150 250 350 450 550 650 750 2001 2002 2003 20042005 2006 20072008 70 90 110 130 150 170 190 2001 2002 20032004 2005 20062007 2008 70 100 130 160 190 220 250 280 310 340 20012002200320042005200620072008 External Factors: Commodity Prices Source: IMF Oil (1991-1997 Average = 100) Food Metals US Financial Crisis 725 228 373 -68% 91-97 Average 177 123 -30% US Financial Crisis 123 91-97 Average US Financial Crisis 313 158 -46% 91-97 Average Variation Dec.01 – Jul.08: +616% Variation Dec.01 – Jun.08: +133% Variation Dec.01 – Mar.08: +282%

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. (LAC-7, Jun-97=100) External Factors: Terms of Trade Russian Crisis US Financial Crisis Beginning of the Boom Variation Dec.01-Jun.08: 82% 85 95 105 115 125 135 145 155 165 175 1990199119921993199419951996199719981999200020012002200320042005200620072008 Variation Jul.08-Dec.08: - 26% Annualized Variation 1990-2006 Dec.01 – Jun-08 2.0% 9.5%

8. 0 100 200 300 400 500 600 700 800 900 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 Corporate Bond Spreads Corporate Bond Prices External Factors: International Financial Conditions (Latin CEMBI; Bond Price Equivalent*, 01-Jan-07 = 100) (Latin CEMBI; 01-Jan-07 = 100) Total Variation in bps CEMBI 87 Jan.07- May.08 Jun.08- Mar.09 516603 Jan-07 221 06-Mar-09 824 CEMBI % Variation -0.1 Jan.07- May.08 Jun.08- Mar.09 -.22.3 Total -.22.4 65 70 75 80 85 90 95 100 105 Jan-07 Apr-07 Jul-07 Oct-07 Jan-08 Apr-08 Jul-08 Oct-08 Jan-09 *Assumes a coupon of 11% and a 10Y maturity.

9. LAC-7 is the simple sum 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. Corporate Bonds: Issuance (LAC-7, billions of USD) 0 5 10 15 20 25 Mar-07 Jun-07 Sep-07Dec-07 Mar-08 Jun-08 Sep-08Dec-08 Mar-09 21.2 2.5 External Factors: International Financial Conditions

10. Sovereign Bond Spreads (EMBI+ and Latin EMBI; Spreads, Basis Points) Latin EMBI EMBI+ (EMBI+, Latin EMBI and US AA Corporates; Bond Price Equivalent*, 01-Jan-07 = 100) Latin EMBI EMBI+ US AA Sovereign Bond Prices Total Latin EMBI EMBI+ AA % Variation.-0.6 0.5 Jan.07- May.08 Jun.08- Mar.09 -18.4 -18.0 -6.4 -19.2 -18.4 -5.9 Total Variation in bps Latin EMBI EMBI+ 67 71 Phase 1Phase 2 401 448 468 519 Jan-07 186 170 06-Mar-09 654 689 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 0 100 200 300 400 500 600 700 800 900 1000 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 *Assumes a coupon of 11% and a 10Y maturity. External Factors: International Financial Conditions

11. Sovereign Bonds: Maturity (LAC-7, issuances with maturity less than 1 year, % of total issuance) 20% 25% 30% 35% 40% 45% 50% 55% 60% 65% Mar-07 Jun-07 Sep-07 Dec-07 Mar-08 Jun-08 Sep-08 Dec-08 Mar-09 63.3% 28.6% LAC-7 is the simple sum 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. External Factors: International Financial Conditions

12.  However, Latin America has very strong fundamentals to withstand the worsening of global conditions… LATIN AMERICA AND THE GLOBAL CRISIS: PREDOMINANT VIEWS  As a result of the global crisis Latin America suffered a drastic deterioration in the external environment

13. 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. Fiscal Balance in Latin America (LAC-7; Overall Balance, % of GDP) Public Debt in Latin America (LAC-7; Public Debt, % of GDP) 30% 32% 34% 36% 38% 40% 42% 44% 46% 48% 50% 52% 19901991199219931994 1995 1996199719981999 20002001 20022003 2004200520062007 Russian Crisis Beginning of 2000s Boom US Financial Crisis 50% 33% 52% 35% -3.5% -3.0% -2.5% -2.0% -1.5% -1.0% -0.5% 0.0% 0.5% 1.0% 1.5% 2.0% 1991199319951997199920012003 2005 2007 1.5% Russian Crisis Beginning of 2000s Boom Latin America: Fiscal Balance and Public Debt US Financial Crisis

14. Latin America: Banking Indicators 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. Source: Bankscope Non Performing Loans in Latin America (LAC-7, % of Total Loans) 9.5 6.2 4.4 3.7 3.3 2.5 0 1 2 3 4 5 6 7 8 9 10 200220032004200520062007

15. 0.9 1.0 1.1 1.2 1.3 1.4 1.5 1.6 1.7 1.8 199319941995199619971998 19992000 2001 2002200320042005200620072008 International Reserves in Latin America (LAC-7, in billions of USD) 0 50 100 150 200 250 300 350 400 450 199019911992 19931994 199519961997199819992000 2001200220032004 2005 200620072008 Russian Crisis Beginning of the Boom US Financial Crisis 174 275 447 Latin America: International Liquidity Indicators LAC-7 is the simple sum (*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 in Latin America (LAC-7*, International Reserves to External Public Debt Amortizations in the next twelve months plus Central Bank Short Term Liabilities) Russian Crisis Beginning of the Boom US Financial Crisis 1.0 1.8 147

16. 10% 15% 20% 25% 30% 35% 40% 45% 50% 55% 19941995199619971998 1999200020012002 20032004200520062007 Latin America: Financial Dollarization Credit Dollarization in Latin America (LAC-7; Bank Credit in Foreign Currency, % of Total Credit) Beginning of 2000s Boom 23% 50% 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. For bank credit figures, LAC-7 excludes Brazil, Colombia and Venezuela. Public Debt Dollarization in Latin America (LAC-7; Foreign Currency Debt, % of Total Debt) 30% 35% 40% 45% 50% 55% 60% 65% 19971998199920002001200220032004200520062007 65% 35% Beginning of 2000s Boom

17. 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. * Sturzenegger and Talvi (2008): “Unveiling Monetary Policy in Latin America” **Excludes Venezuela ***Includes Australia, Canada, New Zealand, South Africa and United Kingdom Latin America: Exchange Rate Flexibility ‘Fear of Floating’ Coefficient in Latin America* (LAC-7**) 1.34 0.28 0.10 0 0.2 0.4 0.6 0.8 1 1.2 1.4 1.6 Pre Asian/Russian Crisis CurrentIndustrial Countries*** Central Bank’s Reaction Function where: R t denotes the Central Bank policy interest rate π t denotes the inflation rate y t denotes output s t denotes the nominal effective exchange rate p R captures the partial adjustment of the interest rate to target ψ 1,ψ 2, and ψ 3 captures the monetary authorities reaction to inflation, output and exchange rate fluctuations respectively   R ttttRt-Rt εΔsψyψπψ ) ρ(RρR  3211 1 Fear of Floating Coefficient

18.  …and thus better equipped to pursue countercyclical monetary and fiscal policies to mitigate the impact of adverse external shocks LATIN AMERICA AND THE GLOBAL CRISIS: PREDOMINANT VIEWS  As a result of the global crisis Latin America suffered a drastic deterioration in the external environment  However, Latin America has very strong fundamentals to withstand the worsening of global conditions…

19. Latin America: Monetary and Fiscal Policy Response Monetary Policy Interest Rate Exchange Rate 8.5% 8.7% 8.9% 9.1% 9.3% 9.5% 9.7% 9.9% Sep-08Oct-08Nov-08Dec-08Jan-09Feb-09 98 102 106 110 114 118 122 126 (LAC-7*, Interbank interest rate and Nominal Exchange Rate, in % and Sep-15-08=100) Fiscal Stimulus Announcements in Latin America (% of GDP) Source: Credit Suisse Argentina Brazil Chile Mexico Peru 5.1 0.3 1.0 0.5 0.0 0.2 0.1 1.1 1.0 1.4 1.1 3.3 0.7 0.0 1.1 6.4 3.6 2.8 1.5 2.5 ON - BUDGET OFF – BUDGET TOTAL Revenue-sideExpenditure-side 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

20. 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 and Fiscal Policy Response: Russian Crisis vs. Current Crisis 20% 22% 24% 26% 28% 30% 32% 34% 36% 38% 40% Jul-98Aug-98Sep-98 98 100 102 104 106 108 110 112 114 116 118 Interest Rate Exchange Rate Interest RateExchange Rate Monetary Policy (LAC-7*, Interbank Interest Rate and Nominal Exchange Rate, in % and Jul-98=100)

21.  As a result, the recession in 2009 will be relatively deep but short lived, the region will return to positive growth in 2010… LATIN AMERICA AND THE GLOBAL CRISIS: PREDOMINANT VIEWS  …and thus better equipped to pursue countercyclical monetary and fiscal policies to mitigate the impact of adverse external shocks  However, Latin America has very strong fundamentals to withstand the worsening of global conditions…

22. Market Forecasts: Economic Performance 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. *Source: JPMorgan (LAC-7; real GDP, annual variation) -2% -1% 0% 1% 2% 3% 4% 5% 6% 7% 1991199219931994 1995 199619971998 1999 20002001 2002 2003 20042005 2006 2007 20082009 2010 Russian CrisisBeginning of the Current Boom US Financial Crisis Current Forecast Apr-08 Forecast Average 71-06: 3.4% 4.9 % -0.9 % 3.0 % 91-97 Growth Average : 4.6% 98-02 Growth Average : 0.7% 03-06 Growth Average: 5.6% Forecasts*

23.  …and liquidity crises and economic collapses, so prevalent in the past, will be largely avoided  As a result, the recession in 2009 will be relatively deep but short lived, the region will return to positive growth in 2010… LATIN AMERICA AND THE GLOBAL CRISIS: PREDOMINANT VIEWS  …and thus better equipped to pursue countercyclical monetary and fiscal policies to mitigate the impact of adverse external shocks  However, Latin America has very strong fundamentals to withstand the worsening of global conditions…

24. I.Latin America and the Global Crisis: Predominant Views II.Macro Dynamics in Latin America Under Two Hypotheses on the Global Economy III.Policy Trade-offs for Unprecedented Times: A Liquidity Approach OUTLINE

25. ROADMAP  To assess the predominant views on the region in the face of the global crisis, we proceed as follows: i.Go beyond a snapshot of the region and see the motion picture right to the end, tracing the macro dynamics of a key set of variables under alternative hypotheses on how the global recovery unfolds ii.Develop a simple framework emphasizing liquidity issues as a key element in evaluating the region’s risks and policy trade-offs

26. Hypotheses on the Global Economy

27. L-Shaped Scenario 100 200 300 400 500 600 700 20062007200820092010201120122013 Sovereign Bond Spread Source: JPMorgan for Bond Spreads Pre- Asian Crisis Levels (EMBI +, bps) V-Shaped Scenario TroughJun-07 PeakJun-09 T-to-P 512 Recovery*Sep-10 V-Shaped *Recovery to Pre-Asian crisis levels L-Shaped Scenario 75 85 95 105 115 125 135 20062007200820092010201120122013 Global Commodity Price Index Source: IMF and Bloomberg* Pre-Crisis Levels (2006 = 100) V-Shaped Scenario *Recovery to Dec-06 levels PeakJun-08 TroughJun-09 P-to-T-47.3% Recovery*Sep-10 V-Shaped Mar-08 Jun-09 -4.3% Dec-13 L-Shaped EXTERNAL FACTORS Commodity Prices International Financial Conditions Industrial Countries Growth Two Hypotheses on the Global Economy G7 is the PPP-weighted average of the Canada, France, Germany, Italy, Japan, United States, UK G7 Industrial Production (2006 = 100) V-Shaped Scenario Pre-Crisis Levels 97 99 101 103 105 107 109 20062007200820092010201120122013 V-Shaped PeakMar-08 TroughJun-09 P-to-T-4.3% Recovery*Sep-10 *Recovery to pre-crisis levels of output Source: Own calculations based on WEO and JPMorgan*, Oct-08. L-Shaped Scenario Jun-08 Jun-09 -47.3% Dec-13 L-Shaped Jun-07 Jun-09 512. Dec-13 L-Shaped

28. Economic Performance

29. Tequila Crisis Asian / Russian Crises Dot-Com Crisis Beginning of the Boom External Factors -6% -4% -2% 0% 2% 4% 6% 8% 10% 1992199319941995199619971998 1999 2000 200120022003200420052006 Actual Fitted * Izquierdo, A., Romero, R. and Talvi, E. (2008): “Booms and Busts in Latin America: The Role of External Factors”, Working Paper 631, IADB Research Department Growth in Industrial Countries 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. Economic Fluctuations in Latin America: The Role of External Factors * (LAC-7; real GDP, annual growth rate)

30. Economic Activity Under Two Hypotheses on the Global Economy 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. 95 100 105 110 115 120 125 20062007200820092010201120122013 Economic Activity (LAC-7 GDP, 2006 = 100) Pre-Crisis Levels V-Shaped Scenario L-Shaped Scenario V-ShapedL-Shaped PeakDec-08Dec-08 TroughSep-09Dec-10 P-to-T-3.9% -5.1% Recovery*Mar-11Dec-13 *Recovery to pre-crisis levels of output

31. ECONOMIC ACTIVITY UNDER TWO HYPOTHESES ON THE GLOBAL ECONOMY  Moreover, in the L-shaped scenario the region could experience negative growth in 2009 and 2010 and average growth will be close to zero in the next five years, indicating that Latin America should prepare for tougher economic conditions in the years to come CONCLUSIONS  Under both hypotheses, output performance for the next five years will be mediocre at best and substantially below the 6 percent average growth rates of the previous boom (2003-2007)

32. Fiscal Position

33. Fiscal Position Under Two Hypotheses on the Global Economy 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. 1.8% 2.3% 2.8% 3.3% 3.8% 4.3% 20062007200820092010201120122013 Interest Payments (LAC-7, % of GDP) L-Shaped Scenario V-Shaped Scenario 2.3% 4.1% 2.6% V-ShapedL-Shaped Trough 2008 2008 Peak 2012 2013 Δ T-to-P 0.4% 1.8% Recovery* n.a. n.a. Fiscal Revenues (LAC-7, 2008 = 100) 20062007200820092010201120122013 87 92 96 101 105 V-Shaped Scenario L-Shaped Scenario 100 105 95 93 86 V-ShapedL-Shaped Peak 2008 2008 Trough 2010 2011 P-to-T -7.2% -13.5% Recovery* 2012 n.a. *Recovery to pre-crisis levels of output Primary Expenditure (LAC-7, 2008 = 100) 80 85 90 95 100 105 20062007200820092010201120122013

34. Fiscal Position Under Two Hypotheses on the Global Economy Fiscal Balance (LAC-7, % of GDP) -6% -5% -4% -3% -2% -1% 0% 1% 2% 20062007200820092010201120122013 V-Shaped Scenario L-Shaped Scenario 1.6% -2.6% -5.0% 0.3% -3.7% Public Debt (LAC-7, % of GDP) 23% 28% 33% 38% 43% 48% 53% 20062007200820092010201120122013 V-Shaped Scenario L-Shaped Scenario 34% 27% 49% 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.

35. FISCAL POSITION UNDER TWO HYPOTHESES ON THE GLOBAL ECONOMY  Although the region starts from a strong fiscal position, under the L-shaped scenario the combination of declining economic activity, collapsing commodity prices and rising financial costs, leads to a gradual, persistent and potentially severe deterioration in the overall fiscal position (even under very conservative assumptions on primary expenditures)  Fiscal deterioration results in an exponential dynamics of public debt CONCLUSIONS

36. Banking Indicators

37. Banking Indicators Under Two Hypotheses on the Global Economy Non Performing Loans (LAC-7, in % of Total Loans) 0% 1% 2% 3% 4% 5% 6% 7% 8% 9% 10% 20062007200820092010201120122013 L-Shaped Scenario V-Shaped Scenario 8.8% 4.3% 2.1% 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. Loan Loss Provisions (LAC-7, Loan Loss Provisions to Non Performing Loans) 0.0 0.5 1.0 1.5 2.0 2.5 3.0 20062007200820092010201120122013 L-Shaped Scenario V-Shaped Scenario 0.4 1.1 2.4 V-Shaped L-Shaped In % 5.9%32.1% Bank Capital Losses

38. BANKING INDICATORS UNDER TWO HYPOTHESES ON THE GLOBAL ECONOMY  Although initial conditions of banks in the region are sound, the decline in economic activity in the L-shaped scenario could lead to a gradual and relatively large deterioration in bank’s loan portfolios resulting in equally large capital losses CONCLUSIONS

39. Liquidity Indicators

40. Liquidity Indicators: A Simple Analytical Framework Liquidity Indicators Liquidity Indicators Definition RtRtRtRt B t+1 ST ILR t = where ILR t = International Liquidity Ratio in t R t = International Reserves in t B ST t+1 = Public Debt Amortizations in t+1 B t ST t Debt Amortization Profile 12345

41. 6 12345 B t ST t ILR Dynamics ILR Dynamics RtRt B t+1 ST t 01234 ILR with no Financial Precarization Liquidity Indicators: A Simple Analytical Framework

42. 12345 B t ST t t 01234 RtRt B t+1 ST ILR Dynamics Precarization Effect Debt Amortization Profile ILR with no Financial Precarization ILR with Financial Precarization Liquidity Indicators: A Simple Analytical Framework

43. 12345 B t ST t t 01234 RtRt B t+1 ST ILR Dynamics Fiscal Effect Precarization Effect Fiscal Effect Debt Amortization Profile Liquidity Indicators: A Simple Analytical Framework

44. t 01234 RtRt B t+1 ST Effective Level of Reserves (R’) R’ t B t+1 ST Fiscal Effect Effective Level of Reserves Effect Precarization Effect  Degree of intervention in the FX market  Degree of liquidity assistance to the corporate and banking sector  Willingness to use reserves for public debt repayments ILR Dynamics Liquidity Indicators: A Simple Analytical Framework

45. t 01234 RtRt B t+1 ST R’ t B t+1 ST Fiscal Effect Effective Level of Reserves Effect Precarization Effect ILR Dynamics Determinants of ILR Dynamics  Initial level of public debt  ‘Effective’ level of international reserves  Time profile of debt amortizations  Dynamics of fiscal deficit and public debt (which will depend on the initial fiscal deficit and the policy response) Liquidity Indicators: A Simple Analytical Framework

46. Conclusions  The likelihood of a liquidity crisis as determined by ILRs will depend on the interaction between external factors (i.e. duration of the global crisis) and idiosyncratic factors (i.e. determinants of ILRs dynamics)  Not every country may hit a critical threshold in the relevant period of the global crisis and for those that do, they will not do so at the same time. Liquidity crises, if they occur, will be sequential rather than simultaneous  Liquidity problems may evolve gradually but materialize suddenly when a critical threshold is hit. Threshold 01234 t RtRt B t+1 ST ILR Dynamics Country 1 Country 2 Liquidity Crisis Liquidity Indicators: A Simple Analytical Framework

47. Liquidity Indicators Under Two Hypotheses on the Global Economy 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. ILR 2t = Reservest / (Public Debt Amortizationst+1 + Short Term Private External Debt Amortizations) ILR Dynamics (LAC-7, ILR 2 ) V-Shaped Scenario L-Shaped Scenario 80% 90% 100% 110% 120% 130% 140% 20082009201020112012 Normal International Financial Conditions

48. LIQUIDITY INDICATORS UNDER TWO HYPOTHESES ON THE GLOBAL ECONOMY  Under the L-shaped scenario, liquidity ratios could gradually evolve towards critical thresholds increasing the likelihood of a liquidity crisis and a severe output contraction CONCLUSIONS

49. CLOSING REMARKS (I)  Under a V-shaped global recovery, the dynamics of key macro fundamentals, i.e., fiscal, banking and liquidity indicators, suggest that the predominant views on the region are largely correct  Thus, the recessionary impact of the global crisis will be inevitable, but liquidity crises and economic collapses will be largely prevented  However, a moderate perturbation from the V-shaped scenario completely changes the region’s outlook

50. CLOSING REMARKS (II)  It is against this backdrop, of a potentially more fragile scenario evolving through time, that proposals to pursue active countercyclical fiscal policies must be evaluated with care  Under an L-shaped scenario, there is a large and persistent deterioration in key macro fundamentals, i.e., fiscal, banking and liquidity indicators  A key feature of this scenario is that the deterioration in fundamentals is gradual and therefore problems may not become evident until it is too late

51. CLOSING REMARKS (III)  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

52. (Latin EMBI and Latin CEMBI, Yield in %) Sovereign and Corporate Bonds in US (US 10y T-Bonds and US BBB Corporate, Yield in %) Latin EMBI Latin CEMBI 6 7 8 9 10 11 12 13 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 Source: Bloomberg US 10Y BBB US 10YBBB 2.0 2.5 3.0 3.5 4.0 4.5 5.0 5.5 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 5.5 6.0 6.5 7.0 7.5 8.0 8.5 9.0 9.5 10.0 10.5 Sovereign and Corporate Bonds in LAC PRECARIOUS CREDIT MARKETS: US VS EMs

53. Total Borrowing Requirements Full Support Public Debt Amortizations 402 Fiscal Deficit Financing 236 Geithner’s Proposal* 39 638 Passive Fiscal Deficit 198 LAC-7 is the sum 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. *Assuming full impact of the Keynesian multiplier on output and fiscal revenues. External 52 Domestic 350 Partial Support Fiscal Deficit Financing Only 228 236 39 464 198 34 194 0 236 39 236 198 0 0 No Multilateral Support Full Financing of Fiscal Deficit and No Financing of Debt Amortizations Normal International Financial Conditions Full Financing of Fiscal Deficit and Partial Financing of Debt Amortizations 75% 80% 85% 90% 95% 100% 105% 110% 115% 120% 125% 2008200920102011 2012 ILR Dynamics Under Alternative Strategies (LAC-7, L-Shaped Scenario, ILR 2 ) ILR 2 t = Reserves t / (Public Debt Amortizations t+1 + Short Term Private External Debt Amortizations) Strategy Support by Multilaterals: Alternative Strategies (LAC-7, billions of dollars, 2009-2010)

54. RECENT INICIATIVES: POINTING IN THE RIGHT DIRECTION Increase in resources of the IMF (US$ 500 bn)Increase in resources of the IMF (US$ 500 bn)  Increase in the lending capacity of multilaterals with a focus on liquidity and crisis prevention New SDR allocation (US$ 250 bn)New SDR allocation (US$ 250 bn) Provision of trade financing (US$ 250 bn)Provision of trade financing (US$ 250 bn) IMF new FCL and HAPAIMF new FCL and HAPA  New (and more flexible) array of financial instruments Recapitalization of MDBsRecapitalization of MDBs  Recognition of the complementary role of the IMF and MDBs

55. Ernesto Talvi, CERES Alejandro Izquierdo, IADB Coordinators Prepared for Presentation at the XXIX Meeting of the Latin American Network of Central Banks and Finance Ministries, IADB, Washington DC, April 22 nd, 2009.