The financial crisis in Europe due to concerns over the Mediterranean countries is highlighting the divergence between developed world and the emerging economies of Latin America.
Saddled with huge government fiscal deficits and the likelihood of Europe being stuck in the slow lane of economic recovery for some years to come, the euro has come under intense selling pressure.
Uncertainties surrounding the sovereign debt issue among eurozone members has been compounded by the lack of cohesion between the affected governments.
By comparison, local currencies in Latin America remain strong and growth rate forecasts for this year have continued to be upgraded. Governments in the region are not encountering any problems in raising finance from international investors. But why is there such a big divergence between these two continents?
To answer this question, we need to look back to the 1990s when countries such as Brazil and Mexico experienced their own financial problems. During this period, some harsh medicine was administered and tough decisions were made.
What followed was the introduction of prudent and sensible government economic policies, which lay the groundwork for a more stable and enterprising environment wherein companies could successfully operate.
Inflation rates fell sharply and the cost of borrowing declined to multi-year lows. Banks were careful with their lending policies towards companies and consumers. Governments did not go on spending sprees but kept some money back for less sunnier times.
The net result of this financial management is that today all major Latin American economies’ public sector/GDP ratios are under 50%. In Chile, for example, there is very little debt and the government has built up a sovereign wealth fund. It is not just the public sector that has low debt levels.
The same is true for companies and households. Indeed, they are both in a position to take on more debt. For companies, access to the debt markets brings cheaper financing, and for consumers, the ability to borrow will help stimulate the demand for a whole range of goods.
Surviving the global financial downturn in good health has encouraged investors to focus on the strengths of the Latin American region. Although I expect infrastructure plans to be bolstered in Brazil by the awarding of the 2014 World Cup and 2016 Olympics, the bigger opportunities lie around the domestic consumption story.
This is a long-term theme and is real. Living standards are rising and consumers have more money to spend. In addition to the economic powerhouses of Sao Paulo and Rio, other growth hotspots are emerging in the area around the capital Brasilia and in the north-east region of Brazil, traditionally a poor area.
Dean Newman is head of emerging markets at Invesco Perpetual
