IMF Warns South America on Risks After Commodity Boom

South American countries should consider creating fiscal stabilization funds to buffer their economies against a decline in commodity prices expected to damp growth in the coming years, the International Monetary Fund said today.

Setting up stabilization funds and accelerating infrastructure investment would allow the economies to increase productivity to sustain growth as a decade-long commodity boom peters out, the Washington-based fund said in a report posted on its website.

Economic growth is decelerating as prices for the region’s copper and iron ore fall on slower demand from China, the world’s largest consumer of industrial metals. The fund on April 8 cut its 2014 growth forecast for South America to 2.3 percent from an October estimate of 3.1 percent and an average 5.1 percent in the last decade.

Commodity prices “are projected to moderate further over the medium term as supply is increasing while demand growth from large emerging markets is expected to slow,” the report said. “To avoid the boom-bust dynamics often associated with commodity cycles, countries should work to weaken the link between commodity prices and economic activity.”

Global commodity prices almost tripled between 2003 and 2013, fueling private investment and government spending in South America, which is home to the largest exporter of copper and soybean. Though average commodity prices during the next six years may remain 10 percent higher than during the 2003 to 2011 boom years, the lack of price growth may weigh on economic activity, the fund said.

Reduce Debt

Though commodity prices are declining, they remain “very attractive” and are an opportunity for governments to boost savings and reduce debt, said the fund’s Western Hemisphere director, Alejandro Werner, in an interview in Lima today.

“Many economies, such as Peru and Colombia, are going to continue growing at high rates,” he said. “Clearly there’s still room to boost savings.”

Some governments have room to raise taxes to offset weaker commodity revenue while others can reduce energy subsidies for the wealthy and increase spending on the poor, Werner said.

Chile plans to raise tax revenue by 3 percent of gross domestic product to help balance its budget and increase education and health spending. Argentina plans to lower gas utility subsidies, which the IMF said is “a step in the right direction.”

Cutting debt and maintaining sustainable fiscal policies will allow countries access to cheaper financing in international markets at a time when interest rates are set to rise, Werner said.

“The benefits of following these types of policies, through the reduction of financing costs, are going to be increasingly important and countries are going to implement them. It’s not going to be easy. It’s going to be important that there’s the will to do so,” he said.

Brazil, Chile and Colombia have increased their capacity to adopt counter-cyclical fiscal policies in recent years, the fund said, adding that the creation of fiscal buffers needs to be transparent and sustainable.

“Countries need to rebuild their buffers, not least to be prepared for any future negative economic shock,” the IMF report said.

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