Saturday, November 06, 2010

Latin America Reacts to “Quantitative Easing 2”

Sources:
Estadao.com.br: Meirelles vê problemas em excesso de dólares e quer acordo no G-20
Elmercurio.com: Dólar cierra con su mayor caída en 16 meses y Wall Street marca máximo en dos años por la Fed
Lanacion.com.ar: La euforia en los mercados impulsa a la economía local
Mercopress.com: Emerging Economies Ready to Counter the Federal Reserve Latest Liquidity Injection
WSJ.com: Fed Fires $600 Billion Stimulus Shot

On Tuesday, November 2, the Federal Reserve (the Fed) announced a second round of quantitative easing, a process in which the Fed buys government bonds from banks in the hopes that the banks will use the money received to inject capital into the market by issuing new loans. The $600 billion plan has its supporters, but many—both in the U.S. and abroad—are concerned with the possible side effects of the program. The main concern in the U.S. is the possibility of inflation, but abroad the concern is the devaluation of the U.S. dollar. These are essentially two sides to the same coin.

If the value of the dollar falls, other countries’ exports become more expensive for consumers in the U.S. Theoretically this will reduce the total amount of imports the U.S will bring in from the rest of the world. The devaluation will also make U.S. products cheaper for foreign consumers to buy, which should increase the amount of exports leaving the U.S. This would be a boon for U.S. producers who would likely increase hiring to meet the increased production requirements of a higher global demand for their products. The flip side is that the rest of the world’s producers would see their exports fall—many global economies would suffer so that one large one could grow. This is not the guaranteed result of the new program, but it is the possible outcome Latin America fears the most.

Brazil has been one of the world’s most vocal critics of the policy, with the country’s finance minister saying the program’s real purpose is to drive down the value of the dollar so as to increase U.S. exports at the expense of the rest of the world (and not to free up credit in the U.S. as the Fed claims). He even went so far as to compare the program to throwing money out of helicopters. This anger comes from the fact that Brazil has spent the last several weeks trying to stop capital inflows which were putting upward pressures on its currency, the real. It fears that those efforts will have all gone to waste as the Fed’s new cash injection will simply redouble the U.S. foreign investment in emerging markets like Brazil, further pushing up the value of the real.

Other countries have shown more cautionary responses. Chile’s currency appreciated more than any currency in the world except for the Russian ruble in the days after the announcement. This surely makes Chile’s exports less attractive compared to the rest of the world, but the announcement also caused global commodity prices to rise, including the price of copper, Chile’s main export. These two phenomena may ultimately cancel each other out. Argentina likewise benefited from the announcement after the price of its two largest exports, grain and soy, rose dramatically.

These mixed reactions are a good example of the conundrum Latin America (and most of the developing world) faces because of the global economic downturn. The region exited the recession quickly and is now experiencing robust growth, but no one expects that growth to continue if the U.S. and European economies do not begin to grow more rapidly. At the same time, Latin America is concerned that those economic powers might turn to protectionist measures to spur internal growth while ignoring the consequences for the rest of the world.

Discussion:
1) How concerned should Latin America be about this new round of quantitative easing?
2) Should the U.S. concern itself with the economic fears of the rest of the world right now, or is now the time for the U.S. to help itself first and the rest of the world second?

1 comment:

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