Keith Collister, Contributor

The Washington-based World Bank in an analysis of economic prospects for the Latin American and Caribbean, said Wednesday that regional economic activity had picked up in 2006, and projected growth in gross domestic product (GDP) of five per cent.

This faster growth reflects favourable international conditions, including low interest rates, high commodity prices and demand for imports generally, as well as a relaxation of monetary policy in Brazil and Mexico, the regions two largest economies.

The bank predicts 3.0 per cent growth for Jamaica, and even better performance of 3.5 per cent in 2007. It however sees the island falling back to 3.0 per cent growth in 2008, a point behind the average 4.0 per cent it predicts for the Latin American region.

The World Bank's view of the overall economic picture in 2006 was a healthy one, with strong growth from a historical perspective, average inflation in single digits, and modest fiscal and current account surpluses.

Development financing

The multilateral, which offers development financing to countries of the world, points however to tensions in Argentina and Venezuela, where it believes high but slowing growth driven by domestic demand is unsustainable.

Arguing that despite the deep recessions both countries experienced in 2002-003, these countries' output gaps have been eliminated so that domestic demand significantly exceeded domestic supply, leading to a fast deterioration of their current account surpluses, and double digit inflation.

This inflationary surge has occurred in Argentina despite price freezes, which have negatively impacted investment and supply in some sectors. In the view of the World Bank, Venezuela's supply side constraints have been magnified due to reductions in investment by the state-owned oil company and by private firms "discouraged by the government's anti-business posturing, high taxes, and royalties" which have contributed to a decline in oil production.

FDI PUSH CARIB GROWTH

Other countries in the region are also growing rapidly, with estimated GDP growth in Chile, Columbia and Peru slowing to a still robust 5.0 per cent this year.

In Central America, high prices for the region's export crops and strong remittances have partly offset the effects of high energy prices, while the region has experienced increased foreign and domestic investment inflows following the passage of free trade agreements with the United States.

Strong growth and higher oil prices have been associated with deteriorations in current account balances, which exceed 4.0 per cent of GDP in Costa Rica, Guatemala, and Panama.

Caribbean growth has benefited from strong FDI inflows into the tourism and mining sectors, a recovery from nontraditional exports, and a much less destructive hurricane season compared with 2005.

"Growth in Jamaica is expected to be about 3.0 per cent, a marked improvement from results in the 1990s," said the bank's report.

Rebounding from its 2003 currency crisis, GDP is expected to increase 8.5 per cent in the Dominican Republic, whilst growth in Trinidad and Tobago is estimated to have accelerated further to 12 per cent in 2006, although price pressures are emerging there with inflation year to date of 10 per cent.

Regional electoral uncertainty combined with uncertainty on future U.S. interest rate policy contributed to financial market volatility in the spring of 2006.

The currencies of a number of countries depreciated, with many stock markets undergoing major corrections. However, the improved fiscal stances and reduced indebtedness of countries meant that the region was not particularly affected by this episode, and risk premia - interest spreads over the U.S. benchmark - have declined again to historical lows.

GROWTH OUTLOOK

An end to the rising trend and even a decline in the prices of the region's main commodities exports, slower import demand from the United States, capacity constraints and a return to more sustainable growth in some of the region's fastest growing economies are projected to cause regional growth to decline to about 4.0 per cent by 2008, the World Bank says.

Most of this deceleration reflects slower growth in Argentina and Venezuela, while the slowdown is expected to be less marked elsewhere in the region.

Weaker import demand from the U.S. in 2007 will affect many of the economies in the region, notably Mexico where growth is expected to fall to 3.5 per cent, although the outlook for Brazil is slightly brighter as its economy is less tied to U.S. imports.

Output in a number of Caribbean countries, including Dominica and St. Vincent and the Grenadines, is projected to weaken in line with reduced sugar and banana production following disappointing outcomes from negotiations with the European Union over the Economic Partnership Agreements.

In other countries, these effects may be countered by further improvements in the mining and financial service sectors, namely St. Kitts & Nevis and St. Lucia.

Encouragingly, the World Bank believes Haiti should experience a mild economic recovery with GDP growth of 2.7 per cent in 2007 reflecting improvements in the political climate from a new democratically elected government being sworn in, as well as in its security situation.

RISKS TO THE OUTLOOK

The relatively gradual slowdown predicted for Argentina and Venezuela may not materialise, as with continued excessive domestic demand the current account and inflationary situation could deteriorate faster than projected, raising the prospect of a hard landing.

The rest of the region is likely to be particularly sensitive to a more serious than projected downturn in the United States, such as might follow a sharp decline in housing prices. Such a scenario would likely lead both to reduced demand for the region's exports and falling commodity prices as U.S. and global growth slows, reducing regional incomes and current account balances.

For oil importing countries, the impact of lower prices might offset the effect of reduced export prices, but this could have a large impact on oil exporters and other commodity rich countries.

The other risk stems from the possibility of a disorderly resolution of global imbalances, resulting in higher interest rates and rising risk premia, raising the costs for highly indebted countries in the region.

Improved fundamentals, including reduced debt, and good external liquidity - many countries have pre-financed their borrowing requirements for 2007 - should insulate many countries from the most severe consequences of rising interest rates.

Nevertheless, a sharp rise in international interest rates could have serious consequences for countries where debt ratio's remain high, such as Argentina, Chile, Columbia, Panama, Paraguay, Peru, Uruguay and Jamaica.

The World Bank predicts Jamaica will grow 3.5 per cent in 2007, before falling back to 3.0 per cent in 2008.

E-mail keithcollister@cwjamaica.com