Breaking the Boom and Bust Cycle?
Oct 31, 2006
Daniel Volberg (New York)
The fastest-growing economy in Latin America is likely to do it again in 2007, but can this growth last? Argentina has been growing at nearly 9% for four years and we expect a similar, albeit more subdued, performance next year at 7%. However, sustainable growth has proven elusive for Argentina over the past half-century as the economy went through severe boom and bust cycles. While economic growth keeps roaring ahead, it is important to ask whether Argentina has graduated from its history of spectacular boom and bust cycles.
A crucial element to sustainability of growth in the medium term is the balanced growth of investment. One of the problems we have been concerned with is the potentially high rate of capacity utilization in many industrial sectors in Argentina (see “Argentina: Repressed Inflation” in This Week in Latin America, September 25, 2006). If manufacturers expect the growth to be sustained, they should invest beyond the replacement value of depreciated capital.
We calculate investment net of capital stock depreciation in Argentina and find that it is back to historical levels, suggesting that the investment picture in Argentina is not as problematic as many have imagined. Yes, we are concerned that the interventionist government policies on the tax and inflation fronts are creating a problem in the energy sector that might serve as the weakest link and a risk to continued economic expansion (see “Argentina: No Landing in Sight”, Global Economic Forum, October 24, 2006). But while we acknowledge that the benign aggregate investment picture does not preclude the possibility of serious problems at the micro level derailing the economy, we think that this is a markedly different scenario from a generally fragile economy with deteriorating infrastructure.
The Argentine economy has sustained four years of growth near 9%, and we see no crash in 2007. However, we see significant vulnerabilities on the growth front, given that much of it hinges on continued consumer confidence, subsidized by the negative real interest rates. As the government fights self-induced inflation and as questions abound regarding the ability of the energy complex to meet demand next year, it is easy to be pessimistic. Yet, we feel that in the near term, the broad macro backdrop is less vulnerable this time around than it has been for nearly a decade — investment has rebounded, as has the capital stock, after having been stagnant during the five years through 2004. Combined with a supportive global backdrop and absent a surprise on the energy front, the Argentine growth machine should be able to continue firing on most, if not all cylinders into 2007.
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Upbeat Scenario Remains Intact
Oct 31, 2006
Takehiro Sato (Tokyo)
In the bi-annual Outlook Report today, the BoJ has shown a clear intention through an upbeat outlook for the output gap to continue a measured pace of rate hikes. At the moment, wages, personal consumption and prices remain weaker than the BoJ scenario as it admits, while the corporate sector is stronger. However, the BoJ has conveyed a strong message to the market by leaving its scenario largely unchanged on the view that this imbalance should be resolved during the forecast period over the next year-and-a-half.
As for the forecasts for GDP and core CPI inflation, they are somewhat more optimistic than the market consensus. Namely, the BoJ has made a -0.3ppt parallel shift from its last forecast back in April, and maintains the gap of +0.2ppt for prices from F2006 through F2007. While prices are likely to see continuous downward pressure from softer oil prices and strategic price cuts in mobile phone call charges, the BoJ has indicated its clear intention of persisting with the idea of raising policy rates by projecting an optimistic forecast for prices.
At the same time, its GDP growth outlook is also upbeat. Actually, the BoJ has maintained its forecast for F2006 at 2.4% and raised the forecast for F2007 by 0.1ppt to 2.1%. While the BoJ's outlook implies that real GDP grows by 0.6% QoQ (2.4% SAAR) for the remaining three quarters for F2006, this forecast looks rather bullish, assuming the possible undershoot of the July-September quarter GDP. (Or, the BoJ may be looking for the upward revision of the real growth rate through the downward revision of the GDP deflator in the upcoming GDP release.) Under this scenario, the growth rate is likely to be slightly above the potential growth rate and the output gap is likely to continue improving moderately.
As for the policy implication, our view remains unchanged, looking for the additional rate hike during the Jan-Mar quarter, more precisely in the January 17-18 MPM. While we think a rate hike before the year-end will become difficult to achieve due to the weakening of the IP data, we think any indications of underlying firmness in the data from Oct-Dec particularly in relation to personal consumption and wages should result in the BoJ campaigning more actively for higher interest rates from early next year.
With core prices still flying just above the rooftops (slightly above zero % YoY), we think the emphasis in grounds for persisting with raising policy interest rates will be more on a synthetic judgment based on the ‘second perspective’ described in the BoJ’s report of March 9, than on the first perspective. Still, overuse of the second perspective could fuel criticism that the BoJ had too much discretion at its disposal.
Meanwhile, the potential risk of the above mentioned scenario is that both the domestic and the overseas economies would not pick up very much from October-December, contrary to the scenario. Domestically in particular, we are concerned about the first drop in industrial production for five quarters in October-December, owing to adjustments in the IT area, and we do not expect production-related data in October and November, which should come out before the policy board meetings in December (December 18-19) and January (January 17-18), to give a very strong boost to economic sentiment. We think this could deal a blow to the BoJ officials’ interest in making a rate hike perhaps before the end of 2006.
To arrive at achieving a rate hike in January-March against the aforementioned backdrop of easing external conditions — setting aside the current sluggish industrial production data — would require more upbeat production forecasts going forwards, as well as a shared outlook among the central bank and the market participants for the driver of economic growth switching from external forces (as seen in July-September) to domestic demand.
Moreover, if there is a blind spot in the above scenario, it is probably event risk on the political side rather than the side of the economy. For example, the issue of the governor’s investments — which seems to have passed out of mind for the time being — always has the potential to blow up again while the Diet remains in session.
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