Foreign Investment and Remittances Outpace Debt as Sources of Finance for Latin America and the Caribbean

WASHINGTON, April 2, 2003 - Foreign direct investment and remittances are now more important sources of finance than private lending in Latin America and the Caribbean (LAC), the region that receives the largest amount of remittances in the world, according to a new World Bank report.

Global Development Finance 2003 says LAC received US$25 billion in 2002 from migrant workers sending part of their paycheck back home, being followed by South Asia, which received US$16 billion. Mexico, the Dominican Republic, El Salvador, Colombia, Brazil and Ecuador are among the top-20 country recipients of remittance in the world, with Mexico being only second to India. Relative to GDP, remittances are largest in Central America.

 "Foreign direct investment and remittances are key for Latin America and the Caribbean as it remains more sensitive than other regions to external shocks due to vulnerabilities to capital flows reversals," says Guillermo Perry, World Bank Chief Economist for Latin America and the Caribbean. "At a time when debt flows are falling, remittances represent one of the most stable sources of income for the region."

According to the report, payments on private debt in 2002 were larger than new loans for developing countries overall. Following the global trend, LAC paid $9 billion more on old debt than what it received in new private loans, despite of Argentina's default, as it is "one of the most heavily dependent regions on market-based debt financing."

Gross market-based flows - the sum of  all new international equity and bond issues, and publicly announced bank deals-- to LAC fell by $31 billion or 40 percent in 2002 to $45.3 billion. And Foreign Direct Investment (FDI) dropped to $42 billion from $69 billion in 2001 --the severest decline among all regions. This was due in part to the lack of major mergers and acquisitions following the Citigroup purchase of Mexico's Banamex in 2001.

As a result of the drop,  East Asia and the Pacific overtook LAC as the most attractive region for FDI in 2002, thanks to the surge of China, while Brazil and Mexico became the second and third-largest recipients in the world, with $16.6 billion and $13.6 billion, respectively.

"The Argentine crisis and its impact on small neighboring countries in addition to the slow global recovery and increased risk aversion in international financial markets have led to sharply reduced financial inflows to the region," says Perry. "But we believe the worst of the credit cycle is now behind us with the return of confidence to Brazil, evidence that Argentina is recovering from the slump and the economic resilience of Mexico."

The reduced supply of capital forced a remarkably rapid change in the region's current account position, brought about partly by currency depreciations. The region's trade balance shifted from balance in 2001 to a surplus of $25 billion in 2002, and in turn the current account deficit narrowed by about $35 billion, to $16 billion.

The report says Latin American bond markets are in a period of transformation, shifting towards funding in local currency markets over borrowing in foreign currencies. Although this rotation from external to domestic debt reduces the vulnerabilities of the borrower to external shocks, it also tends to concentrate in short-term debt. Some countries like Chile, Colombia and Mexico have had considerable success in lengthening the maturity of the domestic debt, while others, like Brazil, experienced problems in 2002 related to an excessively short-term domestic debt.

"The Latin American rotation from external to domestic debt is a welcome shift as it overcomes the inability of governments to borrow in their own currency in international markets," says Philip Suttle, lead author of the report. "The challenge now is to develop domestic markets of long-term debt to reduce the vulnerability of the countries to a sudden loss of domestic confidence."

Overall, Global Development Finance 2003 expects regional growth to accelerate by the most of any region in 2003, led by the recovery of Argentina. Region-wide GDP is expected to grow 1.7 percent in 2003 and 3.8 percent in 2004, following a 0.9 percent contraction in 2002. The overall economic outlook of the report is based on the assumption of a quick resolution to the situation in Iraq and a significant decline in the oil price as 2003 progresses. (Please see figure below).

Latin America and the Caribbean Outlook Summary