The Other Shoe Dropping? Latin America's Private Sector Debt

As the world financial crisis hits Latin America, it is easy to equate it to the repeated financial crises that hit the region in 1982, 1995, and 2001. In these past episodes, irresponsible fiscal policies by Latin America’s governments often led to and then exacerbated the region’s financial troubles. But this time around, as many analysts rightly point out, Latin American countries face the global crisis with much sounder economic policies in place, including fiscal balances (and even surpluses), lower debt levels, and high international reserves. The quite different public economic fundamentals fuel predictions – by the UN’s Economic Commission for Latin America and the IMF among others - that the region will weather the crisis with only a few scratches.

Yet these analyses neglect the situation of the region’s private sector, which may prove to be the region’s Achilles’ heel. As Latin America’s economies slow down (due to tight credit, falling commodity prices, and falling consumer demand at home and worldwide), the poor and even irresponsible financial decisions of the region’s private sector are coming into relief.

With world markets teetering in recent months, rash financial bets – outside of the core competencies of many Latin American companies – went south. Stalwart firms such as Comercial Mexicana in Mexico and Grupo Votorantim in Brazil bet against the dollar and are now paying highly for it – perhaps with their very existence. More unwise financial bets are still waiting to be uncovered. In fact, one analyst recently estimated that derivative losses from Latin America’s largest companies could reach $50-60 billion in the coming months.

Latin America’s private sector troubles are not limited to dallying in derivative markets. Particularly troubling is the huge debt piled on by businesses in recent years, including many of the region’s largest companies. This became apparent this week when Cemex, a company long touted for its responsible and successful business strategy, was unable to refinance its debt. And Cemex is not alone. Others undoubtedly will follow, as tight worldwide credit markets limit the rollover of short term debt.

The macroeconomic and fiscal responsibility of most Latin American governments in recent years is welcome. And, it does mean that the effects of the worldwide financial crisis for the region differ this time around. But while necessary for a speedy recovery, public prudence alone is not sufficient. The financial health of the private sector – the main engine for the job creation and economic growth - is equally important. Here, the emerging data is not so sanguine, and some of it is missing or unreliable. Past crises have encouraged and sometimes forced greater reporting and transparency in the public sector, but the private sector remains somewhat of a blackbox. Yet how the private sector weathers the crisis will define the region’s economic future.