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Viktor Szabó and Brunella Isper, Investment Managers, abrdn Latin American Income Fund Limited
-Latin America’s reputation for difficult politics is no longer deserved
-Brazilian institutions have shown themselves more robust than many expected
-There has been a significant swing to the left in Chile, Peru and Columbia, but good governance has remained
Latin America retains a lingering reputation for difficult politics. As such, 2022 - with elections in Brazil, Columbia and a constitutional referendum in Chile - brought its fair share of perils for the region. However, with Brazil electing a new leader, it is increasingly clear that Latin America is entering a new era, where investors may not need to fear political upheaval.
In Brazil, the election of left-wing Luiz Inacio Lula da Silva, and the defeat of far-right incumbent Jair Bolsonaro, had been expected. The relatively small margin of victory appears to have dented Bolsonaro’s claims that the election was a fix - and he has said he will comply with the constitution and hand over power to his successor.
On the other side, the support for centre-right parties in Congress is likely to put a halt to the more ambitious spending plans of Lula and the Workers’ Party. Some of the PT’s plans (Partido dos Trabalhadores) to expand Brazil’s social welfare, raise taxes and reverse privatisations are likely to be diluted.
This prevents the two most feared outcomes - any attempt to contest the election by Bolsonaro and any fiscal extravagance by Lula. While it has been an intense period, and there could have been problems, Brazilian institutions have shown themselves more robust than many expected.
It is also notable that commentators have struggled to say which candidate might be better for the economy. While Bolsonaro had initially been seen as more market-friendly, Lula proved to be a good steward of the economy in his first term in office and is rumoured to be considering Brazil’s former central bank chief Henrique Meirelles as finance minister. This suggests he understands that any hard-left appointments could rock the boat and trigger a rise in borrowing costs.
The Brazilian economy has proved largely impervious to any tumult surrounding the election. Economic growth has been better than expected and the labour market has been doing well, with unemployment falling well below pre-pandemic levels. The country is not immune to the pressures facing the global economy and is likely to slow dramatically in 2023, but it is not politics making the difference.
Politics across Latin America
This decoupling of equity and bond market performance from politics is not just being seen in Brazil. Since the pandemic, there has been a significant swing to the left in Chile, Peru and Columbia. While campaign promises among some of these politicians have looked quite extreme, the reality has never proved as dramatic.
There remain some misconceptions about what “left” looks like today. Certainly, Latin America has a history of leftist leaders, plus military and communist dictatorships. Today, however, the left is closer to the social democrats, and represents broad desire for better public services and more inclusive growth and society. The region is slowly sorting out the new social contract. The referendum and subsequent rejection of the new Chilean constitution shows how deeply governments and citizens are thinking about this.
With left-leaning governments in charge, the Chilean and Columbian economies have continued to grow. Their left-wing presidents have appointed sensible finance ministers and given them a free hand. As such, they have kept the confidence of markets and not rocked the boat. Columbia has announced tax reform, but it is not extreme. It has been broad-based, rather than just taxing the easy target of the mining sector and has been designed not to discourage much-needed investment in the country.
Peru has been more difficult. Pedro Castillo, a former-school teacher, has turned out to be a poor choice, too weak to govern, subject to impeachment attempts, and kicked out of his own party. However, this political turbulence has not had any significant impact on the country’s economy, which remains robust.
The relative stability of Latin American governance can also be seen in central banks’ response to inflation. Central banks have acted quickly to raise interest rates to curb inflation, some way ahead of the US Federal Reserve. They have proved robustly independent - in Brazil, for example, central bank governor term limits are no longer synced with the presidency.
Equally, there have been conscious efforts from some countries to disentangle the corporate sector from the State. 2016’s ‘SOE Governance Law’ in Brazil, for example, has sought to align state-owned enterprises with practices in the private sector and disengage from party politics. This is a move to attract more investment into key sectors of the Brazilian economy.
These initiatives create greater resilience at the heart of Latin American economies.
Market response
In spite of this relative political stability, markets continue to wobble around election times in Latin America. This has been seen in Brazil this year. The Real was one of the top-performing currencies this year (one of the few to appreciate versus the Dollar), but it has proved more volatile from August onwards.
Meanwhile, individual sectors will be influenced by specific policies. The stance of leaders on decarbonisation, for example, will affect the dominant fossil fuel companies. In general, however, any volatility provides an opportunity. At abrdn Latin American Income Fund, we are adding back Brazilian exposure, believing the regulatory and fiscal risks are less pronounced. On the fixed income holdings, the inflation peak may have passed, and the end of the interest rate hiking cycle may be imminent. Against this backdrop, we are adding back longer-dated government bonds and becoming less defensive.
The tribulations of the UK in recent times have shown that difficult politics can happen anywhere. Latin American countries have built checks and balances into their political systems, leaving them more resilient. Latin America’s reputation for difficult politics is no longer deserved.
Important information
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