Emerging Markets
TheMonroeDoctrineat200:ItsNewImplicationsforLatAmAssets
5 mins
December 2nd, 2023 marked the 200th anniversary of President James Monroe’s State of the Union address in which he proclaimed the Western Hemisphere as America’s domain. What later became known as the Monroe Doctrine was meant to keep “pesky” European powers out of Latin America.
Fast forward 200 years: as the global order fractures and the competition between the U.S. and China intensifies, Latin America is once again taking on a Monrovian importance. The region is now home to advanced economies and governments that exercise self-determination as they trade and ally themselves with partners as they please. Hence, the courtship within Latin America is shifting the dynamics of investing in the region and creating a new set of market opportunities.1
As the power competition between the U.S. and China intensifies, several structural anchors are also giving way. As they do, Latin America is increasingly viewed as a region that can tip the balance of power. For the U.S., the rising stakes in Latin America mean that the writing is on the wall if the country fails to engage the region more. Indeed, Beijing is said to be pursuing military bases in Argentina and Cuba while also seeking stronger ties with Nicaragua.
Given the vast set of geopolitical complexities, we’re focusing on three reasons why the U.S. will likely pursue stronger ties with Latin America going forward.
First, the demand for critical raw materials to facilitate the green energy transition is rising along with the need to secure these critical supply lines. Chile, Peru, and Mexico produce approximately 40% of the world’s copper; Peru is the second largest producer of zinc (after China); Chile produces approximately 30% of all lithium currently mined; and Venezuela has the largest oil reserves in the world—reserves which are still needed to bridge the fossil fuels to renewables gap. As a result, the U.S. will likely go to great lengths to maintain access to these resources due to the country’s enormous needs and in order to prevent their monopolization by an adversary.
Second, the COVID pandemic taught leaders the benefits of "friendshoring" and the need to reduce trade dependency on adversaries.2 For example, President Biden announced "Americas Partnership for Economic Prosperity (APEP)" last year, setting the stage to help integrate the U.S. economy more closely with Latin America, promoting the manufacturing of critical goods, such as semiconductors in Mexico and other Latin American countries.
Third, the need to control migration and secure national borders takes on greater importance prior to the 2024 elections in the U.S., and the topic will remain an issue for the country’s successive administrations. Here, the Biden Administration’s softer "carrot approach" towards Nicolas Maduro’s regime in Venezuela highlights this imperative. Indeed, sanctions on Venezuela were lifted in exchange for free and fair elections, and Chevron was allowed to resume operations in the country last year.
Given the context from these three points, what might an implicit revival of the Monroe Doctrine mean for buyers of Latin American sovereign debt and other financial assets?
Concerns over economic policies, government stability, lack of a regional lender of last resort, and the consequent volatility in asset prices remain significant obstacles for investment in Latin American assets. Nor is China sitting idly by. In addition to the rumored military bases in Cuba and Argentina, Beijing recently doubled the size of the central bank swap line towards Argentina to 70 billion CNY.
Given that opposition however, renewed U.S. engagement can provide investors with confidence that the Federal government and multilateral organizations could provide support in the event of financial stress.
More specifically, the IMF’s activity in Latin America should support bond prices, which also occurred during the institution’s involvement during the pandemic when it expanded its Foreign Credit Lines with Colombia, Peru, and Chile. More broadly, the IMF, World Bank, and other multilateral entities may increasingly become instruments of political influence in the region, hence, extending the floor under financial asset prices. For example, politics may have contributed to the IMF’s recent $830 million Extended Fund Facility with Honduras as the IMF would normally require far more stringent policies from an administration.
Furthermore, the multilateral entities appear to be operating with more leeway recently amid an increasingly fraught geopolitical backdrop. Prior to the election of Javier Milei—a pro-U.S. libertarian—as Argentina’s president, the IMF’s program disbursement of $7.5 billion to the unorthodox Kirchnerists in power seemed lax in comparison to the more stringent prior demands made of Pakistan.
Markets have noted these trends as certain Latin American currencies have been some of the best performing currencies versus the U.S. dollar this year. With U.S. imports from Mexico surpassing those from China for the first time, the Mexican peso has been the star performer. In fact, three of the top five best performing currencies have been Latin American over the past 12 months (Figure 1). While central banks’ proactive inflation fight has been a major driver of this outperformance, trade and investment flows being diverted from Asia towards Latin America are also providing a boost.
Figure 1
LatAm currencies have fared well amid its position in the Great Power Competition between the U.S. and China.
PGIM Fixed Income and Bloomberg
This performance occurred despite expectations for a rate hike-induced selloff, which are often associated with Latin American currency wobbles. Recall it was the Fed hikes in 1994 under Chair Greenspan that sent Mexico into the "Tequila Crisis." This time around, currencies are resilient, outperforming, and providing an additional boost to regional confidence.
Beyond currencies, markets perceive stabilizing and improving fundamentals in the region as Latin American sovereign spreads (EMBIG Diversified LatAm sub-index) tightened by approximately 43 bps over the last 12 months. This is not to say Latin America is now immune to defaults or blow ups. Despite Argentina’s promising reserves of lithium, oil, and gas as well as its large agricultural exports, the country still has a nasty debt overhang that the Milei administration will now have to manage.
However, recent political and market developments point to a stark new reality: Latin American countries willing to relationship-build with the U.S. could see the financial support flow without too much difficulty.
With a new Cold War looming, the rules of engagement with the region have changed, and the historical norms that would impede more alignment between Latin America and the U.S. are likely a thing of the past. Hence, the implications of a renewed Monroe Doctrine are significant. An asset repricing is under way, and investors should be ready if these markets behave very differently than past cycles in the quarters and years ahead.
1 This post pertains to the potential evolution of the relationships between Latin American countries and the U.S. For a European perspective on Latin America, please see “Looking to Latin America to Fuel the EU’s Energy Transition,” PGIMFixedIncome.com, August 24, 2023.
2 The supply chain de-risking described in the second reason is another structural anchor that is giving way.
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