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Central American University - UCA  
  Number 332 | Marzo 2009

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Nicaragua

Blow by Blow, Step by Step, The Global Crisis Is Hitting Us Hard

This economist analyzes Nicaragua’s political and economic situation and identifies the first signs of how the world economic crisis is affecting us so far.

Arturo Grigsby

The main characteristic of this new world economic crisis is that it started in the North, in the developed
world. Unlike the most recent important crises, which occurred in developing countries—the Asian Tigers in the nineties or the one provoked by the “tequila effect” in Mexico in 1994—this time the crisis is originating in the United States, more precisely in its financial markets and even more precisely in its real estate market, which was in fact the detonator.

The crisis then spread to other sectors of the US economy and to the rest of the world, demonstrating that the globalization of the markets has advanced more than was believed. It revealed both the inability of the states in the developed countries to regulate their economies and the need for an overall regulatory framework for the functioning of the world market.

The magnitude of the crisis

The world consensus is that this crisis isn’t going to end soon; that we’re in what will probably be the longest world recession in recent history. Millions of workers have been thrown into unemployment in the United States during each of the past three months, and the country’s financial system has virtually collapsed. New York Times columnist Paul Krügman, winner of the 2008 Nobel Prize for Economy, has suggested temporarily nationalizing the US banking system, but the crisis extends beyond the US, European and Asian financial systems. Corporations and other businesses in key sectors of those countries also are in crisis, with high levels of indebtedness. Moreover, European and US households are over-indebted as well. The crisis permeates the entire economy of those countries.

There’s also consensus in comparing the current crisis with the Great Depression of 1929. Before analyzing how this new one will affect us, it’s useful to recall how that crisis affected Nicaragua and the rest of Central America 80 years ago. At that time, Nicaragua lived off its coffee exports. With the crash, coffee prices plummeted, affecting all Central American countries whose main export was coffee. Honduras was affected somewhat less since it depended more on banana exports. As a consequence, public spending was slashed throughout the region because there was no money for even the most basic things; Central America largely reverted to subsistence agriculture. Nicaraguan per-capita income didn’t recover until the fifties, while Guatemala, Costa Rica and El Salvador recovered faster because their economies were already more diversified. That world depression lasted over a decade. Consensus about today’s crisis is that the worst part of it could go on two or three years.

One first sign is a drop in
demand for our export products

We didn’t feel the crisis as much in Central America last year as North America, Europe and Asia did. Unlike the thirties, the region is in better shape now, because our economies are a little more diversified and the national states and institutions that regulate our economies have been strengthened in relative terms. Nonetheless, we are now seeing important signs of crisis in Nicaragua.

The first way we’re being affected is in the reduction of demand for our export products and a drop in their prices. In early 2009 there were already 5 million pounds of frozen lobster in our warehouses, because there was no demand in the United States, Nicaragua’s traditional market for this product. Lobster’s expensive, and in times of crisis the first things hit are such luxury items. Demand for lobster has dropped significantly all over the world due to the reduced purchasing capacity in the North’s households. It’s been a similar story for beef, which is one of our most important exports. Nicaragua’s main cattle municipalities are already feeling the pinch. A few months ago the slaughterhouses were paying 52 córdobas a kilo, but now, at the end of February, they’re only paying 36.

Other factors are also affecting the drop in world beef prices. When the price of oil was so high, it drove maize prices up, because the United States started producing ethanol from maize. Increasing amounts of maize thus went to produce ethanol and less to produce the concentrate used for cattle feed, with a resulting rise in beef prices. But now, with the drop in oil prices, the price of maize and thus of beef have fallen as well, and some ethanol plants in the United States are even closing. Another symptom with beef is that in recent years we’ve seen Mexicans come to Nicaragua to buy cattle on the hoof, which they take back to Mexico to fatten and sell to Mexican slaughterhouses. But the crisis, which is already strongly affecting Mexico, has reduced the demand for beef there as well.

As a consequence of this drop in demand for our exports and in the prices they fetch, we’re already losing important income. The director of the Development, Industry and Commerce Ministry’s export center announced that January’s exports have fallen 26% compared to January-February last year. If this trend continues, the loss will be significant.

Certain qualifiers should be kept in mind when talking about this first way the world crisis is affecting us. For example, income from coffee exports will fall this year, not just because of the international crisis, but also because of a smaller coffee harvest due to the cyclical behavior of our still very traditional production, with good and bad years. Another qualifier is that even with the dropping international prices our main exports are still profitable, both for the country and for national agro-industry and the thousands of farmers who live off these economic activities.

And finally, the fall in international oil prices could mean that what we lose through the drop in income from exports could be offset by our cheaper oil bill. Nicaragua imports some 10 million barrels of oil a year. Before the fall in crude prices, the price of a barrel was calculated at $100, which meant an annual spending of US$1 billion in oil imports. But with oil now at $40 a barrel, we’ll only spend $400 million, for a $600 million saving. If that holds steady, it could even outweigh what we lose through the fall in prices for our exports.

A second sign is
lower remittances

Another channel through which the world crisis is being transmitted to us is the situation our emigrant workers—our main export—are beginning to experience, mainly in the United States and Costa Rica, although there are still no hard data on how much the money they send home to relatives has dropped. That money, known as family remittances, has been growing year after year for at least a decade and a half. In 1990, it didn’t even register in the national accounts, but now it’s Nicaragua’s number one source of income. And this isn’t unique to Nicaragua. According to a World Bank Study, this is true in at least 28 countries, the closest ones being Honduras, Guatemala and El Salvador, especially the latter.

All these countries that live from remittances are now in trouble, Nicaragua included. One of the sectors hardest hit by the crisis in the developed countries is construction. How can you build new houses and sell them if people can’t even pay for the ones they already have? Many of Nicaragua’s migrants in the United States and Costa Rica work in construction, so if the unemployment in that industry continues, the remittances from those migrants will shrink.

Construction has also declined in Costa Rica, but there mainly because it’s closely related to the tourist industry, which is also shrinking. Tourism, like lobster, is a luxury expense for a US or European middle-class family, so is one of the first things to be cut from its budget in a crisis situation. Statistics are already showing that the Costa Rican economy is clearly decelerating, with much lower growth than in recent years. This is a huge problem for the thousands of Nicaraguans who work in construction there, probably far more than for all the Nicaraguan women who work as domestics or the men who work in gas stations, as night watchmen or in other services.

The shrinking of remittances will thus depend on the sector where our people work. Even without sufficient monitoring, the signs we have so far aren’t good: a reduction in job opportunities, the number of remittances sent and the amount of money sent each time.

This raises an obvious question: if the crisis is affecting both Nicaragua and Costa Rica, will there be more or less migration in the next few years? Can we expect our people to say: We’re bad off in Costa Rica, but worse in Nicaragua? What we’re seeing so far is that some migrants are returning, but others are still going. Because this is a generalized global crisis, things are bad everywhere. So just as the reduction of exports is compensated by the drop in oil prices, the reduction of the total amount of remittances could be compensated by an overall increase in migration.

A third sign is
reduced credit availability

One of the most intensely felt ways the world crisis is affecting us so far is the reduction of the credit that Nicaragua’s agroindustrial import-export and manufacturing companies receive to be able to trade. A company that imports fertilizers or vehicles or tires, for example, has built its credit line on a relationship of trust with suppliers from the United States, Europe or Japan. The cost of that credit is rising now because the suppliers from the developed countries have fewer resources. For the same reason, companies that export peanuts, coffee or other products from here aren’t receiving down payments for their sales.

This financing problem is also affecting all banks, both in the North and here. For example, Nicaragua’s Banco Uno was bought up by Citibank, one of the US banks most affected by the crisis, making it hard for Citi to transfer resources to its affiliate in Nicaragua.

The fact that banks have more clients in arrears makes them more conservative about granting loans. The tendency is to stick with known clients and raise the interest rates, which only aggravates the recession. There’s a very real risk of bank collapses in Nicaragua under these conditions due to the fragility of our financial system. The banks’ loan portfolios are already deteriorating: the overdue debt rate has risen and the Superintendence of Banks has established stricter regulations for personal consumption loans. This is because in Nicaragua, especially Managua, the population with credit cards and/or loans with either banks or microcredit institutions is over-indebted. A lot of people have five and six loans with as many different institutions and the crisis is going to aggravate that problem.

Among the measures announced in January, the government said it would seek US$200 million from the Central American Bank for Economic Investment to support its international reserves, and US$300 million from the Inter-American Development Bank (IDB) to buttress the financial system. The IDB has already refused to authorize it because Nicaragua is a member of the HIPC (highly-indebted poor country) initiative and thus can’t contract loans whose interest exceeds 2%, which would have been the case with the proposed loan. It’s a real problem: if a bank goes under and the government has to intervene, where will it get the funds to protect the deposit holders if it doesn’t even have enough to cover what it has already programmed in health, education and public investment?

The issuing of credit to the grassroots sectors through micro-financing institutions (MFIs) is also facing a crisis. A contraction of micro-credit is probable not only due to a liquidity crisis among those who lend to the MFIs but also to the country’s increased risk. MFIs aren’t banks: they don’t get money from the public through checking and savings accounts, but by contracting loans and donations from lending institutions and foundations abroad.

Nicaragua has already become a riskier country for international investors not only because of its obvious and well-known economic fragility but also thanks to the “no payment” movement encouraged by the government when it first took office. Although this movement—which virtually demanded the pardon of debts—has been a small one, it has caused damage in the areas where it has operated most actively—Ocotal, Jalapa, Camoapa—and thus hurt the whole country. When the developed countries’ markets have less money to loan, the immediate answer to the hubbub of the “no payment” movement has been to cut resources to Nicaragua. Many MFIs are already having trouble not only growing but even keeping the client portfolio they had—simply keeping their head above water.

This is very serious, because micro-credits are essential to allow households to have their own little businesses in towns and cities and to help those who live from agriculture and livestock cope with the crisis and get the working capital they need to survive. A collapse or very strong reduction of the volume of micro-credit would have a huge negative impact on the grassroots economy, because $500 million is channeled through micro-credits annually, reaching 350,000 families.

A fourth sign is
less foreign investment

Foreign direct investment grew in 2007 over 2006, the Bolaños administration’s last year. It was mainly aimed at setting up assembly plants for re-export, known as maquilas, in free-trade zones , the largest of which—the gigantic horizontally integrated ConeDenim, which also produces the thread and fabric for its local production of blue jeans—was installed in Ciudad Sandino. But such investments are no longer coming in and some have even left. Late last year, the coordinator of the Movement of Women Maquila Workers reported that 22,000 jobs had been lost in 2008 in those assembly plants, which in total provide jobs to over 90,000 people. What’s the attraction of coming to set up textile plants in Nicaragua, when world demand is dropping and labor prices in Asia are significantly lower? Some plants that left Nicaragua have set up shop in Cambodia.

A fifth sign is regional protectionism

Protectionist and other nationalist tendencies always emerge in crises such as this one, which could affect our exports to the rest of Central America. We’ve already seen a rise in import duties in Honduras that’s affecting the export of Nicaraguan beef to that country, and in the second half of this year we could see similar protectionist measures by El Salvador against Nicaraguan cheeses. Bean producers in Costa Rica requested and were given a law requiring importers who buy beans from Nicaraguan growers to buy an equal amount from national growers.

The crisis and its effects aren’t being felt only in Nicaragua. They are hitting all developing countries with greater or lesser intensity and magnitude, according to each country’s particular economic structure. The drop in remittances is affecting all Central American countries except Costa Rica, and the drop in export prices and investment flows is also affecting us all. Nicaragua is simply the country with the most vulnerable economy in Central America.

Just how vulnerable are we?

The World Bank notes two basic criteria for measuring a country’s economic vulnerability. One is the situation of the government finances (its fiscal balance) and the other is that of the country’s external finances (mainly its trade balance). It concludes that those countries whose fiscal deficit is below 2% of the gross domestic product (GDP) are in better shape than those with a higher one, because they have reserve resources for counteracting the crisis and can take on debt. In Nicaragua’s case, the fiscal deficit projected for 2009 was just under 4%. The other World Bank criterion sets a 3% deficit limit on banking activity. In 2007 Nicaragua had a 16% deficit and the deficit for 2008 is expected to have hit 24%, thanks to the rise in oil prices.

Nicaragua covers its fiscal deficit with the aid international cooperation provides to the national budget—precisely the aid the Nicaraguan government lost after the evidence of fraud in the November 2008 municipal elections. The deficit in external finances, where we are in worse shape and even more vulnerable, is covered by both foreign aid, similarly being cut for political reasons, and foreign capital investment, which has dropped due to the world crisis.

What’s the government doing?

So that’s what the national economy looks like right now: its already risky degree of vulnerability has become even riskier. This explains some changes in the government discourse toward international cooperation as well as the fact that the electoral fraud issue is still on the table in the government’s negotiations with the European Union, since the Budgetary Support Group that covered the fiscal deficit is made up of various European countries as well as multilateral institutions.

With the post-electoral crisis and the evidence of fraud, the aid for last year’s budget wasn’t fully disbursed and the amount for this year, while programmed, is far from assured. The government made its fiscal projections for the 2009 budget including the programmed European aid and assuming that the economy, and hence tax collections, would keep on growing at the same rate as in previous years. There is now a $160 million deficit in those projections. To close that gaping hole, the government decided on an austerity package, while at the same time offering a bond issue to the national banks.

Unlike the United States, Nicaragua can’t launch a huge package of fiscal stimuli, subsidies and public investment expansion, as President Obama has done. Nor can our Central Bank radically cut interest rates and massively inject liquidity into the economy, as the US Federal Reserve has done, because we have a highly dollarized economy and because any such measure would translate into more imports and therefore an increase in the unsustainable trade deficit and a significant drop in our already scant international reserves.

On the contrary, the Nicaraguan government has had to cut public spending and maintain a conservative monetary policy. Instead of having a mechanism to compensate for the crisis, it has intensified the cutting of public spending and public investment. And to a large extent the government’s current limitation on implementing other measures originated with the political conflict with the donor community that covers our budgetary deficit.

What effect will all this have
on Nicaraguan households?

How will such a critical situation impact on Nicaraguan households, especially those 70% that are trying to survive below the poverty line? Already in 2008, increased oil and food prices deteriorated the purchasing power of the real wage by over 17%. This means that households that depend on wage labor are entering this second year of the crisis already strongly feeling the pinch.

Is there a solution to this particularly acute aspect of the crisis? A government-decreed minimum wage increase probably wouldn’t be viable because businesses are already in trouble and looking for ways to reduce personnel. If wages increase it will only mean more unemployment.

The purchasing power of households that don’t depend on salaries, but have family businesses and other forms of self employment, has already dropped because their sales are down. Where capitalism is very underdeveloped, there are many small family businesses and only a handful of large businesses. Nicaragua has an enormous number of small informal businesses and very few authentically capitalist large businesses. Nicaragua’s employment statistics reveal a minority of people with stable employment and a salary.

There are things the
government can do

In such a critical situation, we can forecast that households that depend on wages, sales in their businesses and/or remittances are going to go without a lot of things in 2009. The government will have to do something to help these people ride out this storm. And there are things it can do: increase credit for the productive sectors and the informal economy through state financing networks, private banks, micro-financing institutions and cooperatives; implement low-income housing programs and housing improvement programs in poor neighborhoods to provide employment and reactivate the construction industry; with the same aim, create programs to pave streets and rural roads with adoquines, Nicaragua’s brand of cobblestones, which provide more jobs than paving with asphalt; expand the transfers to municipal governments given that they are better able to get projects underway quickly, thus generating jobs in the short run; build schools and health centers… In short, all kinds of programs have to be promoted that create jobs or help poor households access food. The channels of Enabas, the state-owned food distribution company, can be strengthened, expanding its range of products and geographic coverage. The state could also expand its coverage of the school breakfast program and food production bond program (Zero Hunger).

If some of the government’s social programs, such as ensuring free medicine in the public health network or school breakfasts in state schools, cannot be sustained due to a shortage of resources, people’s health will deteriorate further and more students will drop out of school. When there’s a crisis, poor families eat less, so sending their children to school where they can get something to eat is a help. Children are also taken out of school in times of crisis because there’s no money to buy clothes, shoes and school supplies, and putting them to work also helps the family generate a bit more income.

Where does international
cooperation come into this picture?

The FSLN government doesn’t have the resources to deal with all these family tragedies due to the political problem it sparked with its hostile attitude toward international cooperation and international cooperation’s reactions to the electoral fraud. The government behaved the way it did toward traditional cooperation because it trusted Venezuela to continue being the goose that lays golden eggs. Oil prices were still high at the time, but they have since dropped and Venezuela can’t bail Nicaragua out of its problems.

In any event, with fraud or without it, development aid from the countries of the North—and the South—will shrink as the crisis deepens. For many years there has been a proposal on the table that the developed countries dedicate the equivalent of at least 0.7% of their GDP to help poor countries shake off their backwardness. Now that objective and the progress made in that direction could well be reversed, which would mean the likely stagnation or shrinking of official capital flows from North to South in addition to the reduction of foreign private capital flows.

The state’s role in this crisis is critical, which is why the effects of the world economic crisis can’t be separated from Nicaragua’s political dynamic. The results of the negotiation between the government and the donor countries are crucial to Nicaragua’s immediate future. During a ceremony at which the Nicaraguan government decorated Norway’s ambassador as one way of mending its relations with international cooperation, the ambassador emphasized two central ideas: 1) the democratic governance criteria required by the cooperating countries to provide aid and 2) the importance to the poor that the donor countries not pull out of Nicaragua.

The donor countries
are split on how to respond

The countries with the resources we need to deal with the crisis have split according to their emphasis on one or another criterion. That division was already perceptible in 2008.

One group believes this government isn’t respecting the rules of democratic governance established by cooperation and isn’t going to change. As there’s no shortage of countries in need of help, they see no overriding reason to stay in Nicaragua. With that in mind the Swedes and Finns left, the Germans withdrew their budget aid and the European Union suspended its budget disbursements.

A second group believes that Nicaragua must continue to be helped to avoid further deterioration, but has decided not to keep helping balance the budget. Instead these countries will cooperate only with government projects.

A third group has also decided to aid projects, but only those of nongovernmental organizations as opposed to the government. And a final group of countries thinks the cost of suspending the budgetary aid would be too high for the Nicaraguan population and for the country’s long-term development and are therefore looking for another solution.

One way out, which is to negotiate and rectify the municipal election results, at least partially, has already been roundly rejected by the government. Bayardo Arce, the government’s economic adviser and spokesperson, was unequivocal in stating that the government would not discuss the result of the elections “even with historians.” It will discuss anything else, but not that. For that reason some cooperating countries are now leaning toward another solution: a total change of the highly questioned authorities of the Supreme Electoral Council and a reform to the electoral law—which would not include the controversial constitutional reforms to move from a presidentialist to a parliamentary system. This solution would establish new rules of the game for the 2011 presidential elections. These behind-the-scenes tensions and negotiations help explain the government’s new display of warmth toward the donor countries and the insistence of those countries.

Unless the government reaches agreements with international cooperation, Nicaragua will have little possibility of responding to the world crisis. Its political leadership is fragmented; there’s no national consensus about how to deal with the crisis and we’re still battling each other because we haven’t come to any agreement about what happened in November. Several neighboring countries already have a national plan hammered out by unions, business and government to respond to the crisis and they know what they’re going to do. We still don’t have a clue. Blow by blow and step by step the crisis is starting to hit us hard. If the political class can’t react responsibly we’ll be hit even harder and the future will be much darker.

Arturo Grigsby is director of the Central American University’s Nitlapán Research and Development Institute.

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