Integration in the Americas: One Idea for Plan B (Note)

Policymakers in Latin America deserve real credit for strengthening the region’s defenses against inflation and financial instability and for opening markets. But the legacy of the last five years may turn out to be more durable on stabilization than on sustaining high growth. Disturbing cracks remain in the region’s growth foundations. The ratio of investment to GDP is the lowest of any emerging market region; productivity growth remains disappointing; human capital formation lags behind that of high-growth emerging regions. The region is turning its attention to supply-side policies, and policymakers are focusing on improving education and infrastructure. But for most countries, the burdensome microeconomic environment for investment remains a neglected challenge.

At the same time, the collapse of support for hemispheric free trade leaves the region without a shared integration strategy. Yet we know that regional integration, especially its benefits for domestic and foreign investment, has been critical to the growth success and income convergence progress in emerging East Asia and Europe.

In this new CGD Note, visiting fellow Nancy Lee suggests a fresh approach to regional integration in the form of a proposed regional investment agreement. The idea is a collective effort to set common standards for reducing specific barriers to domestic and foreign investment, similar to standards set in trade agreements for lowering trade barriers.

This approach has recently become possible because of dramatic advances in the objective measurement of investment conditions through verifiable indicators that are consistent across countries and regularly updated by third-party institutions such as the World Bank. In many cases such indicators are broadly comparable to the indicators used to measure formal trade barriers in trade agreements. Examples of regulatory, tax, and legal indicators include

• The official costs of starting a business (normalized by per capita income);
• The number of procedures necessary to obtain various types of business licenses;
• The number of business tax payments required annually;
• The time required for customs clearance; and,
• The strength of creditor rights based on standardized criteria.

Lee suggests that countries could use a regional agreement to set common standards or benchmarks based on international norms for an agreed set of indicators. She argues that a multilateral approach can help drive and lock in reform. It also facilitates the production sharing across borders that is key to modern competitiveness.

As trade barriers have fallen, a regional investment agreement would help countries attack new binding constraints on growth, expand the benefits of trade liberalization, and raise the incomes of the poor by helping small businesses most harmed by investment hurdles move into the formal sector.