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Latin America and the Caribbean need better fiscal policies to finance their development

By Organisation for Economic Co-operation and Development Dec 10, 2024

Latin America and the Caribbean need better fiscal policies to finance their development

Latin American and Caribbean (LAC) countries should strengthen tax collection and spending, improve public debt management, and mobilize more private resources in order to finance their ambitious development agendas, according to the 2024 edition of the Latin American Economic Outlook (LEO): Financing Sustainable Development released.

The 17th edition of the report argues that LAC’s sustainable financing gap – estimated at USD 99 billion annually – can be bridged if private and public actors improve coordination, with the support of their international partners. The region’s challenging socio-economic context calls for an ambitious set of reforms. Productivity growth remains weak: average labor productivity amounted to just 33% of OECD levels in 2023, while poverty accounted for 27.3% of the region’s total population in 2023, its lowest level over the past two decades. Extreme poverty has remained persistently high, affecting one out of ten (10.6%) Latin Americans and Caribbeans.

Many countries maintain a tight monetary stance to keep inflation expectations anchored and are undergoing a fiscal consolidation phase after the region’s fiscal space decreased significantly following the COVID-19 pandemic. In this context, there is little space for expansionary economic policies to support aggregate demand and social goals.

The report identifies the following priorities to mobilize resources in pursuit of LAC’s sustainable development:

  • Improve how taxes are levied. In most LAC economies, tax revenues are low, with an average of 21.5% of GDP in 2022, compared to the OECD’s 34%. Additionally, adjusting the tax structure or better leveraging existing taxes could help reduce inequalities, support the green transition, improve health outcomes, and foster entrepreneurship.
  • Optimise budget allocation and increase spending efficiency to free up additional resources. Public spending is concentrated in current expenditure, such as wages and transfers (82% in 2023), short-term focused and ineffectively allocated.
  • Improve debt management through robust fiscal frameworks to maintain fiscal sustainability. LAC countries have seen their debt service increase from 9.8% of tax revenue in 2012 to 12.2% in 2022. Over the past decade, in several countries, interest payments have been up to twice the spending on education, three times that on healthcare, and four times that on capital expenditure.
  • Deepen financial markets and encourage innovation to channel more private resources towards development goals. In LAC, financial systems lack depth, with domestic credit to the private sector reaching 50% of GDP. Financial systems still exclude some vulnerable groups, including women. Close to 15% of formal households had access to housing loans in 2020, compared to just 2.3% of informal households.
  • Encourage production transformation to achieve sustainable growth and the promotion of competitive sectors, by increasing the presence of private issuers and enhancing capital market liquidity. Currently, debt markets in the LAC region are largely public-sector-driven, accounting for 81% of local issuances from 2015 to 2023. To address this concentration, policies should aim to expand institutional investor participation, update regulatory frameworks, improve financial literacy, and strengthen regional integration.
  • Development Finance Institutions (DFIs) play a key role in a financial market that is still developing. 34% of DFIs have a specific mandate to support the financial inclusion of micro-, small— and medium-sized enterprises but only 19% of the financial instruments they propose address the green transition, gender equality, and digital transformation or innovation.
  • International cooperation is key to mobilising new resources. This includes the EU-LAC Global Gateway Investment Agenda, which mobilizes funding through public-private partnerships to address infrastructure needs while creating local added value and promoting growth, jobs, and social cohesion.
  • Financing instruments like green, social, and sustainability-linked bonds continue to be an attractive mechanism, increasing from 9.3% of total LAC bond issuance in international markets in 2020 to almost 35% in 2023. Catastrophe bonds, debt-for-nature swaps, and natural disaster clauses can also mobilize public and private investment where needs are greatest. The establishment of harmonized frameworks and reliable monitoring and supervision mechanisms of these instruments should prevent greenwashing.
  • Finally, the region should coordinate to bring forward its regional perspective to the UN’s Fourth International Conference on Financing for Development (to be held in mid-2025 in Sevilla).