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The Roadblocks to a Common Currency in Latin America: Part 1

Latin America has a long history of attempting to form closer ties between nations in the region, with the latest proposal being a common currency known as “el sur”. However, this is just the latest in a long line of treaties and proposals that have failed to bring the region together. Despite aspirations of creating a bloc similar to the European Union, Latin America remains fragmented, with only 15% of trade staying within the region, compared to 55% in Europe and 38% in North America. The lack of ties has been a significant drag on industry, as no country in the region has a big enough local market or labour market to compete with Asia.

One reason for the difficulty in forming a bloc has to do with what makes Latin American countries distinct nations in the first place. The Spanish empire divided its dominion into viceroyalties, captaincy generals, and territories, each with its own bureaucracy, and insisted that its colonies could not trade with one another. When these colonies achieved independence, their armies were weak and ill-suited for annexing territory, so these postcolonial nations stayed separate, and some split further. For example, the Kingdom of Guatemala would eventually become five countries in Central America.

Looking Back

In the second half of the 20th century, the impetus of integration that created the International Monetary Fund and the World Bank produced similar institutions in Latin America, all promising regional forums or more free trade. The 1960s brought the Andean Pact and the Latin American Free Trade Association. Both languished, however, and even their rebranding in subsequent decades failed to reinvigorate them. The two most promising pacts so far have been Mercosur, a customs union established in 1991, and the Pacific Alliance, a trade bloc founded in 2011. But neither has fully delivered: Mercosur has allowed so many exceptions that its zone is anything but tariff-free, and the Pacific Alliance has largely failed to increase trade among its members.

El sur is not a new idea. In fact, there have been several previous attempts to create a common currency in the region, dating back to the 19th century. However, all of these attempts failed due to a lack of political will and coordination. One of the main challenges to creating a currency union in Latin America is the lack of economic convergence between the countries in the region. The economies of Latin American countries vary widely in terms of size, structure, and development. Countries like Brazil and Mexico have much larger and more diversified economies than smaller countries like Uruguay and Paraguay. Another challenge is the lack of political stability and institutional capacity in some countries in the region. Corruption and political instability have plagued many Latin American countries, making it difficult to establish the necessary institutions and policies to create a currency union.

The Almighty Dollar

Dollarization, or the adoption of the US dollar as the official currency, has been a popular solution to economic instability in several Latin American countries, including Ecuador and El Salvador. However, this solution has its drawbacks. Dollarization limits a country’s ability to conduct monetary policy, as it cedes control over its currency to the US Federal Reserve. It also makes a country’s economy more vulnerable to external shocks, as it eliminates the flexibility of exchange rate adjustments.

Despite the challenges, there are potential benefits to creating a currency union in Latin America. A common currency could reduce transaction costs and exchange rate volatility, making it easier and cheaper to do business across borders. It could also increase trade and investment within the region, creating jobs and boosting economic growth.