Aug. 16, 2017

Don't invest in Costa Rica, for now.

PUBLISHED IN QCOSTARICA

Q OPINION – The world is especially turbulent this month. There is a potential war in Korea and real ones in the middle east, Afghanistan, the Philippines and Africa. Venezuela is in turmoil. An unpredictable and combative US president and his revolving door of a team have roiled the world financial markets. In Europe, Brexit is an added cause of uncertainty.

Costa Rica, with no army, friendly people and relaxed lifestyle, seems like a haven to many of us. New waves of retirees and others pour in every year. Is this truly a place to forget the cares of the outside world?

In the light of the global situation, I visited institutions in Europe and discussed the international financial situation with other experts in Japan, New York and Hong Kong. I was especially interested in their views on investments in Costa Rica. The sobering results are discussed below.

A global downturn is coming. There is rare consensus that the length of the current economic cycle is unusually long. (The time from the trough the last recession to the peak of the next). Many pundits predict a forthcoming and significant correction with a subsequent deep recession. The trouble is that forecasting exactly when a downturn will come is problematic. Randomly, one of them will get it right and claim great predictive powers.

Most cycles peak with high employment and inflation. The US and most of Europe have the former but not the latter. In this cycle, wages for the masses have been kept low by competition from low wage countries and increases in the spread of robotics and advances in IT. Low wages and low-cost imports have contributed to reduced pressure on prices in the major economies. There is therefore some support for those who think we may eek another year or two from the current boom.

However, all booms end in bust. Busts are often triggered by dramatic world events, such as oil shocks, wars, presidential impeachments, bank collapses and the like. Now is a good time to dust off the Kevlar helmet.

Costa Rica. As you can imagine, Costa Rica and its tiny economy are not on the radar of most global investors and analysts. Normally, they tend to group small developing economies with the larger ones in a region. This is fair, as when economic tsunamis strike, small countries are swept along with others.

Some of my discussion partners were kind enough to research our economy in preparation for our meetings. They were helped by recent cries of financial distress from the Costa Rican government, trying to frighten the legislators into levying higher taxes and cutting the benefits of our bureaucrats to alleviate the coming crisis. The negative views of the bond rating agencies add to the picture. Local media has been reporting the increasing government borrowings and expenditures and difficulties in raising tax revenues with increasingly strident alarm.

The consensus is that the Colon will continue to decline against the dollar, causing distress to the government, which has massive dollar debts and private individuals who borrowed in dollars to buy local assets.

A New York analyst shared, “In these situations, when a global downturn occurs, countries like yours default on their debts. This causes a precipitous drop in the value of local currency and assets, (like houses), by well over 30%. Huge unemployment and civil unrest often follow.”

Maybe Ticos will be more placid?

A London banker gave me a wry smile, “It’s a classic case of public and private debt run up over the years and the politicians being unable or unwilling to take the steps to resolve the problem. They are loath to tax those with money, who support them and refuse to face down their feather bedded bureaucrats demanding that their pensions and increases be maintained. Senior members of the administration tend to be from the wealthier classes.This further inhibits their desire to act. The train speeds on towards the buffers without brakes.”

Everyone laughed when shown the regular advertisements appearing in the Costa Rica Star, offering 12-16% Return on Investment on loans for construction. “That’s double what the Greeks were offering on their bonds, just before their economy collapsed. They had big brothers in the EU to bail them out.”

“Construction is one of the most cyclical sectors in every economy. When borrowers default on their mortgages, because they lose their jobs in a recession, these investors will lose their money. The construction sector tanks along with most others.”

So What Should those living in Costa Rica Do?- There are some obvious steps.

1. Minimize amounts held in colones and keep as much as possible outside the country in hard currencies like the dollar. Change sufficient into colones, only to make local payments. Even dollar accounts in Costa Rica may be unsafe. “When governments default on debts they can seize dollar assets in private accounts or levy a charge on them.” “Avoid state owned banks if possible, their assets are more easily predated by desperate governments.” Keep away from investments in non-bank financial institutions. They may offer higher interest, but are more likely to go belly up.”

2. Do not make large purchases such as secondhand cars and property. Wait till there is a recession, when they will cost less.

3. If you want to hedge against a fall in any asset, such as a house, borrow against it in colones, but in general reduce your risks by cutting borrowings and saving in hard currency. Reduce exposures and batten down the hatches.

4. If you are selling a property, now is a good time to speed the process and maybe to accept less than you hoped for.

5. If you are renting properties, be prepared for renters to leave or to be unable to meet their payments. Maybe this is a good time to sell, if you can find buyers.

And for those contemplating a move to Costa Rica –

1. Consider waiting till recession strikes and things settle down. Only gamblers take risks at such times.

2. Do not bring your life savings to Costa Rica.

3. Rent rather than buy, at least for now.

4. If you are seeking to establish a business, the locals always have an advantage because they know how to play a sometimes corrupt system. In recessions, competition becomes desperate. Re-evaluate your projected risks and returns, with these things in mind. If your business requires fixed assets, consider waiting for asset prices to collapse.

Timing. This is the big problem. “No one can predict whether the current up cycle will continue for a couple of years more. Getting out of investments at peak is desirable, but has more to do with luck than good judgement.” This is a time to be cautious and to make prudent preparations for hard times.

Watch out for what others are saying in the media, both here and internationally. What are friends thinking? There is a tremendous herd instinct in economic cycles. Once the doomsters start moving, the rest panic.

Governments make calming statements, but when the time comes no one can hold back an avalanche. Now is the time to get out of its path or be prepared to ride it out.

Chris Clarke has retired to Costa Rica from New York. His career included international banking. He has degrees in economics and management.

A global downturn is coming. There is rare consensus that the length of the current economic cycle is unusually long. (The time from the trough the last recession to the peak of the next). Many pundits predict a forthcoming and significant correction with a subsequent deep recession. The trouble is that forecasting exactly when a downturn will come is problematic. Randomly, one o fthem will get it right and claim great predictive powers.

Most cycles peak with high employment and inflation. The US and most of Europe have the former but not the latter. In this cycle, wages for the masses have been kept low by competition from low wage countries and increases in the spread of robotics and advances in IT. Low wages and low-cost imports have contributed to reduced pressure on prices in the major economies. There is therefore some support for those who think we may eek another year or two from the current boom.

However, all booms end in bust. Busts are often triggered by dramatic world events, such as oil shocks, wars, presidential impeachments, bank collapses and the like. Now is a good time to dust off the Kevlar helmet.

Costa Rica. As you can imagine, Costa Rica and its tiny economy are not on the radar of most global investors and analysts. Normally, they tend to group small developing economies with the larger ones in a region. This is fair, as when economic tsunamis strike, small countries are swept along with others.

Some of my discussion partners were kind enough to research our economy in preparation for our meetings. They were helped by recent cries of financial distress from the Costa Rican government, trying to frighten the legislators into levying higher taxes and cutting the benefits of our bureaucrats to alleviate the coming crisis. The negative views of the bond rating agencies add to the picture. Local media has been reporting the increasing government borrowings and expenditures and difficulties in raising tax revenues with increasingly strident alarm.

The consensus is that the Colon will continue to decline against the dollar, causing distress to the government, which has massive dollar debts and private individuals who borrowed in dollars to buy local assets.

A New York analyst shared, “In these situations, when a global downturn occurs, countries like yours default on their debts. This causes a precipitous drop in the value of local currency and assets, (like houses), by well over 30%. Huge unemployment and civil unrest often follow.”

Maybe Ticos will be more placid?

A London banker gave me a wry smile, “It’s a classic case of public and private debt run up over the years and the politicians being unable or unwilling to take the steps to resolve the problem. They are loath to tax those with money, who support them and refuse to face down their feather bedded bureaucrats demanding that their pensions and increases be maintained. Senior members of the administration tend to be from the wealthier classes.This further inhibits their desire to act. The train speeds on towards the buffers without brakes.”

Everyone laughed when shown the regular advertisements appearing in the Costa Rica Star, offering 12-16% Return on Investment on loans for construction. “That’s double what the Greeks were offering on their bonds, just before their economy collapsed. They had big brothers in the EU to bail them out.”

“Construction is one of the most cyclical sectors in every economy. When borrowers default on their mortgages, because they lose their jobs in a recession, these investors will lose their money. The construction sector tanks along with most others.”

So What Should those living in Costa Rica Do?- There are some obvious steps.

1. Minimize amounts held in colones and keep as much as possible outside the country in hard currencies like the dollar. Change sufficient into colones, only to make local payments. Even dollar accounts in Costa Rica may be unsafe. “When governments default on debts they can seize dollar assets in private accounts or levy a charge on them.” “Avoid state owned banks if possible, their assets are more easily predated by desperate governments.” Keep away from investments in non-bank financial institutions. They may offer higher interest, but are more likely to go belly up.”

2. Do not make large purchases such as secondhand cars and property. Wait till there is a recession, when they will cost less.

3. If you want to hedge against a fall in any asset, such as a house, borrow against it in colones, but in general reduce your risks by cutting borrowings and saving in hard currency. Reduce exposures and batten down the hatches.

4. If you are selling a property, now is a good time to speed the process and maybe to accept less than you hoped for.

5. If you are renting properties, be prepared for renters to leave or to be unable to meet their payments. Maybe this is a good time to sell, if you can find buyers.

And for those contemplating a move to Costa Rica –

1. Consider waiting till recession strikes and things settle down. Only gamblers take risks at such times.

2. Do not bring your life savings to Costa Rica.

3. Rent rather than buy, at least for now.

4. If you are seeking to establish a business, the locals always have an advantage because they know how to play a sometimes corrupt system. In recessions, competition becomes desperate. Re-evaluate your projected risks and returns, with these things in mind. If your business requires fixed assets, consider waiting for asset prices to collapse.

Timing. This is the big problem. “No one can predict whether the current up cycle will continue for a couple of years more. Getting out of investments at peak is desirable, but has more to do with luck than good judgement.” This is a time to be cautious and to make prudent preparations for hard times.

Watch out for what others are saying in the media, both here and internationally. What are friends thinking? There is a tremendous herd instinct in economic cycles. Once the doomsters start moving, the rest panic.

Governments make calming statements, but when the time comes no one can hold back an avalanche. Now is the time to get out of its path or be prepared to ride it out.

Chris Clarke has retired to Costa Rica from New York. His career included international banking. He has degrees in economics and management.