Competitiveness: the gap to be reduced.

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As Latin America struggles to become more competitive, the tiny isthmus of Panama stands out for its great ambitions but also for its epic backwardness. Panama is spending billions to widen the Panama Canal to accommodate larger ships and double the waterway's cargo capacity. Yet even as this titanic project moves forward, Panama has yet to build a highway across the impoverished, isolated Darien Jungle to allow for overland trade with neighboring Colombia.

In some ways, the so-called "Darien Gap" symbolizes the uneven pace of development throughout Latin America.

True, the region has made much progress in forging macroeconomic stability and liberalizing trade and investment laws. But many analysts say problems such as run-down roads and ports, rising crime, low-quality education and the massive divide between rich and poor prevent the region from catching up to more dynamic parts of the world, such as Asia.

"Latin America has improved a lot over the past two decades, but it is still a very mixed picture," said Mauricio Moreira, an economist at the Inter-American Development Bank.

The World Economic Forum defines competitiveness as the set of institutions, policies and factors that determine a country's level of productivity. And in its 2011-12 Global Competitiveness Report, the WEF noted Latin America's progress.

GDP is projected to grow by 4.25 percent this year, and the region largely avoided fallout from the economic uncertainties in Europe and the United States. Mexico, Bolivia, Peru and Brazil showed the greatest progress in terms of competitiveness because of strong demand for commodities from China, buoyant internal demand and sound fiscal policies, the WEF report said.

But the report also warned that "in order to keep the positive momentum going, Latin America and the Caribbean will need to address some of the persistent challenges that constrain its competitiveness."

One of those problems is the vast disparity in trade policy.

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Instead of a single free-trade area stretching from Tijuana to Tierra del Fuego, separate agreements with the United States have been signed by Mexico, Central America and the Dominican Republic, Panama, Colombia, Peru and Chile. Meanwhile, Southern Cone nations trade under Mercosur, and the region's leftist governments--such as Bolivia, Cuba, Ecuador, Nicaragua and Venezuela --have set up an alternative commercial bloc called ALBA.

"There is no strategic thinking on trade," said Johanna Mendelson Forman, a Latin America analyst at the Center for International and Strategic Studies in Washington, D.C. "If you had a regional consensus, you could lower costs."

Even seemingly innocuous details, such as operating hours for customs officials at border posts, can cause roadblocks. Most Central American exports, for example, are transported by truck. Yet, on Sundays, the region's border posts often function only part-time.

"Sometimes the border guards are off duty. The trucks just sit there in a big line, and goods spoil," Mendelson Forman said. Another drag on productivity is poor infrastructure, and that drives up costs, according to Peter Hakim, president emeritus of the Inter-American Dialogue in Washington. While Latin America was getting its fiscal house in order over the past two decades, Hakim said, budgets were balanced, in part, by reducing spending on highways, bridges, ports and railroads.

Hakim acknowledges that Latin America has made great strides in reducing poverty. But he points out that the region remains the most unequal in the world as measured by the so-called Gini coefficient.

"That means whole groups of people are not getting educated and not participating in the formal economy," Hakim said. "That means a whole lot of things are going wrong with the economies and that countries are not taking advantage of human resources in an efficient way."

Education can help close this gap. However, Claudio Loser, a former IMF economist from Argentina, says that in proportion to GDP, Latin America spends only about half as much as many Asian countries spend on education. Even at that, the results have been mediocre: International surveys regularly list only two or three Latin American universities among the world's top 200.

Greater investment in education, research and development, and social safety nets should be possible because of the windfall from sales of oil, coal, copper, soybeans and other commodities to Asia. But as Latin America racks up profits for its natural resources, it continues to fall behind Asian manufacturers.

Chinas share of manufactured goods exports to the United States has jumped from 7 percent to 25 percent since the mid-1990s, according to the IDB. By contrast, Mexico's share peaked at 13 percent a decade ago but has since fallen to 10 percent, and Brazil's share has dropped from 1.4 percent to 0.8 percent.

Some experts say Latin America will never catch up with Asian factory productivity--and perhaps shouldn't even try--because of the disparity in wages and working conditions.

"Latin America is never going to compete with China or other Asian countries in any industry that requires low wages because the people won't stand for it," said MarkWeisbrot, co-director of the Center of Economic and Policy Research in Washington. He described the sweatshop conditions in some parts of Asia as "like something out of a Charles Dickens novel."

That doesn't mean industrial output will disappear in Latin America, especially considering local advantages such as Mexico's location on the U.S. border and Brazil's massive domestic market, which buys up most of that country's factory goods. But Moreira, the IDB economist, said profit margins are thin because of relatively high wages and the fact that the commodities boom has pushed up the value of local currencies.

Weisbrot said one way out is for Latin American nations to develop industrial policies similar to the way Asian governments have protected and promoted strategic industries, some of which are dominated by the state.

Chinas state-run companies can invest in high-risk countries and ventures without having to answer to private shareholders. They also can afford to be patient. For example, China's Chery automobile company recently opened a $400 million factory near Sao Paulo. With state backing, Chery can take its time in gaining a foothold in Brazil, and it does not expect to make profits for the next decade.

But Moreira said no amount of subsidies will level the playing field for manufactured goods because wages in Asia often are one-fifth of the wages paid in Latin America. He said Latin America should focus instead on what it does best--exporting commodities--and branch out into complementary businesses. For instance, booming grain exports should free up money to establish agriculture biotechnology companies along the lines of the U.S. giant Monsanto.

"You can't fight against big world trends," Moreira said. "The answer is to better invest your profits and to diversify."

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LATIN AMERICA WILL HAVE TO COMPETE THROUGH INNOVATION

LATIN TRADE: How will Latin America be affected by the economic turmoil in Europe and the continued slowdown in the United States?

BILBAO: Latin America proved to be quite resilient during the 2008 crisis. But the deceleration of the global economy wirt probably affect Latin America's economic growth because there will be less demand for its products and raw materials.

LT: What is Latin America's role in rebalancing and deleveraging the global economy?

BILBAO: The developed countries have to reduce their debt levels. But the emerging economies can also play a role to improve equilibrium. If Latin American countries manage to keep inflation under control they can start to loosen monetary policies and invest more in social spending. This will help boost confidence worldwide.

LT: How can Latin America contribute to global economic recovery and simultaneously improve its resilience to growth deceleration?

BILBAO: In the face of economic uncertainty, developing domestic markets and increasing productivity will be crucial to boosting resilience. There is some progress on the fundamentals, especially in Brazil., Chile, Peru and Colombia. But Latin America will have to improve in four key areas: insecurity, poor infrastructure, education and innovation.

LT: How can ties between Latin America and China go beyond the traditional relationship based on commodity exports from one side and manufactured exports from the other?

BILBAO: China has incredible economies of scale that allow the country to produce at low cost. It will be difficult to compete with these low costs, so Latin America will have to start competing through innovation. And this will require more investment in education, research and development.

LT: How can Latin American nations eradicate poverty?

BILBAO: The recent economic development means the region has an unparalleled opportunity to lead a large part of the population out of poverty. But countries must invest more in health and education to create a larger middle class. And this larger middle class will help bridge the gap between rich and poor.

LT: How can governments, business and civil society strengthen entrepreneurship capabilities?

BILBAO: The entrepreneurial spirit exists in Latin America but has been restricted to certain layers of society and has not been trickling down. When people are better educated, there will be more opportunities, and this spirit wirt increase. Market conditions can also allow entrepreneurs to flourish. For example, you need Labor flexibility so companies don't fear going bankrupt if they can't adapt staff levels to the business cycle. Some large economies that still have quasi-monopolies, and this hinders entrepreneurs from coming into the market.

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BENAT BILBAO, Associate Director for the Center for Global Competitiveness and Performance at the World Economic Forum.