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ANDEAN ECONOMIES: SAILING THROUGH A BETTER EXTERNAL AND LOCAL BACKDROP

Daniel Velandia, Chief Economist, Credicorp Capital

Conditions for higher economic growth in Andean countries seem to be set amid an improving external and local scenario. Specifically, Chile, Colombia and Peru should benefit from both higher commodity prices and the recovery of main trading partners. In fact, it is worth to mention that 2017 and 2018 growth projections for China, Europe and the US were recently increased by the IMF while Latin America continues to leave behind the period of very weak dynamism amid the gradual recovery of countries such as Argentina and Brazil, which is especially important for the manufacturing sector of the Andean economies. Likewise, the recent rally in copper prices poses upside risks to mining activity and private investment in Chile and Peru, with the former country also being favored by relatively stable oil prices as a net crude importer. This external backdrop, together with early signs of stronger activity as showed by several leading indicators in the three countries and more importantly, the improvement in confidence domestically, suggests that the bottom of the economic cycle is finally behind.

In Chile, we expect green shoots to flourish this time once, contrary to previous years, the stronger figures posted by many leading indicators recently are being accompanied by a faster-than-previously-projected increase in sentiment. Thus, the combination of these factors leads us to believe that the Chilean economy will finally post a relevant acceleration ahead after four years of very sluggish growth. Particularly, investment is likely to speed up in the upcoming quarters as signaled by the strong performance of capital goods imports in the last months and a wider pipeline of projects ready to be executed by firms as informed in the latest Central Bank’s Business Perception Report. For its part, consumer confidence reached in Sep-17 its highest level in more than three years amid better expectations on the economy during the next year. In addition, current copper price levels pose upside risks. Thus, Chile is set to post in 2018 the sharpest re-acceleration among Andean economies according to our estimates, going from roughly 1.5% growth this year to 2.8% in 2018. Having said that, the materialization of this good scenario for the Chilean economy strongly depends on the outcome of the presidential election to be held on 19-Nov-17. Our base case assumes that Sebastian Piñera will be elected president in a runoff, a scenario largely priced in the capital markets.

In Colombia, the adjustment of the economy remains remarkable as the strong imbalances created following the sharp drop in oil prices since 2014 have significantly corrected, including a reduction of both inflation and the current account deficit from very high and unsustainable levels in past years to more normal ones currently. This, jointly with the approval of a tax reform in Dec-16 aimed to recover some of the oil-related fiscal revenues lost in previous years (which avoided a downgrade in the sovereign rating), lower interest rates, cuts in corporate taxes next year as established in the tax reform (the income tax for corporates will be cut from 40% to 37% while the wealth tax for firms was removed), and the recovery in trading partners, set the conditions for higher economic growth. That said, corruption allegations have delayed the execution of the 4G road concession program -which is expected to be an engine for the economy in the upcoming years- as banks have become more stringent. Likewise, political polarization in the country is currently high following the signing of the peace deal with the FARC, entailing some noise ahead the presidential elections to be held on 27-May-18. Thus, while we think that the economic model is not under threat in the electoral race, some firms may prefer to delay some investment decisions, creating some downside risks to activity. All-in, although we project an effective recovery of the economy in the upcoming quarters, some challenges remain and so, it is expected to be more gradual compared to the other Andean countries with GDP growth lying at 2.5% in 2018 against 1.9% this year.

Finally, in Peru we expect that spending in reconstruction after El Niño phenomenon and in the required works for the Panamerican Games 2019 will allow domestic demand to post a V-shaped recovery ahead after the strong negative impact from both the climatic event and the corruption allegations in the infrastructure sector during the first half of the year. Likewise, current metal prices (e.g. copper and zinc) and the recent measures made by the government to unlock large-scale infrastructure projects, entail upside risks to activity. Accordingly, we forecast a sharp increase in public investment in the short term, although the recovery in private spending would be slower. Political gridlock and the ‘old problems’ (e.g. land expropriation, social unrest, environmental issues, and inefficiencies at the regional governments level) remain a challenge. As a result, we think that to move from words to deeds is the key factor in Peru as projects are identified, resources are available, and the PPK’s government has taken proper measures to foster investment, but the effective and swift execution of projects is yet to be seen. Thus, we prefer to be more conservative than market consensus regarding the expected acceleration of economic activity, currently estimating a GDP expansion of 2.3% in 2017 and 3.3% in 2018, with the risks balance tilted to the upside, though. In any case, Peru will remain as the fastest-growing economy among Andean countries next year.