Markets alert to political risk in the economies of Chile, Colombia, and Peru

RIO DE JANEIRO, BRAZIL – The economies of Chile, Colombia, and Peru are showing resilience even as the Covid-19 pandemic continues, but their political environments are contributing to market volatility, according to different investment banks and Fitch Ratings.

In reports published this week, analysts expressed concern over populist policies, pressures on public finances and social unrest.

“The Andean region’s intense electoral cycle adds to fiscal uncertainty amid growing social spending pressures,” Fitch Ratings analysts wrote in a report published Thursday. Chile will elect a new president later this year, Colombia will have elections in early 2022, and a new government was recently sworn in in Peru.

“Political tension and social discontent, which may obstruct growth or fiscal consolidation, were building up before the pandemic exposed the weakness of health systems and social safety nets, as well as income inequality,” the analysts’ report points out.

Chile

According to official data published on Wednesday, the Chilean economy grew by 1% in the second quarter of this year compared to the previous quarter. This slight deceleration from the 3.4% growth in the first quarter is due to the increase in infections recorded in March, which forced the authorities to re-impose confinement measures.

But economic drivers such as private consumption, public spending and investment continued to advance.

“Looking ahead, another round of pension fund withdrawals, still low interest rates, strong global demand for copper and a notable vaccination campaign should help the economy gain momentum in the coming quarters, meaning Chile is in a good position to lead the region’s economic recovery this year,” said Luciano Rostagno, market strategist at investment bank Mizuho, in a note to clients. “We project that gross domestic product will grow by 10% this year, up from 9.0% last year.”

For its part, in its report Fitch highlighted the public policies promoted by Congress: “Chile’s most clearly defined constitutional reform process provided popular frustration with an institutional way out, but Congress has initiated populist measures, such as pension fund withdrawals, and the presidential race remains open.” Fitch downgraded Chile’s sovereign debt rating during the pandemic, but it maintains investment grade.

Colombia

Colombia’s GDP grew 17.6% in the second quarter over the same period last year, but in the quarter-on-quarter comparison it fell 2.4% -a larger contraction than analysts predicted. “The manufacturing sector, construction, and wholesale and retail trade posted sharp declines in output in the second quarter, amid a rise in coronavirus infections and disruptions caused by violent protests,” Rostagno pointed out.

“We expect the Colombian economy to gain momentum in the coming quarters, as a notable drop in coronavirus cases allows the economy to reopen and service activity to recover, and favorable terms of trade help boost the industrial sector,” the markets expert said. “However, we must bear in mind that political uncertainty is still a major obstacle and could curb investments.”

Polls show that leftist candidate Gustavo Petro would make it to the second round of Colombia’s presidential election in June, Fitch pointed out in its report. “Petro does not advocate constitutional changes, and checks and balances would prevent drastic policy changes. Tax reform proposals were revised after a popular reaction,” the agency added. Fitch downgraded Colombia’s rating this year, causing it to lose its investment grade debt.

Peru

Peru’s economy was also affected by mobility restrictions at the start of the second quarter, so analysts expect quarterly GDP, to be released on Monday, to be close to the previous quarter’s level.

“Activity continued to show a high interannual growth rate in June, even higher than the level it reached in June 2019 (before the health crisis),” analysts at investment bank BBVA pointed out in a report published this week. “And employment is also following a normalization path, but weak confidence among private sector agents is likely to affect their future spending, moderating both activity and employment recovery.”

Weak confidence refers to the uncertainty that investors have expressed regarding Peru with the coming to power of President Pedro Castillo, whose government has experienced its first resignation and has been criticized for mistakes and lack of clarity. “Political uncertainty remains high in Peru after the election of Pedro Castillo with a left-wing populist platform,” Fitch analysts said.

“Castillo has moderated some campaign proposals, and radical changes to the free-market economic model would face opposition.” “But his plans for a Constituent Assembly could impact investment and growth prospects,” the agency added. “Governance challenges overshadow prospects for reforms to reduce informality in the labor market.”