Chile has long been perceived as one of Latin America’s most reliable economic out-performers, but on July 7, the government announced a downward revision of growth forecasts for 2015, a development which changed many observers’ perceptions of Chile’s economic health. According to official figures, Chile’s economy is now expected to grow by 2.5 percent, compared to the 3.6 percent forecasted by the government at the beginning of the year (FSG had forecasted 2.9 percent.)
While the magnitude of the reduction in growth expectations caught many by surprise, we believe that Chile is far from becoming a regional under-performer, in large part because Latin America’s broader economy is slowing, leading to downward revisions of forecasts across other regional markets.
That said, the forecast revisions for Chile were significant, and it is important to understand the reasons behind the dramatic change in the country’s growth expectations. In FSG’s view, a deeper understanding may be gained by analyzing the four main drivers of GDP growth:
1. Consumer spending
Consumption was expected to be one of the main contributors to GDP growth in 2015. The government’s effective inflation-targeting measures and the positive pass-through effect of low energy prices in the first quarter of the year suggested a positive effect on households’ disposable income and consumer spending.
However, the increasing number of corruption allegations and political scandals associated with President Bachelet and other members of her party had a negative effect on consumers’ perceptions of Chile’s political and economic stability. As a result, consumer spending and retail sales in Chile have fallen dramatically during the last three months.
Consumption is now expected to grow by 2.1 percent (The government’s previous estimate was 3.9 percent; FSG’s estimate was 2.9 percent.)
A note on currency depreciation to inflation: Despite anemic economic growth in Q2, accelerated currency depreciation in the last two months (FX: 595.7 on May 14; 651.2 on June 21) caused inflation in Chile to outpace expectations. Most recently, the consumer price index rose 0.5 percent in June, as prices for transportation, housing, and basic services increased. Accordingly, accumulated inflation for the last 12 months reached 4.5 percent, far above the central bank’s 2 percent to 4 percent target range. Inflation is now expected to average 4.1 percent this year. (The government’s previous estimate was 3.1 percent; FSG’s estimate was 4.3 percent.)
2. Government spending
A massive fiscal stimulus package that aimed to improve both consumer and business confidence was expected to be part of a historic 9.8 percent increase in government spending. However, anemic exports and investment throughout the first half of 2015 have forced the government to cut its original expectations for fiscal revenue growth by half (from 5 percent to 2.4 percent). This limited the government’s ability to implement its original fiscal stimulus plan.
Public spending is now expected to increase by 8.8 percent. (The government’s previous estimate was 9.8 percent; FSG’s estimate was 7.7 percent.)
Investment was expected to recover throughout 2015. However, stubbornly low commodity prices, particularly for copper, have dampened investor interest in the mining sector. Sluggish investment combined with increasing currency volatility, associated with expectations for a potential hike in US interest rates in the last quarter of 2015, has created a risky operating environment in which multinationals are hesitant to make large investments.
Investment is now set to grow by 2.3 percent. (The government’s previous estimate was 3.9 percent; FSG’s estimate was 2.5 percent.)
Although low copper prices have impacted Chile’s overall export performance throughout the last 12 months, low oil prices have contributed to a faster reduction of Chile’s import bill, causing an overall positive net effect in the country’s trade balance. For the last 15 months, Chile has maintained a healthy trade surplus, which, together with public spending, has been one of the main pillars of GDP growth in 2015.
It is now clear that the dramatic reduction in growth expectations for Chile was caused mainly by external factors that will also affect the region as a whole: currency volatility, US interest rate hikes, low commodity prices and low investment levels. FSG will continue to monitor the effects of these external factors on individual countries and regional economies and on the operating environment for multinationals.